Growth success in Africa: firms become smaller

How could one characterize a developing economy with little growth? Large informal sector, small firms, lots of red tape in the formal sector. As the informal sector typically has low productivity (before red tape), a typical prescription for growth is to move its activity into the formal sector. This can be achieved, for example, by reducing regulation in the formal sector.

Justin Sandefur looks at Ghana, which has recently experienced solid growth following some deregulation, and remarks that average firm size was halved over a 17 year period, while the share of the informal sector has increased. Using a manufacturing survey covering 1987 to 2003, Sandefur finds that aggregate growth did not come from firm growth, but from firm creation. These microenterprises stay tiny until they die, while the existing big firms stay as big.

While the growth experience of Ghana seems encouraging, one needs to realize that small informal firms stay small and informal. Thus once all entry opportunities have been used, growth will petter out.