What India’s informal sector needs right now?

Source: Indian Express

Relevance:  Formalization of work force, problems faced by informal sector workers

Synopsis: Ignoring problems in the informal sector can be costly as it can lead to job and wage losses, higher inflation and even risk the livelihood of migrant workers.


Informal sector workers suffered far more from the national lockdown in 2020 than their formal sector counterparts, due to the inadequate safety net.

Informal sector scenario in India
  • India’s large informal sector, employs around 80% of the labour force and produces about 50% of GDP.
  • Of the 384 million employed in the informal sector, half work in agriculture, living mostly in rural India, and the other half are in non-agricultural sectors. Of those, about half live in rural India and the remaining in urban areas.
Impact of COVID
  • Formal sector: They make up 20% of the workforce. The salaries of individuals working at large listed firms in the formal sector have held up relatively better, though they are lower than the pre-pandemic trend. Over the longer term, the prospects for this group will depend on the progress of policy reforms and economic growth, which are the leading drivers of real wages.
  • Informal agricultural sector: This sector employs 40% of the workforce. Rural wages have held up well over the pandemic, led by good monsoons, an exemption to the food trade from the various lockdowns, and more recently, higher agricultural exports. Higher government spending in various social welfare schemes has also helped. As this group emerges from the second Covid-19 wave, they may want to consume goods that make them feel more secure, such as two-wheelers and home repair services. Longer-term consumption will depend on agricultural reforms.
  • Informal non-agricultural sector: The prospects for the 40% in the informal non-agricultural sector is the most worrying. These workers are most vulnerable, as they have suffered the maximum impact of the economic disruption that the pandemic has unleashed.
    • One half of this group lives in rural India. They have not done as well as their farming counterparts. Most of them involved in construction, trade and manufacturing have seen wage growth fall. The sharp rise in demand for rural unemployment benefits is an indicator of the disruption faced.
    • The other half lives in urban India and is employed across the trade, hotels, transport, manufacturing and construction sectors. This group has been at the receiving end of formalization. Several surveys over this time also show a rise in urban unemployment and self-employment, with this category seeing the highest earnings loss.
What does this mean for economic growth?

Formalization can be a double-edged sword. While traditionally associated with efficiency gains, it also comes at the cost of putting small informal firms out of business, and the disruption in the informal sector. Hence, the formalization that leads to deep distress in the informal sector, may not be sustainable.

By contrast, formalization that happens on the back of policy changes that help small and informal firms grow over time into medium or larger formal sector firms is more sustainable.

  1. What is, needed now is protection for informal sector workers via social welfare schemes, such as rural MGNREGA scheme. This will ensure that the disruption they are facing doesn’t lead to a permanent fall in demand.
  2. India doesn’t have an equivalent urban social welfare scheme. Hence, there is a need for setting up a more permanent direct urban social welfare structure.
  3. In the meantime, steps to promote reforms that are needed to help small businesses grow are critical. For example, lowering the regulatory burden associated with growing firms.
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