Appraisal of the Contribution, Macroeconomic Determinants and Revenue Implications of the Informal Sector in Nigeria, 1970 - 2010

Abstract This work was motivated mainly by the need to support development policymaking and economic management in Nigeria with credible statistics and systematic evidence on the informal sector. This is because despite the wide range of informal sector economic processes and activities in Nigeria, current knowledge of the size, macroeconomic determinants, and revenue implications of the informal sector in Nigeria remain very scanty and inadequate. Hence, this research work was embarked upon to answer the following questions: What is the size of the informal sector in Nigeria as percentage of GDP in the period 1970 to 2010? What are the macroeconomic variables causing the existence and growth of the informal sector in Nigeria? What is the nature of the relationship between the formal and informal sectors in Nigeria? What are the revenue implications of the informal sector in terms of tax revenue and total federally collected revenue lost annually to informal sector activities in Nigeria? To answer these questions, the study applied the error correction multiple indicators multiple causes (EMIMIC) modeling methodology, which is consistent with time-series econometrics and better quantifies the size of the informal sector by considering both the long run equilibrium relationships and the short run dynamic error corrections at the same time. The study also used secondary data covering a period of 41 years stretching from 1970 – 2010. The results show that from 1970 to 2010, the size of the informal sector in Nigeria has ranged between 53.6 – 77.2% of GDP, while the average size of the informal sector was 64.6% of GDP. The informal sector was three-quarters of GDP in 2010. The results further show that the macroeconomic variables causing the existence and growth of the informal sector in Nigeria are increased unemployment rate, increased burden of taxation, increased government regulations and inflation. The parameter estimates showed a positive relationship between the formal and informal sectors of the Nigerian economy, which means that the two sectors are complements rather than substitutes. The informal sector has important revenue implications in Nigeria as the country was estimated to have lost N2.01 trillion tax revenue and N5.20 trillion in the rest of the federally collected revenue to informal sector economic processes in 2010.