Suppose a firm thinks it is not worthwhile to register formally. But this firm would register if the registration costs were a bit lower. Let’s call this firm a "marginal firm."
What would this firm look like? I don’t know that there is any empirical evidence, but two people who commented on this post share my intuition that a marginal firm is less productive than the typical formal-sector firm. This theoretical paper (ungated version here) by Pedro Amaral and Erwan Quintin says the same thing.
What will the long-term impact be of lowering registration costs? The obvious effect is that marginal firms will now be induced to formalize. But will this effect be important for aggregate productivity or employment?
Maybe these marginal firms will operate at low productivity for a year or two, and then leave the market. Or maybe enough of these marginal firms will “find themselves” given the new opportunities that go along with formalization and have important aggregate effects. I don’t think anyone really knows.
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