IDEAS home Printed from
   My bibliography  Save this paper

The Underground Economy in a Matching Model of Endogenous Growth


  • Gaetano Lisi

    (University of Cassino)

  • Maurizio Pugno

    (University of Cassino)


A matching model will explain both unemployment and economic growth by considering the underground sector. Three problems can thus be simultaneously accounted for: (i) the persistence of underground economy, (ii) the ambiguous relationships between underground employment and unemployment, and (iii) between growth and unemployment. The key assumptions adopted are that entrepreneurial ability is heterogeneous across individuals; skill accumulation determines productivity growth in the regular sector and a positive externality on the underground sector; job-seekers choose whether or not to invest in education and skill depending on the expected wages in the two sectors. The conclusions are that the least able entrepreneurs set up underground firms, employ unskilled labour, and do not contribute to growth. Underground employment alleviates unemployment only if the monitoring rate is sufficiently low. Policies for entrepreneurship and monitoring would help both economic growth and employment.

Suggested Citation

  • Gaetano Lisi & Maurizio Pugno, 2010. "The Underground Economy in a Matching Model of Endogenous Growth," Working Papers 2010-07, Universita' di Cassino, Dipartimento di Scienze Economiche.
  • Handle: RePEc:css:wpaper:2010-07

    Download full text from publisher

    File URL:
    File Function: Full text
    Download Restriction: no

    Other versions of this item:

