January , 2019
Informal sector: the backbone of Indian economy
15:16 pm

Ellora De

The theory

One of the important classical development theories of economics is based on the Lewisian views which suggests that the traditional or the informal sector gradually reduces with the processes of industrialisation, urbanisation and modernisation. The theory states that the informal sector of the developing countries would slowly disappear with the implementation of the right policies which would create employment in the formal sector.

Definition of Informal or Unorganised Sector

In 1972, the term informal sector was first used by the International Labour Organisation (ILO) to denote a wide range of small and unregistered economic activities. The use of the term ‘organised’ and ‘unorganised’ as used in India is internationally known as ‘formal’ and ‘informal’. In the Indian context, the enterprise concept (used to define the unorganised sector) and the employment concept (used to define the unorganised sector) lack in conceptual clarity and uniformity across the sub-sectors of the economy. In India, firms that hire more than 10 workers with power and 20 workers without power need to be registered under the Factory Act of 1948 and are considered belonging to the formal sector. The remaining firms are considered to be part of the unorganised or the informal sector.

Many workers in developing countries are confined to the informal economy because of limited educational opportunities and rudimentary work skills. The International Labour Organisation has described this workforce segment as ―low skill, low productivity, low wage, and low investment.

Indian scenario

According to a report of The World Bank, Indian GDP growth is projected to be 7.35% and 7.5% respectively in 2018-19 and 2019-20. But, even as GDP growth rates have risen, the relationship between growth and employment generation has grown weaker over time. And this is because the participation of informal sector employment is much larger than the formal sector employment in the context of the Indian economy.

According to a Confederation of Indian Industries (CII) report of 2014, the unorganised or the informal sector account for more than 90% of the workforce in the country and almost 50% of the national income evolves from this sector. As per a survey carried out by the National Sample Survey Organisation (NSSO) in 2009–10, total employment in the country was of 46.5 crore, comprising of only around 2.8 crore in the organised sector.

As per 2016 data of the International Journal of Managerial Studies and Research (IJMSR), the informal sector plays a fundamental role in terms of providing employment opportunities to a large segment of the working force in the country and contributes to the National Domestic Product (NDP) significantly. The contribution of the unorganised sector to NDP has been over 60%.

According to the ILO’s India Labour Market Report 2016, “Most of the new jobs being created in the formal sector are actually informal because the workers do not have access to employment benefits or social security.” It also warned that, “Notable disparities in the labour force participation rates of men and women persist.”


The following features of the informal sector in India, as based on the reports of the National Commission for Enterprises in the Unorganised Sector (NCEUS) are worth highlighting:

i)             the informal units typically operate at low level of organisation, with little or no division between labour and capital as factors of production and on a small scale

ii)            units are largely household enterprises and labour relations, if it exists, are based mostly on casual employment, kinship or personal or social relations rather than contractual arrangements with formal guarantees

iii)           for most enterprises, no complete sets of accounts are available

iv)           owners of their production units mobilise finance for working capital needs and investment at their own risk and are personally liable, without limit, for any debts or obligations incurred in the production process

v)            expenditure for production is often indistinguishable from household expenditure

Global scenario

The IJMSR report says that the informal sector is a pervasive and persistent economic feature of most developing economies, contributing significantly to employment creation, production and income generation. Recent estimates of the size of the informal sector in developing countries in terms of its share of non-agricultural employment range roughly between one-fifth and four-fifths. In terms of its contribution to GDP, the informal sector accounts for between 25% and 40% of annual output in developing countries in Asia and Africa. In fact, the formal sector is gradually becoming more informal. This trend reflects a global erosion of labour relations. It is evident in the US and in several EU countries.

Informal employment as a per cent of total, rural and urban employment

Countries by income level*         Total      Rural      Urban

World    ..................        61           80           44

Developing         ..................        90           90           79

Emerging             ..................        67           83           51

Developed          ..................        18           22           17

*2018 World Bank definitions based on country levels of gross income per capita.

Informal employment as a per cent of total employment by region (excluding developed countries)

Sub-Saharan Africa (excluding Southern Africa)...            92

Sub-Saharan Africa as a whole   ...            89

Southern Asia    ...            88

East and South-eastern Asia (excluding China)   ...            77

Middle East and North Africa      ...            68

Latin America and the Caribbean              ...            54

Eastern Europe and Central Asia               ...            37



Development of monetary indicators

With the increase in the activities in the informal economy the requirement of additional monetary transactions increases.

Development of the labour market

Increasing participation of workers in the hidden sector results in a decrease in participation in the official economy. Similarly, increased activities in the hidden sector may be expected to be reflected in shorter working hours in the official economy.

Development of the production market

An increase in the informal economy means that inputs (especially labour) move out of the official economy (at least partly). This displacement might have a depressing effect on the official growth rate of the economy.

Need of the hour


Upgrading the skills of informal sector workers with government support through easier access of credit, technology and availability of markets.


Providing social security architecture to informal sector workers by the government.


Less of regulation and more of support is needed.


Attempting to regulate and bring the informal sector into the tax network will only add to costs without increasing productivity. The formal and informal sectors are complementary to each other in their functioning.


Taking into account the complexity and heterogeneity of production and labour relations that characterises the sector.


The opportunity provided by the informal sector essentially should strengthen economic growth.


Fine balance between over regulation and under regulation of the informal sector.


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