Factor markets,institutional quality and firm formalisation: The contingent effect of economic conditions at the founding stage

Abstract

The informal economy makes an important contribution to economic activity but knowledge about the country-level conditions that influence an informal firm’s willingness to formalise is limited. This article integrates insights from institutional theory and the imprinting hypothesis to explain how factor markets and institutional quality affect the likelihood that informal firms formalise over time, as well as how these effects are contingent on economic conditions at the founding stage. Using data from the World Bank Enterprise Surveys comprising of 8005 observations from 2477 firms in 73 countries, the results suggest that better factor markets and institutional quality increase the likelihood of formalisation and these relationships are strengthened by favourable economic conditions at the founding stage. The low correlation between factor markets and institutional quality supports the importance of separating these dimensions, while the moderating effect of economic conditions at the founding stage supports the importance of imprinting.