Who’s Hiding in the Shadows? Organized Crime and Informal Entrepreneurship in 39 Economies

Abstract

Informal entrepreneurship represents a common mode of business formation globally and entails starting and operating a business without registering it with legal authorities. Despite the size of the informal sector in many countries, the motivations for entrepreneurs to operate nonregistered ventures are not well understood. Although formal institutions play an important role, we argue that the decision to operate a nonregistered new venture is influenced by a pervasive informal institution around the world: the practice of extortion payments to organized crime. Because criminal organizations foster the development of norms and beliefs cementing extortion payments as an institution, we posit that entrepreneurs will use nonregistration as a buffer to avoid extortion costs preemptively. We further explicate that this choice is contingent upon founders’ access to resources and ventures’ product-market strategy, which shape visibility to organized crime and the ability to resist extortion and, thus, alter the need for nonregistration as a buffer against institutionalized extortion. Our analysis of over 8,000 new ventures operating in 39 economies largely supports these arguments. This study identifies a novel causal mechanism in the nomological network of informal entrepreneurship, namely, the prevalence of organized crime, and informs a multilevel theory of how entrepreneurs choose the type of organizational form for their ventures. Finally, it illuminates the importance of shadow institutions—illegal and not widely accepted practices—which may operate as unique but often overlooked types of institutions that shape entrepreneurial and organizational decisions.