16 September 2008

The market versus the mall

Whenever I travel out of Accra towards Ghana's central or west coast, I pass through Kaneshie station - which is really a large market with a bus station attached. It looks chaotic, but is actually very well structured: if you can bear the noise and the smell, you will be on a minibus to almost anywhere within a minute or two. The market sellers are organized too: all the plastic-sandal-merchants are in one corner, all the beef-and-goat-meat-choppers in another.

A few miles away is the Accra Mall: a new, air-conditioned shopping emporium as clean and bland as any other in the world. Between the stressed-out SUV drivers and lost-looking backpackers, upper-class local kids 'hang out' in the food court, because that's what kids do in malls.

Where is the future of African retail? For now, my money is on Kaneshie market. Their local produce is cheaper and better (never mind the cold chain: it was picked this morning) and their imported Chinese crap is as cheap and as crap as anyone else's. The problem is, there are no economies of scale and virtually no product differentiation. 500 people selling the same pile of onions equals 500 tiny profit margins. Fine if you are content for people to just survive. Not fine if you want some of these businesses to grow, employ others, maybe move into a proper shop so I don't have to trip over goat heads on my way to the beach.

So far, so much anecdotal speculation. Fortunately, when I got back from the beach I found this new paper by Rafael La Porta and Andrei Shleifer. (Thank you Dani Rodrik for pointing it out). Their question is: does a large informal economy help or hinder economic development? Their answer is: neither.

According to La Porta and Shleifer, there are three ways of viewing the informal economy. The first is the 'romantic view', associated with Hernando de Soto and a thousand microfinance outfits. According to this view, the sellers at Kaneshie market are all budding entrepreneurs. Give them secure property rights and some microloans and presto, within a few years we'll have a Kaneshie Mall with a plastic sandal supermarket and value-added goat head products.

Not much evidence for that, unfortunately: it turns out that almost all small businesses stay small even when you pump them up with microloans. So how about the 'parasite view', exemplified by this article from the McKinsey Global Institute? These guys say informal firms have a cost advantage in spite of their low productivity, because they pay lower taxes and rent than the formal ones. This prevents more productive formal-sector firms from getting off the ground. The solution: cut taxes on the formal sector and enforce them in the informal one. Then watch the Accra Mall outcompete the street markets, just like Wal-Mart does in Mexico.

This is a controversial view: who likes Wal-Mart? There's not much evidence for it either. Many city governments have cracked down on street vendors and markets, only to find them creep back months or years later. Zimbabwe's Operation Murambatsvina ('Drive Out the Rubbish') in 2005 destroyed the informal economy in Harare, but did nothing to alleviate food shortages. Rather than the informal entrepreneurs rushing to register their businesses, most just stop trading and are forced to find another livelihood.

The most interesting finding of the paper is that the formal sector does not grow out the informal sector, it replaces it. Most formal firms started off that way: they registered and paid tax from the beginning, using seed capital from friends, family or foreign investment (rarely banks). That lends credence to the third view of the informal economy, the 'duality view'. This view explains the productivity differences between formal and informal firms in the skills of their owners and managers. Skilled managers (usually those with a college education) go to work in the formal sector, where their productivity is rewarded with high wages. Less educated managers stay in the informal sector, whose meagre returns are commensurate with their skills. The formal and informal sector are different people selling different things in different markets. The South African running the Nike store in the Accra Mall would no more think of competing with the Hausa shoe trader at Kaneshie than she would of buying her biltong from him.

A good friend recently came to Accra to research the same topic and he described the informal sector as facing a 'mesh ceiling': there is no insurmountable obstacle to small businesses growing large, it just almost never happens. He found that even when market-traders and shopkeepers were selling the same product, their perceptions of the challenges and opportunities of the business were completely different. In particular, the shopkeepers, who usually have some access to credit, complained bitterly about high interest rates and stingy banks; the market traders, who have none at all, didn't even mention it.

The informal economy doesn't formalize when an economy develops, therefore: it just gradually becomes less important. In the USA, 95% of food is sold in supermarkets; in Latin America it's close to 50-50 and in China their share is growing fast. Shoprite won't put my local fruit seller out of business. But her grandson might get a job there.

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