Discussion Paper No. 222 of 2019 on Determinants of Informality in the Informal Sector in Kenya

Abstract

The informal sector in Kenya has been persistent, and is critical to employment creation, accounting for 83.4 per cent of new jobs created in 2017. Government policies have failed to address the challenges faced by the sector, which include low productivity, lack of social protection and labour contracts, tax evasion, lack of compliance with government regulations, low income, and poor working conditions. The objective of this study is to review the current policy environment, identify and analyze the determinants of the informal sector, and comparatively review and draw lessons from other countries’ informal sector environment to inform policy that will address the deficiencies in the sector in Kenya. In achieving its purpose, the study employed probit regression model to analyze the determinants of the level of informality. The study establishes that there is no clear policy framework for the informal sector in Kenya. Secondly, the entrepreneur and establishment characteristics are key in determining individuals’ operations in high levels of informality. Thirdly, easing registration costs has little to no impact in transitioning enterprises to formality. Rather, tax incentives and other incentives to formalization were impactful to entry and sustaining enterprises in formality. The study recommends development of an informal sector policy to bring attention and advocacy to the sector, among increasing incentives to formalization and reducing constraints such as high taxation.