Competitive Advantages of Formality in the Informal Economy

Abstract

In developed economies like the United States, formal firms arguably have the choice as to whether or not to compete against informal firms. In emerging economies like Africa, however, formal firms are often times pushed into competition with informal firms for market share. Informality can be a difficult context for formal firms to navigate. Prior research has emphasized the role of embedded social networks and cultural customs of doing favors as some of the disadvantages of the formal mode of doing business in developing and emerging economies. To compensate, some formal firms imitate the resource orchestration of informal firms. Informality, however, also has disadvantages. Building upon resource based theory, we hypothesize that informal firms pose less of a competitive threat to the formal firms that deploy formal information resources such as websites and national quality certifications. In other words, rather than imitating the informality that is prevalent in emerging economies, formal firms can substitute informal modes of doing business with strategic assets that informal firms are constrained from orchestrating. We empirically test and found support for our hypotheses using a large sample of 7,576 formal firms doing business in 18 Sub-Saharan African countries.