Transitioning Informal Sector to formal can Transform Economy Silver Bullet Solution for Quick Youth Job Creation

By Mwansa Chalwe Snr
Zambia, like many Sub-Saharan countries, has yet to recognize that its economic structure,characterized by an overwhelmingly large informal sector that eclipses the formal sector, is the primary obstacle to its development. This oversight persists despite overwhelming empirical evidence from renowned international organizations such as the International Labour Organisation(ILO), Organisation of Economic Cooperation and Development(OECD), African Development Bank(AfDB), the World Bank, the United Nations( UN) and International Monetary Fund ( IMF), which unequivocally shows that no country can achieve sustainable development with an economy dominated by the informal sector.

“Economic growth in regions or countries with large informal sectors remains below potential. Addressing informality is thus essential and urgent to support inclusive economic development and reduce poverty worldwide,” The IMF’s Finance and Development Magazine, December,2020 stated.

The International Monetary Fund’s view on the importance of nations, especially Sub Sahara Africa, to prioritise formalization is supported by the International Labour Organisation (ILO).

“ In Sub -Saharan Africa, typically, the formal segment of the economy does not employ more than 10 per cent of the labour force. There is an urgent necessity of implementing a range of integrated and coherent policies aimed at moving economic units into the mainstream economy,” ILO said in one of its publications.

There is overwhelming evidence that shows that there is a correlation between the size of the informal economy and the level of a country’s development. Developed countries have smaller informal sectors than developing countries. Countries with the highest per capita income have smaller informal sectors, while poorer countries have higher informal economy shares of their total output

For years, this writer and entrepreneur, has been sounding the alarm on the archaic structure of the Zambian economy and the detrimental effects of Zambia’s sprawling informal economy, which accounts for an estimated staggering over 90% of the country’s economic activity. This overwhelming dominance not only hinders monetary policy, but also overcrowds the formal economy, stifling its growth and potential. As a result, millions of Youth jobs remain elusive.

It’s heartening to see that the Bank of Zambia’s governor, Dr. Denny Kalyalya, has finally acknowledged the negative impact of the informal sector in his recent remarks during the launch of the Bank’s Strategic Plan as well during the recent Monetary Policy statement meeting.

“When money is under the pillow, it doesn’t come back into the banking system [and] monetary policy has no effect on that. This informal sector that we have. So, this is what we want to address,” The Governor said during the launch of the Bank’s Strategic Plan 2024- 2027, bemoaning the negative impact that Zambia’s informal sector was having on the effectiveness of the monetary policy.

As an advocate of Youth employment creation through formalization, I’ve extensively researched and presented benchmarked, practical and tailor made solutions based on mobile phone technology and AI to relevant Zambian authorities, offering concrete solutions to address this pressing issue. Regrettably, these proposals have been met with indifference, left
to gather dust on the shelves of government ministries and agencies.

Now, with the governor’s validation, it’s time to revisit and implement these solutions to tackle the informal economy’s stranglehold on Zambia’s development and unlock the country’s full economic potential thereby create the millions of formal jobs for the youth within a short space of time which are currently latent in the informal economy.

Size of Zambia’s informal Sector

In February,2024,The Bank of Zambia launched the 2022 Micro Small and Medium Enterprise (MSME) Finance survey report. Among the key findings were that there are about 1,553,892 MSMEs and 95.6% were in the informal sector, employing 1.9million people. The Bank of Zambia Governor has been of the view that it was important that some of these businesses needed to be formalized so that they can have access to capital in order to invest, expand and create jobs for the economy as well as facilitate the Central Bank Monetary policy.

During the launch, the Ministry of Small and Medium enterprises Development Permanent Secretary Subeta Mutelo appealed to MSMEs to formalize their businesses. “As the Ministry, we have taken note of this challenge and have intensified our efforts to raise awareness on the benefits of formalisation and incentivise MSMEs to register their businesses,” She Said. “It is our belief that by creating an enabling environment and providing the necessary support and incentives, we can encourage more MSMEs to formalise their businesses.”

On reviewing the comments from the various speakers at the launch of the report, one got the impression that the complexity of the informality phenomenon is not fully appreciated by our policy makers, and thus the lack of success of the efforts they have made so far. Passive advice to entrepreneurs to formalize has never worked anywhere in the world. Formalization does not just happen. It has to be made to happen. Formalization strategy does not only entail moving current informal sector firms to formal, but also preventing new enterprises going informal.

The benefits of formalization are overwhelming. They include the following: accelerating economic growth with increased productivity, more and better quality jobs are created, the tax base is broadened with potential for lower tax rates, reduction in the cash economy with consequential provision of more resources for intermediation by the formal financial sector and improved access to formal markets, business services and productive resources such as finance.

Proposed Approach to formalization

Formalization is a multifaceted concept which is often misunderstood by many, including government officials. It encompasses far more than mere business registration with Patents and Companies Registration Agency (PACRA). Registration is just one step and the easiest.
Effective formalization requires a comprehensive approach, involving political will, multi-stakeholder engagement, and nuanced interventions.

To design a successful formalization strategy, it entails acquisition of knowledge born out of addressing the following key questions: What are the diverse demographics within the informal sector? What drives informality? What motivates entrepreneurs to formalize? What factors contribute to successful formalization? Why have some countries failed while others
succeeded? What is Zambia’s unique formalization value chain?

In essence, the informal economy is complex and heterogenous. And formalization initiatives and interventions ought to be preceded by rigorous and sound research, including benchmarking against successful countries and regions, to inform a context-specific approach. And any intervention which is not well researched, but based on false assumptions and adopts a one-size-fits-all solution, will certainly fail, just like some past attempts in Bangladesh, Peru, Tanzania, Sri Lanka to name but a few, did.

In view of the complexity mentioned above, and according to empirical evidence, one of the prerequisite for a successful formalization program is for government to collaborate with the Private Sector entities with the necessary deep knowledge of the Micro and Small Enterprises (MSEs) ecosystem. Policy makers ought to bear in mind that the decision that informal entrepreneurs face as to whether to formalize or not is based on cost-benefit analysis.

Conclusion

On the basis of research done by reputable international organizations and Universities in Latin America and the Caribbean, Asia and a handful of African countries, there is a body of knowledge about the successes and failures of formalization attempts.

There are many countries where the formalization processes have been very successful in fostering economic growth, creating employment, reducing poverty and growing the tax base, although they are varied levels of success in the different countries, depending on a number of factors such as: policies, formalization strategies, structure of economy and political will. It follows, therefore, that there are certain common guiding principles for successful formalization designs.

In view of Bank of Zambia’s recent interest in reducing the informal sector, and being an evidence based institution, they would be the appropriate institution to spearhead the formalization initiative in Zambia. And in order to fast track the process, they do not need to reinvent the wheel, but rather collaborate with the writer to consider his shovel ready solution.
If Zambia does not take steps in reducing and preventing growth of the informal economy, and continues crafting economic strategies including Development Plans and Budgets based on the 10% the formal economy, it can as well forget about development, reducing poverty and Youth unemployment even, in 200 hundred years’ time as evidenced by Haiti.

The writer is a Chartered Accountant, Author and an independent financial analyst and Economic Commentator. He is the Founder of Prosper Knowledge Solutions Ltd, a virtual Knowledge and Strategy firm. Contact: [email protected]