The informal sector in Indonesia is massive, and has become a challenge
to the growth of the open market economy. Explanations of the cause of
informality have shifted over time from structural dualism to excessive
government regulation. This paper argues that merely focusing on the
high cost regulation may not reveal the bottom line of informality.
Assessment and elaboration of informality need the help of the
transaction cost approach that suggests that informality in the economy
exists due to the high-transaction-cost institutional framework. To
support the argument, this paper provides a preliminary study on the
transaction costs borne by firms in the industrial manufacturing sector
based on two industrial surveys conducted by BPS-Statistics Indonesia,
which are the 2009 survey on medium and large-scale enterprises (MLEs)
and the 2010 survey on micro and small-scale enterprises (MSEs). This
paper shows that micro and small-scale enterprises with no legality bore
the least transaction costs compared to those operating legally, both
micro and small-scale, as well as medium and large-scale enterprises.
Consequently, regulatory reforms aimed at reducing transaction costs,
not merely aimed at reducing official costs and simplifying procedures,
are the keys to achieving economic growth while ensuring full
participation of the private sector. [ABSTRACT FROM AUTHOR]