Most of the existing literature focuses on the scale change of informal sector from the macro level, while few pay attention to its impact on micro-enterprise behavior. Using micro-econometric model and the World Bank’s Enterprise Survey data from a sample of China, our paper addresses this issue. We study the impact of competition from informal sectors on innovation behavior of competition against producers in the informal sector. The empirical results show that the competition has a significant positive impact on the R&D investment, both in quantity and in intensity, which means the competition from informal sector will promote the innovation investment of formal firms. In terms of innovation types, the added resources are mainly used for activities such as updating product, upgrading technology and improving capacity of personalized production. However, there is no significant evidence suggesting the influence of competition on process innovation, which is always aimed at improving product quality and reducing production cost. In terms of innovation modes, the competition from informal producers will obstruct the independent innovation and promote the imitation innovation. Our government needs to regulate the unfair competition behavior of informal producers, and guide them to transform from informal producers to entrepreneurial organizations.