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Abstract
This paper introduces product-level regulation as a new driver of informality and diversification
in a model of heterogeneous multi-product firms and endogenous product choice. Firms face
regulations at both the firm- and product-level and may comply with or evade either regulation.
The model suggests that firm-level regulation directly causes informality by deterring firm
registration. However, the product-level regulation has two effects: it directly drives product
informality as evasion of product regulation leading to informality within the formal sector and
indirectly deters firms from registering. Further, I demonstrate that the Gini coefficient and
Herfindahl index can be implemented in multi-product firm models as revenue-based measures
of product diversification. Contrary to the prediction of the commonly used product scope, the
revenue-based measures indicate informal firms to be more diversified than formal firms.