Black Markets

Shadow Economies Grow as People Flee High Taxes and Stiff Regulations

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The Shadow Economy
IEA

Otherwise legal off-the-books economic activity is on the rise again in much of the world, says a new report, with the "shadow economy" comprising huge chunks of many nation's economies. There's no need for speculation as to why, say the authors. High taxes and stringent regulations have made it very attractive and even necessary for people to earn their keep and conduct their business out of sight of tax collectors and bureaucrats. Not surprisingly, the report recommends tax reduction and deregulation as keys to getting people back into the official economy where they can contribute to governmental coffers, and (more important, I would say) also have access to insurance, courts and the various benefits of operating in the open.

In the foreword to The Shadow Economy, published today by Britain's Institute of Economic Affairs, IEA's Editorial and Programe Director, Philip Booth writes:

As this monograph – written by two of the world's leading figures in this area – shows, the level of tax is one of the major drivers of shadow economic activity. If governments keep tax rates low, the shadow economy is likely to be smaller. Furthermore, if tax rates are low and the shadow economy smaller, then it is more likely that citizens will think that the tax system is 'fair'. This, in turn, raises 'tax morale' and puts further downward pressure on the shadow economy.

Authors Friedrich Schneider, of the Johannes Kepler University of Linz, Austria, and Colin Williams, of the Inter-disciplinary Centre of the Social Sciences (ICOSS) at the University of Sheffield, are both recognized authorities on underground economies. Schneider, in particular, is a go-to authority when it comes to measuring shadow economies around the world. He pretty much sets the standard for measuring economic activity that would be legal if it was taxed and regulated, but which has gone underground for reasons that always include high taxes and strangling red tape.

In recent years, Schneider and other authorities had found shadow economic activity decreasing in many countries, possibly because many countries lowered taxes and loosened regulations. That trend appears to have "stalled or even reversed after 2007." As a result, according to current figures, says the report, "[a] shadow economy of around 9–12 per cent of total economic activity is not untypical for Anglo-Saxon countries, and levels of 20–30 per cent are common in southern Europe."

Why is this?

The main drivers of the shadow economy are (in order): tax and social security burdens, tax morale, the quality of state institutions and labour market regulation. A reduction in the tax burden is therefore likely to lead to a reduction in the size of the shadow economy. Indeed, a virtuous circle can be created of lower tax rates, less shadow work, higher tax morale, a higher tax take and the opportunity for lower rates. Of course, a vicious circle in the other direction can also be created.

The temptation for many governments (a hint here for American politicians) is to turn to enforcement as a means for bringing economic activity back under state control where it can be taxed. That's a really bad idea, says the report.

Policies focused on deterrence are not likely to be especially successful when tackling the shadow economy. The shadow economy is pervasive and made up of a huge number of small and highly dispersed transactions. We should also be wary about trying to stamp out the shadow economy as we may stamp out the entrepreneurship and business formation that goes with it.

Instead of the stick, the authors recommend the carrot. Specifically, they suggest making it simple and attractive for off-the-books operators to get on the books without penalty.

There are, however, huge potential benefits from allowing the self-employed and small businesses to formalise their arrangements. Businesses cannot flourish if they remain in the shadow economy. They might be reluctant to formalise, however, if it involves admitting to past indiscretions. Worthwhile policies include: reducing business compliance regulation; amnesties; providing limited tax shelters for small-scale informal activity such as the provision of interest-bearing loans to relatives and friends; and allowing businesses to formalise using simple 'off the shelf' models. Such policies have been successful in other countries – and to a limited extent in the UK – with high benefit-to-cost ratios.

Of course, they point out, this only works if formal status is attractive — that is, if taxes are lowered and regulations eased so that the aboveground economy is actually a better place in which to do business than the shadow economy.

While the United States has traditionally had a proportionally small shadow economy when compared to other countries, American economists and pundits have recently noted that it seems to be growing by leaps and bounds, with tax compliance dropping and the gap between the income Americans are thought to have earned and what they're reporting now adding up to two trillion dollars. That may well be because the U.S. is acquiring a European-sized government and stiffer regulations.

If the U.S. adopts the taxes and regulations of other over-governed countries, we get their shadow economies, too. Surprise.

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  1. Check out my boy Jeff Berwick’s site and he will assist you in your expatriation efforts.

    1. Yeah but where are you supposed to go? Luna?

      1. Jeff Berwick swears by Acapulco and Jim Karger, a frequent contributor to the site, loves San Miguel de Allende.

        Many of the Dollar Vigilante contributors opine that the average Mexican is far more free than the average gringo in the USSA.

