Informality: The $200 Billion Elephant in the Room
The development industry, for all its sprawling complexity and vast resources, has a profound and systematic blind spot. It operates almost exclusively within the formal sectors of recipient economies—the registered businesses, legal land markets, and state-defined urban spaces. Yet, an enormous proportion of economic activity and, crucially, the lives of the majority of people in the rest, takes place outside this formal realm, in what is broadly termed the informal sector. David Sims argues that this “elephant in the room” is simply ignored by the industry, despite its implications being “vast and sobering”. This post explores why the formal-sector bias exists and why it matters for understanding development’s limited reach.
The Invisible Majority: Life Outside the State’s Domain
In nearly all countries in the rest, particularly outside formal employment in governments and larger businesses, a staggering proportion of economic activity takes place beyond the reach of official registration, regulation, taxation, and legal protection.
Extralegal Housing and Urban Informality
Consider the housing sector. In many developing countries, a significant majority of the population lives in extralegal housing—dwellings built outside formal planning regulations, on land with unclear or informal tenure. A World Bank/IFC publication from 2012, cited by Sims, estimated that over 60% of current residents in developing cities reside in such informal housing. This is the result of rapid rural-to-urban migration over the past 75 years, where people seeking better opportunities settled in existing neighborhoods, or created new ones, outside the purview of state control.
This informal housing sector is often vast. Sims, drawing on his experience in Egypt, notes that informal areas in Greater Cairo house “over two thirds of the population” of 20+ million. Yet, despite its scale, the development discourse persistently uses the frame of “formal land and housing markets,” failing to engage with the reality that these massive settlements are “created largely outside their reach”.
Extralegal Economic Activity: The Missing Statistics
The issue of informality extends far beyond housing. Gross domestic product (GDP) figures in developing countries are “notoriously incomplete” because they exclude “vast swathes of uncounted economic activity”. In other words, a huge portion of the actual economy—from street vendors and informal workshops to unlicensed services and undocumented trade—simply doesn’t appear in official statistics.
This blind spot is not just academic. The economies of the rest are characterized by a prevalence of:
Unregistered small businesses and self-employment.
Informal labor arrangements without contracts or social protection.
Extralegal property rights based on social norms rather than legal title.
Markets that operate outside formal regulatory frameworks.
Why the Industry Cannot “See” Informality
So why does a $200 billion-plus annual industry largely ignore this massive economic and social reality? The answer lies in the fundamental nature of the development industry itself.
Formal-Sector Bias: Incompatibility with Processism
The development industry is designed to work with formal counterparts:
Government Agencies: Donors channel funds through government ministries and state institutions. This means the entire apparatus of project design, procurement, and reporting is structured around interacting with formal government bureaucracies.
Legal and Regulatory Frameworks: Donor operations require legal agreements, regulated procurement, and auditable financial flows. This inherent legalism is incompatible with the informal, often extralegal, nature of the informal sector.
Measurable “Outputs” and “Outcomes”: The obsession with quantifiable results (processism) favors interventions that can be easily counted and attributed—like building a specific number of formal housing units or registering a certain number of businesses. Engaging with the diffuse, complex, and often invisible informal sector is difficult to quantify.
As Sims puts it, donors “can only work with formal counterparts, i.e. government entities”. While informal settlements might be officially recognized on paper, “bureaucratically they simply don’t exist or, if they do, they are considered ’the problem’”. This means the industry’s tools are structurally designed to operate around the informal sector, not within it.
Cognitive Dissonance and the “Problem” Framing
When the informal sector is acknowledged at all, it is frequently framed as a problem to be solved—a deviation from the ideal of a well-ordered, formally regulated economy. This “problem” framing assumes that the goal is to “formalize” the informal sector, bringing it into the realm of state regulation and legal recognition.
However, the scale of informality in many countries suggests it is not merely an anomaly but a fundamental feature of their socioeconomic structure, a rational response to the failures or inadequacies of formal state systems. Attempts to simply “formalize” it without addressing the underlying reasons for its existence—such as excessive regulation, corruption, or the exclusionary nature of formal institutions—often fail.
The Implications: Aid Floating Above Reality
The implication of this blind spot is profound: a significant portion of development assistance is directed at a formal economy that represents only a fraction of actual economic activity and the lives of the majority.
Sims describes this as aid “floating above reality”. Programs designed to improve land management, urban planning, or business development often implicitly assume a formal economic context that does not exist for most citizens. This fundamental disconnect contributes to the industry’s limited impact on genuine, broad-based development.
Urban Development Programs: Many urban development programs focus on formal housing, planning regulations, and infrastructure for legally registered areas, while the majority of urban populations live in unplanned, informal settlements that are systematically excluded.
Business and Enterprise Support: Programs to support small businesses often target only those that are formally registered, leaving out the vast majority of micro-enterprises operating informally, who may face the greatest barriers to growth but lack access to formal support systems.
Employment and Social Protection: Labor market interventions tend to focus on formal employment relationships, missing the informal arrangements that characterize work for the majority.
The analogy here is of a city planner who is obsessed with detailed zoning maps and official building permits, meticulously planning parks and boulevards—all while ignoring the fact that the vast majority of the city’s residents have built their homes and businesses without permits, on land they don’t officially own, in neighborhoods that don’t appear on the official map. The planner keeps designing improvements for the small, formally recognized section of the city, while the massive, bustling, informal reality remains outside the scope of any plan, any budget, and any official attention.
This blind spot is not simply an oversight; it is structurally embedded in an industry whose operational logic, from donor mandates to recipient government bureaucracies, is fundamentally oriented towards formal, legible, and countable interactions.
The next post will confront the ultimate question: given this anatomy of dysfunction, can less be more? What would it take for foreign aid to genuinely serve development?