The high cost of India’s illusive quest for formalization

Photo: AFP
Photo: AFP


Just a rise in official worker registrations does not reflect formalization and claims of a sharp shrinkage of India’s informal sector go against what other data sets show.

Last weekend was the fifth anniversary of the infamous demonetization imposed on the country. While it is still unclear what the real objective of the exercise was, it certainly did not meet any of the goals stated by the government. Worse, the hasty roll-out of India’s goods and services tax (GST) within a year resulted in a sharp economic slowdown, with growth slowing from 8.3% in 2016-17 to less than half, or around 4%, by 2019-20. Beyond its broader effects, it was the move’s varying impact on different sectors that caused long-term damage to our economic stability and growth sustainability.

Much of the brunt of the twin shocks was felt by the informal sector, which largely dealt in cash and operated mostly outside the regulatory ambit. The net beneficiary was the protected organized sector, which not only benefited from a shift of business away from the informal sector, but also from government largesse, including a massive tax reduction announced in September 2019. The situation since has worsened, with two waves of the covid pandemic following the same pattern of causing disproportionately greater harm to the informal sector. The rising fortunes of the organized sector, driven by galloping profits at a time when casual wages in rural areas show a real decline, are a reflection of how two-sided our economy has become. As per the latest data from the labour bureau for August 2021, the real wages of non-agricultural workers have declined 1.6% per annum in the last two years. For agricultural workers, they fell 0.4% per year.

While the informal sector has suffered over the past five years, it remains relevant not just for growth but as the primary provider of jobs to an overwhelming proportion of Indian workers. Of course, while its declining fortunes may look like a sign of an economy formalizing and therefore worth celebrating, the reality is much more complex. A recently released report by the State Bank of India (SBI) research team which claimed that the informal sector’s share in the overall economy has shrunk from 52% in 2017-18 to 15- 20% now is an example. That would make it even lower than the informal sector’s share in advanced economies.

The report is not just inaccurate, but also reveals inadequate understanding of the informal economy. Increasing digitalization and registration in official records is neither a necessary nor sufficient condition for any enterprise/worker to be classified as formal. The same researchers had also claimed a rise in employment based on Employee Provident Fund Organisation data, while denigrating the results of the Periodic labour Force Survey (PLFS), but now appear to agree that what we saw was largely a mere formalization of informal jobs. However, the registration of workers on the E-Shram portal is no indicator of formalization of jobs, just as the registration of National Rural Employment Guarantee workers in official records does not make them formal workers. What should actually be of concern is that 92% of the workers registered on E-shram have monthly incomes of under 10,000, which is lower than the minimum wages of unskilled manual workers in most states.

But the authors did not have to labour hard and use convoluted assumptions to get estimates of informal workers. They are published in PLFS annual reports and can also be computed from their quarterly data. According to the PLFS reports of 2019-20, the proportion of workers in informal enterprises in the non-agricultural sector rose from 68.2% in 2017-18 to 69.5% that year. This excludes workers in agriculture, who are almost all in the informal sector, and also informal workers in the organized sector, whose numbers have risen in the last two decades. This trend is confirmed by more than the government’s own reports. The share of our informal sector in gross value added is also available in the detailed statements of national accounts, which show it was at 44% in 2019-20, marginally higher than in 2017-18. Admittedly, the estimates of national accounts are not robust, as they are arrived at by applying the formal sector’s estimated growth rate. Still, these are official estimates, readily available with their defined limitations.

The issue is not whether the share of the informal sector has gone down. It may or may not have. The real issue is whether formalization, as defined by the SBI research, is necessarily a measure of improvement in the economy, which has been in a downward spiral for five years. Or whether the material condition of workers has actually improved, as reflected in job availability or income earned. The unambiguous answer is that on both counts, the economy has performed poorly, with a worsening of India’s employment situation, decline in incomes and setbacks on human-development indicators such as nutrition. Most of these estimates are readily available in official surveys and government reports.

If the economy’s increased formalization has been at the cost of India’s overall well-being, as seen in declining national output, job and income losses and a worsening of human-development outcomes, then it is better to avoid a policy push any further. It is also important to recognize the role of the informal sector, which is clearly not limited to providing livelihoods to a significant majority of the country’s population, and create an institutional regulatory framework to improve the working conditions and well- being of those engaged in it.

Himanshu is associate professor at Jawaharlal Nehru University and visiting fellow at the Centre de Sciences Humaines, New Delhi

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