        Of course, americans still clinging to the myth of American exceptionalism and blind to reality, will disagree.

        1. While economic freedom is extremely important, there are other freedoms, like an explicitly enumerated freedom of speech– something that doesn’t exist pretty much anywhere in the world except here, and the right to bear arms.

          1. Paul, how many incidents do you learn of each and every day where the parchment upon which those explicitly enumerated rights is used by cops and regulators and prosecutors and judges and public school administrators to wipe the feces from their fat asses?

            1. I won’t argue that the singular goal of our government is to usurp those enumerated rights.

              My concern about any renouncement of citizenship is that you really have to ask yourself questions about what you’re getting into.

              In Europe, for instance, which recognizes no explicit freedom of speech, can trample away on all things speech related, and there’s no fight to even lose.

              Same thing about firearms. What countries in the world can I go down to a gun shop, purchase all the guns I want and obtain a conceal carry permit with a mere background check?

              I do believe that there are countries out there which have a vast amount of freedom over and above ours economically.

              It’s probably quite easy to open up a business in Mexico where you don’t have to worry about byzantine labor laws, environmental reviews or municipal zoning regulations.

              I agree those things are important, but they’re not everything.

              1. The U.S. benefits mightily by not being as fucked up as other countries in one way or the other.

                From where I’m sitting, either we get our shit straightened out, or some other country will, and will kick our ass all over the place economically. And brain drains can happen to us, too.

              2. Yes, renouncing citizenship is not something to do whimsically.

                There are many places in the US where you just cannot go down to a gun shop and buy what you want and obtain a conceal carry permit. Hello Massachusetts and other blue states where you need to secure the approval of the local police chief.

                How about the bases upon which the authorities can jail you? Its just not that we incarcerate more peeps than any other nation state, its also the number of laws, rules and regulations to which the king’s men can cite to arrest you.

              3. It’s probably quite easy to open up a business in Mexico where you don’t have to worry about byzantine labor laws, environmental reviews or municipal zoning regulations

                *blinks*

                I suggest you read some de Soto. The shit Latin American governments do that he writes about in The Other Path will give you nightmares for weeks.

                1. I suggest you read some de Soto. The shit Latin American governments do that he writes about in The Other Path will give you nightmares for weeks

                  There’s definitely that to consider as well. Our diminished property rights in this country are an order of magnitude better than that of other countries- especially latin ‘Murrica.

                  1. “Our diminished property rights in this country are an order of magnitude better than that of other countries- especially latin ‘Murrica.”

                    It’s possible you can bribe your way to “freedom” in most places in LM, but then you have the sword forever hanging above your neck.
                    No thanks.

                2. For example, de Soto’s home country of Peru has criminalized the sale of snack foods to persons under 18.

                  I’m going to laugh when in 10 years a renewed Sendero Luminoso comes to power on a tide of money from the underground potato chip market.

                  1. A Secret Band of Robbers| 6.4.13 @ 11:44PM |#
                    “For example, de Soto’s home country of Peru has criminalized the sale of snack foods to persons under 18.”

                    Do we dare hope that Bloomy has left NYC?

    2. up to I looked at the receipt saying $5461, I have faith that my friend woz really bringing in money in there spare time from there computar.. there best friend has been doing this for under 21 months and resently paid for the morgage on there cottage and got a gorgeous Lancia. go to… http://www.Jam40.com

  2. Unfortunately once a shadow economy is established, the participants are not too inclined to go legit again following lower taxes…. And first?

    1. Living in Brazil I can tell you that any economic activity between individuals that can be done off the books generally is. The state has been so intrusive for so long that no amount of tax cuts is going to change what has become essentially culturally engrained, it would take generations.

      1. It’s a shame that Brazillians have now acquired the healthy disregard for government that Americans once had, and Americans have meanwhile become bootlicking slaves to authority.

        Personally, I would encourage as many Americans as possible to go into the shadow economy, just to fuck the government over a little bit more.

        1. Brazilians’ relationship to the government is mixed. Many Brazilians live one way or another in the shadow economy, but good luck finding a brazilian that wouldn’t LOVE a fat government job/paycheck for life.

          At the risk of sounding Tony-esque, Brazilians want all the trappings of big government without having to pay for it.

          1. I was just thinking this. The people in these European countries that drop into the shadow economy to avoid regulations and taxes are probably comprised of many of the same people who riot whenever they think the government will spend less on what they want.

