“Whatever you can rightly say about India, the opposite is also true.”
– Joan Robinson

In its pursuit of becoming a $5 trillion economy, India has laid significant emphasis on formalizing its economic architecture—expanding digital payments, mandating Goods and Services Tax (GST) compliance, broadening tax nets, and tightening labour codes. Yet, in stark contradiction, over 80% of its workforce remains entrenched in the informal sector, according to the Periodic Labour Force Survey (PLFS) 2022-23. 

This paradox is not a failure of policy but an essential reflection of India’s unique developmental trajectory, where the formal and informal co-exist—not as binaries, but as dual engines of economic sustenance. This dynamic begs for a deeper understanding of the informal economy—not merely as an outdated legacy or bottleneck, but as a critical cushion of employment, entrepreneurship, and resilience. India’s economic journey is not a linear transformation from informal to formal; it is a layered process of coexistence, where structural ambitions must harmonize with grassroots realities.

The informal economy: An invisible giant
Despite the rise of digital India and burgeoning formal sectors like IT and fintech, the informal economy remains dominant. As per the International Labour Organization (ILO), more than 90% of India’s workforce is employed informally—either self-employed, engaged in casual labour, or working in unincorporated enterprises. These contribute an estimated 45% to the country's GDP, according to a 2021 SBI Research report. This includes millions of street vendors, construction workers, gig economy participants, agricultural labourers, and home-based artisans. 

These workers often operate outside regulatory purview—not by choice, but due to structural exclusion. Limited access to social security, formal credit, or skill certification perpetuates their informality. Yet, paradoxically, they ensure economic continuity even in crises. During the COVID-19 pandemic, while formal employment shrank, the informal sector absorbed much of the employment shock, becoming a de facto employment shock absorber. 

Moreover, the informal sector is entrepreneurial. From grocery shops to local manufacturing units, informal enterprises often act as incubators of economic dynamism. They exhibit lean operations, low capital intensity, and quick adaptability—traits that make them both vulnerable and indispensable. The paradox here is striking: India’s informal sector, often dismissed as inefficient or opaque, sustains livelihoods at a scale the formal economy cannot.

Formalization: Aspirational but complex
India’s economic policymaking has rightly emphasized formalization for fiscal transparency, regulatory oversight and social protection. Programs like Udyam registration for MSMEs, E-Shram for unorganized workers, and JAM trinity (Jan Dhan-Aadhaar-Mobile) aim to create digital and financial footprints. The introduction of the GST has brought millions of enterprises into the tax net—GST registered taxpayers increased from around 65 lakhs in 2017 to nearly 1.5 crore in 2024.

However, the process of formalization is not frictionless. High compliance costs, complex documentation, and rigid labour laws often deter small informal units from entering the formal fold. For example, the PLFS 2022-23 notes that even among urban self-employed, only around 25% report maintaining formal records or tax compliance. Informality persists not solely due to evasion, but due to survivalist compulsions and institutional unpreparedness. 

Additionally, forced formalization without adequate support mechanisms can backfire. It may render small enterprises unviable or push them into shadow operations. A study by Azim Premji University in 2021 found that among micro-enterprises that formalized, over 40% struggled with maintaining compliance costs, and nearly a third reported lower profitability post-formalization. Hence, while formalization remains a policy imperative, it must be viewed through a developmental—not merely regulatory—lens.

Policy dualism: Towards harmonious coexistence
To reconcile its formal ambitions with its informal backbone, India must adopt a dualistic policy framework—one that does not seek to eliminate informality, but to elevate its quality and resilience. This involves enabling productive informality through three primary levers: protection, promotion and progression. 

Protection entails providing informal workers with social safety nets. Schemes like PM-SYM (Pradhan Mantri Shram Yogi Maandhan) and E-Shram are a start, but portability, coverage, and awareness remain limited. According to NITI Aayog (2023), only 12% of the estimated 38 crore unorganized workers are covered by formal insurance or pension schemes. 

Promotion requires targeted investment in skilling, microfinance, and technological enablement. Initiatives like MUDRA loans have disbursed over Rs 22 lakh crore since inception in 2015, but anecdotal evidence suggests challenges in repayment capacity and business viability without concurrent mentorship or market access. 

Progression is about creating pathways from informality to formality—not by coercion, but by making formality aspirational. This includes reducing compliance burdens for small firms, offering graded incentives, and simplifying tax codes. The “Faceless Assessment” mechanism by the Income Tax Department is a welcome step towards improving ease of doing business for micro-entrepreneurs. 

The larger goal must be to reimagine informality not as a deadweight, but as a developmental substrate. As economist Hernando de Soto once argued, the informal economy contains “dead capital” which, if unlocked through titling, legal recognition, and inclusion, can spur massive productivity gains. India must tailor this insight to its own paradoxical terrain—where slum dwellers are e-commerce delivery agents, and gig workers both benefit from and are bypassed by labour codes.

Embracing the paradox
India’s informal sector is not merely a residue of underdevelopment—it is a reflection of its socio-economic plurality, demographic scale, and institutional diversity. In the rush to formalize, policymakers must guard against overlooking the contribution of informal networks that power its economic core. The path ahead is not about choosing between formal and informal, but about designing inclusive systems that enable both to thrive in synergy. In the Indian context, where “what is proven to be true, the opposite will also be true,” the informal economy will not vanish with development—it will evolve. And perhaps therein lies India’s greatest strength: its ability to hold contradictions not in conflict, but in coexistence.

Naman Mishra is a Doctoral Researcher, School of Management, Bennett University. *Views are personal and do not reflect the opinions of the organizations associated.