Amid COVID-19, a solution that cares for people and benefits the economy

 Socio-economic impact assessment remains one of the three key priorities COVID-19: UNDP´s Integrated Response and is crucial for the containment of  COVID-19 crisis and protection of the most vulnerable.
For the past few months, Czech-UNDP Partnership has been successfully collaborating on the transfer of the Czech expertise in this area through a prominent Czech economist Lukáš Kovanda, who has been providing UNDP with his valuable knowledge in socio-economic impact analysis of COVID-19 in Europe and Central Asia. You can now read his initial analysis and reflections below.

From an economic perspective, different countries have been hit by Covid-19 in different ways.

Though many countries in Europe and Central Asia region have their differences, one thing they share is a large informal work sector. According to an OECD report, the IMF estimates the size of the informal economies in the Eastern Partner region to range from around 30 percent of GDP in Belarus to 50 percent of GDP in Georgia.  In the Western Balkans, the Albanian informal sector is the largest in Europe, accounting for around 36 percent of the country’s GDP.

Why is this significant? Because large amounts of informal economic activity might worsen the socio-economic impact of the COVID-19 crisis and complicate efforts to mitigate it.

But what if we could come up with a measure that can tackle two problems at once –contain the economic or social impact of the pandemic and, at the same time, nudge people to change their behavior in a macroeconomically desired direction?

 My initial inspiration here comes from discussions at the National Economic Council of the Czech Government, of which I am member. This body of experts was established during a critical phase of the COVID-19 crisis to help the government find a way out of the economic mess the pandemic has caused.

In one discussion, we proposed delivering vouchers to pensioners – people aged 65 and up, to stimulate the domestic tourism sector. However, in order to get assistance, a pensioner would have to set up a Citizen Digital Account; otherwise they would not be eligible.

In normal times it might be much more difficult to incentivize people to “go digital”. However, during a crisis, people are more likely to be more cooperative and open to get out of their comfort zone. We can apply this thinking to the Covid-19 crisis as well.

Many informal workers in the countries where UNDP works – often young people, women or minorities – are facing significant socio-economic distress because of Covid-19. We have a responsibility to help those in need. At same time, the crisis may be seen as an opportunity to provide their businesses with incentives to move from the informal sector to the formal one. The assistance we deliver to support people in need could be such an incentive.

An informal business that is currently feeling economic pressure due to the pandemic may be more willing than in “normal” times to formally register as a business entity, because in doing so they can receive assistance which would enable them to survive the crisis. If given the choice, many businesses will prefer to go formal and start to pay taxes in full, even if it means having a lower profit, if the alternative is to stay informal and go bankrupt. A properly designed scheme would help vulnerable groups and, at the same time, encourage their businesses to formalize, tackling two problems at once.

Recent economic research offers some hints as how to help governments do this.

Photo: Milos Ivanovic / UNDP Montenegro

I received inspiration from a Sri Lankan field experiment, the first of its kind to test the following approach. Informal businesses received stipends as an incentive to become formal. These payments were equivalent to one-half to one month of the median profits of the business and led to the registration of around one-fifth of businesses.

Authors of the experiment conclude that “the results do suggest that modest increases in the perceived benefits of being formal could be expected to dramatically increase the demand to formalize among firms currently operating informally.”  A World Bank policy research paper, published in 2016, agrees, highlighting relatively acceptable cost effectiveness of such a solution compared to some other interventions to tackle informality.

Needless to say, an economic crisis opens a window of opportunity because distressed informal businesses may be more willing to get out of their comfort zone and accept government assistance (to survive) in exchange for becoming formal.

Therefore, at UNDP, I am proposing that governments come up with an assistance scheme that formal businesses would be fully eligible for, and informal ones would only be eligible if they register to become formal. In line with the conclusion of the Sri Lankan experiment, the COVID-19 assistance provided by a particular government here would represent an additional, or increased, benefit of being formal. Therefore, it could be expected that the demand to formalize would increase considerably among businesses currently operating informally.

The government may also introduce an additional and relatively easy-to-implement measures to support the formal sector. For example, it could introduce subsidized service vouchers, tackling one more problem. Providing these during the COVID-19 crisis, as a means of payment to be used by households, would provide the economy with much needed additional liquidity and stimulate local demand for goods and services. It would also encourage households to purchase services like cleaning, repairing or babysitting on a declared rather than undeclared, or informal, basis. Governments would only subsidize those vouchers used for formal services, providing those households operating in the formal economy with an advantage in a difficult time.

As we all know, the COVID-19 pandemic is having a profound impact all over the world. It does not have to be only a negative impact, though. I am grateful to have an opportunity to be a part of the effort to combine economics and its recipes from field experiments with a crucially challenging socio-economic reality of the COVID era in such a diverse set of countries. I trust such a combination, and resulting policy options, do represent one of the ways how we can make the current crisis to have a profoundly positive impact as well.

The article was originally published on UNDP Euroasia website and written by Lukáš Kovanda, a Senior Socio-Economic Analyst for UNDP contracted via Czech-UNDP Partnership for SDGs´ Expertise on Demand component.