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Working Papers

September 1999, No. 99-7

Informality and Rent-Seeking Bureaucracies in a Model of Long-Run Growth

Pierre-Daniel G. Sarte

This paper explores the links among growth, the informal economy, and rent-seeking bureaucracies. The presence of congestion associated with the enforcement of property right implies that informality can be useful. Whether bureaucratic rent-seeking is detrimental to growth then depends on how good a substitute informality is to production in the formal sector. In order to create profits which can be appropriated, rent-seeking bureaucrats limit entry into the formal economy. As a result, firms operate in the informal sector even when the cost of informality is high, in which case lower growth emerges. However, when the cost of informality is low, a large number of firms choose to operate informally irrespective of entry conditions. In the latter case, growth is unaffected by a rent-seeking bureaucracy as entry restrictions in the formal economy do not bind.

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