When the informal economy competes, innovation gets rewritten

In emerging economies like India, competition does not always come from well-funded rivals with glossy branding or advanced technology. Often, the most persistent competitive pressure comes from informal firms—businesses that operate outside formal regulatory and tax systems, allowing them to undercut prices and move with remarkable flexibility. For formal firms, especially small and mid-sized ones, this creates a constant strategic dilemma: how do you compete when your rivals play by different rules?

Our recent research with the title ‘How does informal competition shape innovation? ‘Exploring the roles of labour flexibility and special economic zones in emerging economies’, published in IIMB Management Review in 2026, shows that one surprising answer lies not in expensive R&D labs or large capital investments, but in time.

The overlooked competitor: informal firms

Informal firms are not fringe players. In many emerging economies, they account for a significant share of output and employment. By avoiding compliance costs related to taxation, labour regulation, and reporting, these firms gain cost and flexibility advantages that formal firms cannot easily replicate.

For managers in formal emerging economy firms, this kind of competition is deeply unsettling. Price wars are hard to win. Brand differentiation is expensive. And regulatory compliance, while necessary, adds to operating costs rather than reducing them. Traditional strategy tools often fall short in explaining how firms respond under these conditions.

This is where our study begins, with the recognition that informal competition reshapes not just markets but managerial attention itself.

Innovation without big budgets

Most conversations about innovation assume access to financial slack, skilled talent, and long planning horizons. But for many formal firms in emerging economies, these assumptions simply do not hold. Innovation, if it is to happen at all, must be frugal, internal, and fast.

Our study focuses on one such practice: innovation time off. This refers to giving employees discretionary time during work hours to explore new ideas, improve processes, or develop novel solutions beyond their routine tasks. While famously associated with companies like Google, this practice takes on a very different meaning in resource-constrained environments.

Using firm-level data from India, we find that higher exposure to informal competition increases the likelihood that formal firms offer innovation time off. In other words, when managers feel the pressure of informal rivals most acutely; they are more likely to turn inward and activate employee creativity rather than rely on costly external strategies.

Why time becomes a strategic resource

To explain this pattern, we draw on the attention-based view of the firm. This perspective emphasises that managerial attention is limited. Leaders cannot focus on everything at once; they prioritise issues that feel most urgent and threatening.

Informal competition, because it directly challenges survival through cost and flexibility, becomes highly salient. In response, managers search for strategies that are visible, controllable, and affordable. Innovation time off fits this logic well. It leverages existing human capital, requires minimal financial investment, and signals adaptability.

Importantly, this is not about copying Silicon Valley models. In emerging economies, innovation time off often focuses on incremental improvements, process efficiencies, or locally relevant product adaptations—exactly the kinds of innovations that help firms stay competitive against informal rivals.

When innovation pressure eases

However, our findings also reveal an important nuance: not all formal firms respond to informal competition in the same way.

First, firms with higher numerical labour flexibility, those that can easily hire and fire or adjust workforce size, are less likely to rely on innovation time off in response to informal competition. Why? Because flexibility itself reduces the perceived threat. These firms can manage costs and capacity more easily, making informal competitors seem less dangerous. As a result, innovation becomes less urgent from a managerial attention perspective.

Second, firms located in Special Economic Zones show a similar pattern. SEZs provide regulatory relief, infrastructure support, and policy advantages that partially neutralise the cost benefits enjoyed by informal firms. When these institutional buffers are in place, informal competition loses salience, and the push toward innovation time off weakens.

Together, these findings suggest that innovation is not driven by competition alone but by how exposed managers feel to that competition, given their organisational and institutional context.

Implications for managers

For leaders operating in emerging economies, the message is both realistic and empowering.

Implications for policymakers

The study also carries lessons beyond the firm.

A broader takeaway

In emerging economies, innovation is often discussed as a technology problem or a funding problem. Our research reframes it as an attention problem. When informal competition captures managerial attention, firms innovate through time. When institutional buffers soften that attention, innovation recedes. Understanding this dynamic helps explain why some firms remain adaptive and inventive under pressure, while others do not.

Ultimately, the study reminds us that innovation is not just about what firms can afford but about what leaders choose to focus on when survival is on the line.

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