It is a well-documented fact that micro- and small enterprises (MSEs) account for a large share of production, income and employment in urban areas of low-income countries (LICs). Against this background the project investigates the following questions:
- Can we observe MSE growth in LICs?
- How does MSE growth contribute to economic growth and employment generation?
- Can international trade be a driver of MSE growth?
- Does the presence of foreign firms affect growth of domestic firms?
- How do credit constraints affect firm growth?
- What is the role of business risks, risk aversion and time preferences in the graduation process of firms?
Contribution to International Research
The performance of firms in countries that are integrated into the world economy suggests that globalization can be an important force to overcome growth constraints, in particular those on output and input markets. The project aims to address four major knowledge gaps regarding the performance and the graduation processes of MSEs in a globalized business environment. First, there is a lack of adequate data that represent the whole universe of firms. Especially micro-enterprises are only insufficiently covered in publicly available firm surveys. Second, little is known about the relation between firm-level and macro-level development. Third, the potential effects of globalization on MSE growth have been largely neglected. And fourth, there is only inconclusive evidence on the role of risk and time preferences for investment decisions and the graduation process of firms.
Research Design and Methods
We shall primarily apply quantitative methods that are complemented by qualitative data analyses. The quantitative analyses will be informed by four sources of data: (1) World Bank Enterprise Survey (WBES) data, which are still underexploited, especially with respect to firm graduation, (2) our own firm survey data from Sri Lanka and Uganda, (3) our own data from lab experiments on risk and time preferences, and (4) household survey data that provide some representative information on MSEs that other data sources typically do not. As a qualitative research component, we propose conducting in-depth interviews with micro- and small-firm owners.
This project builds on former research on MSEs that has resulted in the following three key findings: (1) The typical informal enterprise should not be considered a subsistence enterprise. This is evident from the very high marginal returns to capital that can be earned in these enterprises. The fact that relatively rich economies – for example, Peru – still exhibit high shares of informal employment places a big question mark behind those entrepreneurial activities that are perceived as comprising the subsistence sector. It can hardly be argued that 70 per cent of Peru’s labour force pursue subsistence activities. (2) High returns in micro-enterprises remain unexploited due to a number of economic, institutional and social constraints. While institutional and credit constraints have been stressed in the literature, risk and social constraints play an equally important role. (3) These altered perspectives on the informal sector have important policy implications. From a policy perspective, these findings may accordingly be taken as an argument for providing households with credit, savings devices, and insurance. Many households would be better off if they were able to invest in those enterprises that are credit-constrained. In other words, well-functioning capital markets would allow for a more efficient allocation of capital across households. Savings and devices and insurance would also enable households to insure themselves against business and non-business risks, thus channelling savings into productive investment instead of withholding liquidity for insurance purposes.