Supply Side Economics Drives Brazilians into Formal Sector

A big problem in emerging economies is the informal employment sector, the people camping out in the city working as peddlers and running illegal roadside stalls that don’t pay taxes. In Brazil, according to William W. Lewis in The Power of Productivity, the huge informal sector has severely damaged the economy.

To understand how bad things have been in Brazil, get this. Taxes have been so high on the formal sector that large, efficient supermarkets couldn’t compete on price with informal food vendors and corner stores.

In the 1990s formal employment actually declined by almost 15 percent.

But there is good news, according to the Wall Street Journal’s Mary Anastasia O’Grady. In recent years the Brazilian government has

significantly reduced federal payroll taxes and the overall tax burden for small and medium sized companies and simplified the tax system.

The result? Formal employment in Brazil is up 28 percent in the last seven years, and up 13 percent in the last two years alone.

This is supply-side economics at work and it is huge. It is pure economic hygiene, cleaning up the business environment and tax system so that ordinary people can come into the formal system and thrive.

The costs of doing business in the informal sector are pretty significant. You don’t have access to credit, you don’t have the protection of the legal system, and you are probably paying protection money to criminal gangs and bribes to government officials to look the other way.

So you have to screw up pretty bad to get yourself an informal sector like Brazil’s that amounts to about 50 percent of the labor force.

But when the economy is set up so that the costs of doing business in the formal sector are less than the benefits of doing so, then everyone wins.

And that is what is happening in Brazil.