1. WBGES 2010 11 Presentation prepared by Leora Klapper, Senior Economist, World Bank Inessa Love, Senior Economist, World Bank We thank the Ewing Marion Kauffman Foundation, the Development Research Group at the World Bank, and the IFC for financial support.

2. WBGES 2010 22 MotivationMotivation  Business formalization and new firm creation are important goals of policymakers worldwide  Reforms of registration process are widespread  This paper is aimed at better understanding the impact of institutional reforms to firm registration on the number of new firm registrations:  What constitutes a reform?  What is the impact of reforms? 1. Introduction & Methodology

3. WBGES 2010 33 Key Questions 1.What magnitude of the changes (in costs, time, procedures etc.) are necessary for a “reform” to manifest in increased number of registered businesses. Is a 20% reduction in the costs of registration sufficient or is a 50% reduction necessary to induce a statistically significant number of firms to register? Insufficiently large reforms may not have the intended impact on firm registrations and money and effort might be poorly spent on the reform. 2.Are multiple reforms more effective? 3.Is there is a difference in simultaneous or sequential reforms? 4.What is the relationship between the country’s initial conditions and the magnitude of the reform? 1. Introduction & Methodology

4. WBGES 2010 44 Theoretical Intuition (1)  Benefits to registration, b  Increased access to finance, a sales tax ID to attract larger and foreign customers, better contract terms with suppliers or customers, or a reduced risk of governmental sanctions.  Cost of registration, c  Official and non-official payments, personnel and managerial time spent dealing with required procedures, and minimum capital requirements that need to be met  Firms will register if b>c  Testable Hypothesis 1: Negative relationship between costs and actual registrations 1. Introduction & Methodology

5. WBGES 2010 55 Theoretical Intuition (2)  Reforms are aimed at reducing the cost of registration,  Suppose c0 is pre-reform cost and c1 is post reform costs.  Whether reform is effective in inducing new registrations depends on relative parameters b, c0 and c1:  Small reform: b < c1 < c0  Large reform: c1 <b < c0  Testable Hypothesis 2: If the reduction in costs is insufficient to fall below benefits, the impact of reform will be limited. 1. Introduction & Methodology

6. WBGES 2010 66 Data and Summary Statistics  Unit of Measurement Private companies with limited liability. Notably, this is the same definition used by the World Bank’s Doing Business report. It is also the most prevalent business form in most economies around the world (Doing Business, 2010).  Variables of interest Entry Density, calculated as the number of newly registered limited- liability firms as a percentage of the country’s working age population (ages 15-64), normalized by 1,000, from WBGES 2010. Cost, Procedures, Day and Minimum Capital Requirement to Start a Business from the World Bank’s Doing Business report. Annual percentage changes in indicators. 1. Introduction & Methodology

7. WBGES 2010 77 World Bank Group Entrepreneurship Snapshots 2010 Survey:  Number of newly registered limited liability firms, by year  Questions about registration process  Translated into four languages (English, Spanish, French, Russian) Methodology & Data:  Sent directly to data sources by email and fax  Follow-up phone calls  Data checking from outside sources, previous versions of WBGES  Sent to over 150 countries and received 125 responses  Panel data for 93 countries, 2004-2009, 494 obs 1. Introduction & Methodology

8. WBGES 2010 88 WGES 2010 Final Data 1. Introduction & Methodology Final Data Excludes:  Informal Sector Data not gathered, despite relevance   Sole proprietorships, partnerships Data not gathered, not uniform across countries  Measures of active & closed firms Data gathered but excluded because of reliability issues due to different definitions / procedures  Countries classified as offshore financial centers by the IMF Data gathered but excluded because some firms not representative of entrepreneurship 

9. WBGES 2010 99 Entry Density, by region, 2004-2009 averages 2. Summary Statistics

10. WBGES 2010 10 2.6 Summary Statistics, 2004-2009 averages 2. Summary Statistics Entry Density, GDP per capita, and Financial Development

11. WBGES 2010 11 Ease of Starting a Business

12. WBGES 2010 12 Empirical Approach – Level Effect  Is there a relationship between costs and registrations? Entry Density it = a i + b ESB it-1 + GDPgrowth it-1 + d t + e it  Country fixed effects to capture unobserved differences between countries that could affect the level of registration and registration costs  Time fixed effects to capture general trends in registration and global financial crisis (Klapper and Love, 2010)  Lagged GDP growth to capture local business cycle effects 1. Introduction & Methodology

13. WBGES 2010 Level results 13 Contemporaneous RHSLagged RHS 12345678 Log Cost (% income per capita)-0.259* -0.184 [0.058] [0.222] Log Time (days) -0.258* -0.217* [0.056] [0.065] Log Procedures (number) -0.584*** -0.529** [0.002] [0.012] Log Min. Capital (% income per capita) -0.037 -0.02 [0.369] [0.627]