            They want these programs to pay out to them, but they don’t want to pay into them in the first place. They all expect someone else to do it for them, and complain that those richer than them don’t give enough.

          2. At the risk of sounding me-esque, everyone wants a big government and nobody likes paying for it. Sort of like pants, or air conditioning.

            The point is nobody really wants a small government, except perhaps someone who could afford to buy his own country. Which he will no doubt rule with a totalitarian iron fist, as every libertarian does his own property.

            1. Tony, how about this?

              Government is the concentration of proceeds of socially acceptable theft in the hands of those most willing to use violence.

            2. The point is nobody really wants a small government, except perhaps someone who could afford to buy his own country

              That’s demonstrably untrue. There are lots of people who want smaller government, people who earn decidedly lower to lower-middle class incomes. They just aren’t in a huge majority.

            3. You are an idiot. I want a small government, as small as possible. I would gladly lose all SSN and Medicare benefits, even tho I am eligible for both right now, if both programs would simply vanish or be fully optional.

              Stop projecting your fondest wishes. You don’t know squat about libertarians in general or even liberty itself. You are no more qualified to discuss either than a dog is qualified to discuss space stations.

              1. Let’s be fair now. If she were alive, I’m sure Laika would have some profound barks on the feasiblity of space habitation. Tony, on the other hand, wouldn’t even be able to sniff Laika’s rear without the action being banal and mendacious.

                1. Woof! *wags tail*

            4. I don’t know about everyone. People like you, sure. America still has a lot of honest people who prefer to try fix bad rules by changing them to something workable rather than just cheating whenever the rules are a burden.

              That said, once there is a critical mass of cheaters, honesty becomes naivete, so I don’t expect it to last.

            5. Tony,
              Everyone loves free shit, but some of us are principled enough to refrain from taking it against other people’s will.

              You see, libertarianism *requires* people to act in the public interest, by respecting other people’s property rights and not using the government to steal from one another.

          3. At the risk of sounding Tony-esque, Brazilians want all the trappings of big government without having to pay for it.

            Isn’t that a big problem in the PIGS countries? Where people want government provided everything but tax compliance is non-existence.

            I don’t think that is sounding like Tony at all. It goes against his contention that the people that want big government want it to help others, unlike evil libertarians. They want free shit without having to work for it, and they’ll take it by force if necessary; nothing even close to a moral stance.

            1. “They want free shit without having to work for it, and they’ll take it by force if necessary; nothing even close to a moral stance.”

              That parts is tony-esque.

  3. If the narcotics market is considered a shadow economy, then the U.S. probably has the largest shadow economy in the world.

    1. That’s the black market, not the grey market.

      Shadow economy is another term for grey-market. Otherwise legal transactions that are held off the books to avoid taxes and regulation. Drugs aren’t otherwise legal.

      1. black market

        Aaaaaaand RACIST!

      2. When the Man comes down on the people’s economic activity, it’s time for a market with soul, a market that’s “with it”, a market for the Brothas, a Black Market!

        Tyrone “Black Market” Marks is a local grocer in Watts who was harrased by the Man. But Tyrone is going to teach these jive turkeys about market forces. Can you dig it, baby?

        Black Market, coming to a theater or drive in near you: Summer 1976.

        1. Caaaan yoouuuuu dig iiiiiit!

        2. This sounds hilariously perverse, and yet awesome.

          How can we smuggle rational choice theory into popular entertainment for African-Americans?

          Yes, I can dig it.

          1. Well, here’s the thing. Rational Choice Theory has been part of “urban” pop culture for ages. The concept of “hustlin’“, that is, participation in contraband services and products (sex work and illegal drugs) is well known. The choice to “hustle” is seen as logical and necessary within the economic environment of the ghetto, with limited opportunities for social mobility and entrepreneurship in “white market” (pun very intended).

            Unfortunately, the dots are not always connected by the stakeholders.

            1. Seriously, watch the music video I linked to. How many economic activities are depicted? How many of them are classified as “hustlin'” merely because the State isn’t getting it’s share of the vig (like the kids selling tax-free candy or the woman selling counterfeit perfume)?

        3. Ok, that movie? It needs to be a real thing. Get on it, HM.

      3. Drugs would “otherwise be legal” if it wasn’t for state and federal laws and regulations, so it’s a distinction without a difference, as far as I’m concerned.

  4. Comeon man, smack that ass one time now. Wow.

    http://www.WorldPrivacy.tk

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