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Underground Activity And Institutional Change: Productive, Protective And Predatory Behavior In Transition Economies


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  • Edgar L. Feige

    (The University of Wisconsin-Madison)


This paper examines why some transitions are more successful than others by focusing attention on the role of productive, protective and predatory behaviors from the perspective of the new institutional economics. Many transition economies are characterized by a fundamental inconsistency between formal and informal institutions. When formal and informal rules clash, noncompliant behaviors proliferate, among them, tax evasion, corruption, bribery, organized criminality, and theft of government property. These wealth redistributing protective and predatory behaviors activities absorb resources that could otherwise be used for wealth production resulting in huge transition costs. Noncompliant behaviors--evasion, avoidance, circumvention, abuse, and/or corruption of institutional rules--comprise what we can be termed underground economies. A variety of underground economies can be differentiated according to the types of rules violated by the noncompliant behaviors. The focus of the new institutional economics is on the consequences of institutions--the rules that structure and constrain economic activity--for economic outcomes. Underground economics is concerned with instances in which the rules are evaded, circumvented, and violated. It seeks to determine the conditions likely to foster rule violations, and to understand the various consequences of noncompliance with institutional rules. Noncompliance with ‘bad” rules may actually foster development whereas non compliance with “good” rules will hinder development. Since rules differ, both the nature and consequences of rule violations will therefore depend on the particular rules violated. Institutional economics and underground economics are therefore highly complementary. The former examines the rules of the game, the latter the strategic responses of individuals and organizations to those rules. Economic performance depends on both the nature of the rules and the extent of compliance with them. Institutions therefore do affect economic performance, but it is not always obvious which institutional rules dominate. Where formal and informal institutions are coherent and consistent, the incentives produced by the formal rules will affect economic outcomes. Under these circumstances, the rule of law typically secures property rights, reduces uncertainty, and lowers transaction costs. In regimes of discretionary authority where formal institutions conflict with informal norms, noncompliance with the formal rules becomes pervasive, and underground economic activity is consequential for economic outcomes.

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Paper provided by EconWPA in its series Development and Comp Systems with number 0305001.

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Length: 20 pages
Date of creation: 06 May 2003
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Handle: RePEc:wpa:wuwpdc:0305001

Note: Type of Document - pdf; prepared on IBM PC ; to print on HP/PostScript pdf file; pages: 20 . 20 pages pdf file
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Keywords: transition economies; underground economies; institutions; property rights; transaction costs; tax evasion; corruption; rent seeking.;

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  1. Feige, E.L., 1991. "Socialist Privatization," Papers, United Nations World Employment Programme- 1a, United Nations World Employment Programme-.
  2. Mauro, Paolo, 1995. "Corruption and Growth," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 110(3), pages 681-712, August.
  3. Vito Tanzi, 1994. "Corruption, Governmental Activities, and Markets," IMF Working Papers, International Monetary Fund 94/99, International Monetary Fund.
  4. Edgar L. Feige, 2003. "Defining And Estimating Underground And Informal Economies: The New Institional Economics Approach," Development and Comp Systems, EconWPA 0312003, EconWPA.
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Cited by:
  1. Fidrmuc, Jan & Gërxhani, Klarita, 2005. "Formation of Social Capital in Central and Eastern Europe: Understanding the Gap Vis-a-Vis Developed Countries," CEPR Discussion Papers, C.E.P.R. Discussion Papers 5068, C.E.P.R. Discussion Papers.
  2. François Gardes & Christophe Starzec, 2009. "Polish Households' behavior in the Regular and Informal Economies," Université Paris1 Panthéon-Sorbonne (Post-Print and Working Papers), HAL halshs-00375543, HAL.
  3. Jan Fidrmuc & Klarita Gerxhani, 2007. "Mind the Gap! Social Capital, East and West," William Davidson Institute Working Papers Series, William Davidson Institute at the University of Michigan wp888, William Davidson Institute at the University of Michigan.
  4. Roberto Dell’Anno, 2010. "Institutions and human development in the Latin American informal economy," Constitutional Political Economy, Springer, Springer, vol. 21(3), pages 207-230, September.
  5. Klarita Gërxhani, 2007. "“Did You Pay Your Taxes?” How (Not) to Conduct Tax Evasion Surveys in Transition Countries," Social Indicators Research, Springer, Springer, vol. 80(3), pages 555-581, February.
  6. Ekaterina VOSTROKNUTOVA, 2003. "Shadow Economy, Rent-Seeking Activities and the Perils of Reinforcement of the Rule of Law," Economics Working Papers, European University Institute ECO2003/09, European University Institute.
  7. Roberto Dell'Anno & Adalgiso Amendola, 2008. "Istituzioni, Diseguaglianza ed Economia Sommersa: quale relazione?," Quaderni DSEMS, Dipartimento di Scienze Economiche, Matematiche e Statistiche, Universita' di Foggia 24-2008, Dipartimento di Scienze Economiche, Matematiche e Statistiche, Universita' di Foggia.
  8. K.P. Kannan & N. Vijayamohanan Pillai, 2001. "The political economy of public utilities: A study of the power sector," Centre for Development Studies, Trivendrum Working Papers, Centre for Development Studies, Trivendrum, India 316, Centre for Development Studies, Trivendrum, India.
  9. Pillai N., Vijayamohanan, 2008. "Power Sector Reform: Some Lessons for Kerala," MPRA Paper 12334, University Library of Munich, Germany.
  10. Andrimihaja, Noro Aina & Cinyabuguma, Matthias & Devarajan, Shantayanan, 2011. "Avoiding the fragility trap in Africa," Policy Research Working Paper Series 5884, The World Bank.
  11. Alexander Smajgl, 2004. "Modelling the effect of learning and evolving rules on the use of common-pool resources," Computing in Economics and Finance 2004, Society for Computational Economics 178, Society for Computational Economics.
  12. McAllister, Ryan R.J. & Smajgl, Alex & Asafu-Adjaye, John, 2007. "Forest logging and institutional thresholds in developing south-east Asian economies: A conceptual model," Forest Policy and Economics, Elsevier, Elsevier, vol. 9(8), pages 1079-1089, May.
  13. Gerxhani, Klarita & Schram, Arthur, 2006. "Tax evasion and income source: A comparative experimental study," Journal of Economic Psychology, Elsevier, Elsevier, vol. 27(3), pages 402-422, June.
  14. Sabine Bernabe, 2002. "Informal Employment in Countries in Transition: A conceptual framework," CASE Papers, Centre for Analysis of Social Exclusion, LSE case56, Centre for Analysis of Social Exclusion, LSE.
  15. Ruta Aidis, 2002. "Why don't we see more Small- and Medium-sized Enterprises (SMEs) in Lithuania?," Tinbergen Institute Discussion Papers, Tinbergen Institute 02-038/2, Tinbergen Institute.


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