14. WBGES 2010 14 Empirical Approach - Reforms  Create indicator variables – “reform dummies” - based on magnitude of reforms (i.e. 20% cost reform, 30% cost reform etc)  Reform it= Reforming country (i) * After(t)  Allowing effect to be cumulative over several years after reform  Only using first reforms  Use difference in difference methodology: New Density it = a i + b Reform it + g GDPPC it-1 + d t + e it  Identify which cutoff points lead to the largest and most significant increases in formally registered businesses. 1. Introduction & Methodology

15. WBGES 2010 15 Number of reforms with alternative definitions 3. The Impact of Reforms on New Firm Registration Reduction Cutoff 1234 Cost reformDays reformProc reform Min Cap reform 20% 575840 30% 42502829 40% 28431624 50% 1632523 60% 723322 Number of Reforms with Different Cutoff Points, by country

16. WBGES 2010  Results: In general reforms less then 40% are ineffective 16 Results: One category at a time 3. The Impact of Reforms on New Firm Registration Cutoff 1234 Proc ReformDays ReformCost ReformMin Cap Reform 20% 0.371**-0.0080.0080.29 [0.017][0.950][0.944][0.103] 30% 0.387**0.120.0030.221 [0.046][0.478][0.985][0.239] 40% 0.408**0.190.0910.377* [0.018][0.317][0.611][0.097] 50% 0.357*0.404**0.573**0.377* [0.082][0.035][0.032][0.097] 60% 0.1710.566**0.618***0.384 [0.291][0.023][0.006][0.113]

17. WBGES 2010  A country that is reforming the business registration process will make changes in the process along several dimensions  We also examine impact of multiple simultaneous and sequential reforms 17 Multiple reforms 3. The Impact of Reforms on New Firm Registration Number of Simultaneous or Sequential Reforms, by country Cutoff 12345 One or more reform Two or more reforms occurring sequentially Two or more reforms occurring simultaneously Three or more reforms occurring sequentially Three or more reforms occurring simultaneously 20% 7969515328 30% 7051353014 40% 603422178 50% 472214124 60% 3717862

18. WBGES 2010 Results: Multiple reforms are more effective at lower level, simultaneous more effective then sequential 18 Results: Multiple Reforms 3. The Impact of Reforms on New Firm Registration Cutoff One or more Reform Two or more Reforms occurring sequentially Two or more Reforms occurring simultaneously Three or more reforms occurring sequentially Three or more reforms occurring simultaneousl y 20% -0.0160.1380.1970.040.286 [0.890][0.229][0.232][0.760][0.199] 30% -0.0910.1710.2450.345**0.587* [0.437][0.195][0.227][0.045][0.071] 40% -0.0190.408** 0.425 a 0.586**0.879* [0.888][0.010][0.126][0.023][0.056] 50% 0.291**0.609***0.772**0.584*N/A [0.040][0.002][0.024][0.065] 60% 0.391**0.613**1.063**0.577***N/A [0.029][0.011][0.039][0.000]

19. WBGES 2010  A priori it is not clear how the pre-existing conditions will affect the impact of reforms  Do countries with high initial costs need larger or smaller reforms to induce new registrations?  It depends on relative magnitudes of costs and benefits  Two hypothesis:  If in a country with very high registration costs, the benefits are also very high, then even a small change in costs may induce a significant number of new registrations (i.e. the benefit is just below the pre-reform costs).  Alternatively, countries with high registration costs might also offer fewer benefits to formal firms, so that only a large change in costs will induce a significant number of new registrations (i.e. average benefits are significantly below the costs). 19 Magnitude of reforms and pre-existing conditions 3. The Impact of Reforms on New Firm Registration

20. WBGES 2010  Interact “reform dummy” and “pre-reform” initial level of the parameter (cost, time etc.): New Density it = a i + b 1 Reform it + b 2 Reform it *Pre-reform_level i + g GDPPC it + d t + e it Results: The interaction is negative, suggesting that in countries with higher initial costs, larger reforms are needed for a significant impact. Results are consistent with a hypothesis that firms in countries with weaker business environments also have fewer benefits for formal sector registration (such as access to formal financial and labor markets) and therefore larger reductions in costs are necessary to incentivize firms to incur the costs of formal registration 20 Magnitude of reforms and pre-existing conditions (2) 3. The Impact of Reforms on New Firm Registration

21. WBGES 2010 21 SummarySummary 4. Conclusion Uses panel data on the number of new firm registrations in 93 countries to study how the magnitude of reforms affects its impact on new firm registrations The findings suggest:  Small reforms, in general less than 40% reductions, do not have a significant effect on new firm registration.  There are important synergies in multiple reforms of two or more business environment indicators and simultaneous reforms have more impact than sequential  Countries with relatively weaker business environments require relatively larger reforms in order to impact new firm growth.

22. WBGES 2010 (1) World Bank Group Entrepreneurship Snapshots 2010: http://econ.worldbank.org/research/entrepreneurship (2) The Investment Climate portal: www.wbginvestmentclimate.org 22 WBGES 2010 Website