Barriers to Formal Entrepreneurship in Developing Countries

This paper explores new types of barriers to entrepreneurship and thus, to formal sector growth. The authors suggest that developing countries are characterized by a dual economy where a small modern industrialized sector co-exists with a large informal sector with little capital and low marginal productivity of labor. There are two main barriers to entrepreneurship in these instances: (1) administrative; and (2) social. Analysis concludes that tax reformers could widen their area of interest beyond the standard tax parameters by reducing market entry fees, while developing countries could enlarge their formal sectors and hence the tax base. Keeping firms in the informal sector exposes them to weakened property rights and hence increased risks. Taxing some sectors and not others distorts resource allocation. Eliminating such inefficiencies could provide a significant impetus to growth, and tax collection in the medium to long term.