    References listed on IDEAS

    1. Romer, Paul M, 1986. "Increasing Returns and Long-run Growth," Journal of Political Economy, University of Chicago Press, vol. 94(5), pages 1002-1037, October.
    2. Johnson, Simon & Kaufmann, Daniel & McMillan, John & Woodruff, Christopher, 2000. "Why do firms hide? Bribes and unofficial activity after communism," Journal of Public Economics, Elsevier, vol. 76(3), pages 495-520, June.
    3. Sarte, Pierre-Daniel G., 2000. "Informality and rent-seeking bureaucracies in a model of long-run growth," Journal of Monetary Economics, Elsevier, vol. 46(1), pages 173-197, August.
    4. Mortensen, Dale & Pissarides, Christopher, 2011. "Job Creation and Job Destruction in the Theory of Unemployment," Economic Policy, Russian Presidential Academy of National Economy and Public Administration, vol. 1, pages 1-19.
    5. Christopher A. Pissarides & Barbara Petrongolo, 2001. "Looking into the Black Box: A Survey of the Matching Function," Journal of Economic Literature, American Economic Association, vol. 39(2), pages 390-431, June.
    6. Pugno Maurizio, 2000. "Economia sommersa e disoccupazione: un modello per l'analisi e per le politiche di intervento," Rivista italiana degli economisti, Società editrice il Mulino, issue 2, pages 269-290.
    7. Kolm, Ann-Sofie & Larsen, Birthe, 2001. "Wages, Unemployment, and the Underground Economy," Working Paper Series 2001:8, Uppsala University, Department of Economics.
    8. Robert M. Solow, 1956. "A Contribution to the Theory of Economic Growth," The Quarterly Journal of Economics, Oxford University Press, vol. 70(1), pages 65-94.
    9. Maxim Bouev, 2002. "Official Regulations and the Shadow Economy: A Labour Market Approach," William Davidson Institute Working Papers Series 524, William Davidson Institute at the University of Michigan.
    10. Agenor, Pierre-Richard & Aizenman, Joshua, 1999. "Macroeconomic adjustment with segmented labor markets," Journal of Development Economics, Elsevier, vol. 58(2), pages 277-296, April.
    11. James Albrecht & Lucas Navarro & Susan Vroman, 2009. "The Effects of Labour Market Policies in an Economy with an Informal Sector," Economic Journal, Royal Economic Society, vol. 119(539), pages 1105-1129, July.
    12. Rebelo, Sergio, 1991. "Long-Run Policy Analysis and Long-Run Growth," Journal of Political Economy, University of Chicago Press, vol. 99(3), pages 500-521, June.
    13. Tito Boeri & Pietro Garibaldi, 2005. "Shadow Sorting," NBER Chapters,in: NBER International Seminar on Macroeconomics 2005, pages 125-163 National Bureau of Economic Research, Inc.
    14. Carillo, Maria Rosaria & Pugno, Maurizio, 2004. "The underground economy and underdevelopment," Economic Systems, Elsevier, vol. 28(3), pages 257-279, September.
    15. Cimoli, Mario & Primi, Annalisa & Pugno, Maurizio, 2006. "A low-growth model: informality as a structural constraint," Revista CEPAL, Naciones Unidas Comisión Económica para América Latina y el Caribe (CEPAL), April.
    16. Benhabib, Jess & Spiegel, Mark M., 1994. "The role of human capital in economic development evidence from aggregate cross-country data," Journal of Monetary Economics, Elsevier, vol. 34(2), pages 143-173, October.
    17. Dale T. Mortensen, 2005. "Alfred Marshall Lecture: Growth, Unemployment, and Labor Market Policy," Journal of the European Economic Association, MIT Press, vol. 3(2-3), pages 236-258, 04/05.
    18. Fonseca, Raquel & Lopez-Garcia, Paloma & Pissarides, Christopher A., 2001. "Entrepreneurship, start-up costs and employment," European Economic Review, Elsevier, vol. 45(4-6), pages 692-705, May.
    19. Bean, Charles & Pissarides, Christopher, 1993. "Unemployment, consumption and growth," European Economic Review, Elsevier, vol. 37(4), pages 837-854, May.
    20. Francesco Busato & Bruno Chiarini, 2004. "Market and underground activities in a two-sector dynamic equilibrium model," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 23(4), pages 831-861, May.
    21. Rita Cappariello & Roberta Zizza, 2010. "Dropping the Books and Working Off the Books," LABOUR, CEIS, vol. 24(2), pages 139-162, June.
    22. Rosen, Sherwin, 1976. "A Theory of Life Earnings," Journal of Political Economy, University of Chicago Press, vol. 84(4), pages 45-67, August.
    23. Costas Azariadis & Allan Drazen, 1990. "Threshold Externalities in Economic Development," The Quarterly Journal of Economics, Oxford University Press, vol. 105(2), pages 501-526.
    24. Gaetano Lisi & Maurizio Pugno, 2010. "Entrepreneurship and the Hidden Economy: An Extended Matching Model," International Economic Journal, Taylor & Francis Journals, vol. 24(4), pages 587-605.
    25. Kolml, Ann-Sofie & Larsen, Birthe, 2010. "The Black Economy and Education," Research Papers in Economics 2010:3, Stockholm University, Department of Economics.
    26. Derek Laing & Theodore Palivos & Ping Wang, 1995. "Learning, Matching and Growth," Review of Economic Studies, Oxford University Press, vol. 62(1), pages 115-129.
    27. Baumol, William J., 1996. "Entrepreneurship: Productive, unproductive, and destructive," Journal of Business Venturing, Elsevier, vol. 11(1), pages 3-22, January.
    28. Tito Boeri & Pietro Garibaldi, "undated". "Shadow Activity and Unemployment in a Depressed Labor Market," Working Papers 177, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
    29. Rauch, James E., 1991. "Modelling the informal sector formally," Journal of Development Economics, Elsevier, vol. 35(1), pages 33-47, January.
    30. Decreuse, Bruno & Granier, Pierre, 2007. "Matching frictions and the divide of schooling investment between general and specific skills," MPRA Paper 6948, University Library of Munich, Germany.
    31. Robert E. Lucas Jr., 1978. "On the Size Distribution of Business Firms," Bell Journal of Economics, The RAND Corporation, vol. 9(2), pages 508-523, Autumn.
    32. V. Anton Muscatelli & Patrizio Tirelli, 2001. "Unemployment and growth: some empirical evidence from structural time series models," Applied Economics, Taylor & Francis Journals, vol. 33(8), pages 1083-1088.
    33. Edmund S. Phelps, 1968. "Money-Wage Dynamics and Labor-Market Equilibrium," Journal of Political Economy, University of Chicago Press, vol. 76, pages 678-678.
    34. Romer, Paul M., 1990. "Human capital and growth: Theory and evidence," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 32(1), pages 251-286, January.
    35. Banerjee, Abhijit V. & Duflo, Esther, 2005. "Growth Theory through the Lens of Development Economics," Handbook of Economic Growth,in: Philippe Aghion & Steven Durlauf (ed.), Handbook of Economic Growth, edition 1, volume 1, chapter 7, pages 473-552 Elsevier.
    36. Fugazza, Marco & Jacques, Jean-Francois, 2004. "Labor market institutions, taxation and the underground economy," Journal of Public Economics, Elsevier, vol. 88(1-2), pages 395-418, January.
    37. Friedman, Eric & Johnson, Simon & Kaufmann, Daniel & Zoido-Lobaton, Pablo, 2000. "Dodging the grabbing hand: the determinants of unofficial activity in 69 countries," Journal of Public Economics, Elsevier, vol. 76(3), pages 459-493, June.
    38. Hoon, Hian Teck & Phelps, Edmund S., 1997. "Growth, wealth and the natural rate: Is Europe's jobs crisis a growth crisis?," European Economic Review, Elsevier, vol. 41(3-5), pages 549-557, April.
    39. Klarita Gërxhani, 2004. "The Informal Sector in Developed and Less Developed Countries: A Literature Survey," Public Choice, Springer, vol. 120(3_4), pages 267-300, September.
    40. Maxim Bouev, 2005. "State Regulations, Job Search and Wage Bargaining: A Study in the Economics of the Informal Sector," William Davidson Institute Working Papers Series wp764, William Davidson Institute at the University of Michigan.
    41. van Praag, C M & Cramer, J S, 2001. "The Roots of Entrepreneurship and Labour Demand: Individual Ability and Low Risk Aversion," Economica, London School of Economics and Political Science, vol. 68(269), pages 45-62, February.
    42. Lucas, Robert Jr., 1988. "On the mechanics of economic development," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 3-42, July.
    Full references (including those not matched with items on IDEAS)

    More about this item


    entrepreneurship; underground economy; shadow economy; unemployment; human capital; endogenous growth; search and matching models;

    JEL classification:

    • E26 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Informal Economy; Underground Economy
    • J23 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Labor Demand
    • J24 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Human Capital; Skills; Occupational Choice; Labor Productivity
    • J63 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - Turnover; Vacancies; Layoffs
    • J64 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - Unemployment: Models, Duration, Incidence, and Job Search
    • L26 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Entrepreneurship
    • O40 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - General

    NEP fields

    This paper has been announced in the following NEP Reports:


    Access and download statistics


    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:css:wpaper:2010-07. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Gennaro Zezza). General contact details of provider: .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.