After climbing into a van and pulling out of Lima’s Jorge Chávez International Airport, we could see hordes of vans unloading occupants, leaving them to walk several hundred meters between the airport’s outer gates and the departure terminal. On the drive to the Barranco neighborhood of Lima, our driver frequently needed to apply the brakes as brightly colored buses packed with riders swerved to the curb to load even more passengers. Sitting in the van, I scrolled through the photos I had taken on the plane. I had a bird’s eye shots of the seemingly endless green expanse of the Amazon broken up only by brown smudges and murky pools of water, signs that miners had been to work, tearing up forest in search of the gold that has turned the world’s gaze towards the region since the Spanish arrived roughly 500 years ago. Days later, we would drive south from Lima into the surrounding coastal desert to meet Grammy-winning Afro-Peruvian musician Susana Baca. On the way, the rolling sandy hills brought to mind the scenes of Jaku from the latest Star Wars film, but these hills were dotted with dilapidated homes and malnourished looking livestock, the only color in the landscape coming from the bright orange “Keiko” sign scrawled across crumbling walls. Three scenes, the buses, the mining, and the shanty towns, witnessed days and miles apart from one another, all sharing one key attribute: they are all the result of informal activity.
Peru’s bustling economy generates a GNP of roughly 339 billion PPP USD (World Bank). According to Fernando Villarán, Dean of Engineering and Management at Antonio Ruiz de Montoya University and former Minister of Labor, approximately 60 percent of that GNP is generated informally. That means about 203.4 billion PPP dollars are unregistered and untaxed in Peru. In this post, I will attempt to give some background on the various informal businesses and their economic and political implications.
In the early 1980s, renowned economist Hernando de Soto returned to his home country of Peru to explore the booming informal economy that had come to prominence during the instability of the Shining Path insurgency. He authored The Other Path: The Economic Answer to Terrorism in which he explores three key informal markets: transportation, trade, and housing. These same three markets persist into the present day in much the same way they used to, operating in the public eye and providing vital services to consumers where the government falls short. While de Soto referred to the informal economy as “clandestine,” the modern terminology has evolved to distinguish between informal, meaning unregistered but otherwise legally permissible activity, and illegal, which is both informal and against the law. De Soto openly criticized the Peruvian government’s efforts, or lack thereof, to regulate the clandestine economy. De Soto principally targeted overly complicated registration procedures and overly burdensome tax structures as the cause of the informal economy rising to meet the demand for employment and housing.
Informal transportation is dominant in Peru’s largest cities, particularly Lima, where a historic dearth of government investment in public transportation has left the city drastically undersupplied. According to research sponsored by the Rockefeller Foundation, it is estimated that only 90,000 of the 230,000 taxis and “combi” vans operating in Lima are registered while the rest operate informally. De Soto estimated that 90 percent of daily commutes were made informally in Lima, and using data from the annual Lima Como Vamos survey, it does not appear that the formal to informal ratio has changed significantly. While the informal transport market provides valuable service, the associated negative externalities make it critical to formalize. Informal transport accounts for an overwhelming amount of transport related emissions because the vehicle types associated with informal transport – vans, taxis, and mototaxis – emit seven to ten times higher emissions per passenger than even half full city buses. Additionally, their road space to passenger ratio is significantly higher than city buses, contributing to greater congestion and thus increasing time spent idling and creating further emissions. Formalizing and subsequently regulating vehicle numbers and emission standards could help reduce the impact of these externalities. These informal operators are regulated when possible, such as with access to the airport’s drop-off and pick-up areas. The government has made a number of efforts in just the past few years to provide legal public transportation alternatives with the bus rapid transit (BRT) route which opened in 2010, and the Metro de Lima metrorail which opened in 2012 and is set to expand over the next decade to include a second line.
A bus stopped to pick up passengers in the middle of an intersection during a green light (Photo: Dan Meier)
Like the transport market, the informal mining and logging industries also provide valuable stimulus to the Peruvian economy. According to a mining industry report prepared by PricewaterhouseCoopers, mining accounted for over 14 percent of the Peruvian GDP in 2007. According to Fernando Villarán, mining is the primary industry in the Madre de Dios region in the Peruvian Amazon and, thanks to mining, Madre de Dios also ranks as one of Peru’s highest earning regions in a ranking of GDP per capita. Again, the service is valuable, providing employment, high relative income, and international prestige as a world leader in mining. Yet, it is the negative externalities associated with unregistered mining that make it problematic. Unlike informal transportation, much of the mining activity is actually illegal. Mining is responsible for tremendous deforestation, which in turn contributes a larger percentage of Peru’s total greenhouse gas emissions than transportation. Additionally, the mercury used in the mining process is dumped into rivers and soil, killing plant and animal life and making water undrinkable and fish inedible. The Peruvian government is making efforts to treat the cancer of illegal mining that is killing the world’s most biodiverse forest, but the overwhelming number of illegal miners, 30,000, and their prominent role in society, government, and industry, makes regulation both complex and unpopular.
An illegal mining operation gradually flooding and deforesting part of the rainforest between Cusco and Puerto Maldonado (Photo: Dan Meier)
Finally, the informal economy provides housing options for Peru’s rapidly urbanizing population, which grows annually to include an additional 0.5 percent of Peru’s total population, according to the World Bank. As Peruvians continue to relocate from rural to urban areas, infrastructure and housing options are underprovided by both public and private formal means. This leaves migrants looking for economic opportunity to provide for themselves, forming massive shantytowns around Lima and other cities, known as pueblos jovenes or “young villages.”
Roadside hovels on the outskirts of Lima (Photo: Dan Meier)
According to Villarán, the Peruvian government tried for a time to implement de Soto’s bureaucratic simplification strategy, and he feels that the strategy has been unsuccessful in reducing Peru’s informal economy. However, using the indicators Villarán provided related to government corruption, taxes, and labor regulations, as well as the World Bank Ease of Doing Business Index (which includes ease of opening a business derived from the number of forms, meetings, and taxes prior to opening a business), and the OECD Foreign Direct Investment regulatory restrictiveness report, I am not convinced that Peru has truly tried to open markets and facilitate formalization. Further efforts should to be made to simplify Peru’s new business taxes and operations, as well as efforts to implement Villarán’s suggestions related to small business subsidization and support in order to allow small business to formalize and grow.