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State Aid Policies and Underground Activities

  • Bruno Chiarini
  • Elisabetta Marzano
  • Francesco Busato
  • Pasquale De Angelis

The main goal of this paper is to examine the implications of firm-oriented fiscal policies, such as capital subsidies and tax allowances, in an economy with an underground sector. In addition, we investigate whether the technology structure of “hidden” production may facilitate or counteract the effects of fiscal policies on firm behavior. Among our results we stress the following: first, capital subsidies promote tax evasion; these subsidies induce firms to increase actual capital accumulation (a level effect), but also produce a reduction in the regular share of aggregate capital stock (a composition effect). Second, tax relief reduces underground activities and fosters capital accumulation, as well as aggregate production. Third, the technology structure matters for determining how to allocate resources between formal and informal production, hence the amount of reported revenues.

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Paper provided by D.E.S. (Department of Economic Studies), University of Naples "Parthenope", Italy in its series Discussion Papers with number 4_2007.

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Date of creation: 01 Apr 2007
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Handle: RePEc:prt:dpaper:4_2007
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  1. Isabelle Joumard, 2002. "Tax systems in European Union countries," OECD Economic Studies, OECD Publishing, vol. 2002(1), pages 91-151.
  2. Lawrence H. Summers, 1981. "Taxation and Corporate Investment: A q-Theory Approach," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 12(1), pages 67-140.
  3. Benhabib, Jess & Farmer, Roger E A, 1996. "Indeterminacy and Sector-specific Externalities," CEPR Discussion Papers 1403, C.E.P.R. Discussion Papers.
  4. Loayza, Norman V., 1996. "The economics of the informal sector: a simple model and some empirical evidence from Latin America," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 45(1), pages 129-162, December.
  5. Ralph-C Bayer, 2003. "A Contest with the Taxman: The Impact of Tax Rates on Tax Evasion and Wastefully Invested Resources," School of Economics Working Papers 2003-06, University of Adelaide, School of Economics.
  6. Joel Slemrod & Shlomo Yitzhaki, 2000. "Tax Avoidance, Evasion, and Administration," NBER Working Papers 7473, National Bureau of Economic Research, Inc.
  7. Rainer Nitsche & Paul Heidhues, 2006. "Study on methods to analyse the impact of state aid on competition," European Economy - Economic Papers 244, Directorate General Economic and Financial Affairs (DG ECFIN), European Commission.
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  11. Andreoni, J. & Erard, B. & Feinstein, J., 1996. "Tax Compliance," Working papers 9610r, Wisconsin Madison - Social Systems.
  12. Yitzhaki, Shlomo, 1974. "Income tax evasion: A theoretical analysis," Journal of Public Economics, Elsevier, vol. 3(2), pages 201-202, May.
  13. Francesco Busato & Bruno Chiarini, 2004. "Market and underground activities in a two-sector dynamic equilibrium model," Economic Theory, Springer, vol. 23(4), pages 831-861, May.
  14. Busato, Francesco & Chiarini, Bruno & Rey, Guido M., 2012. "Equilibrium implications of fiscal policy with tax evasion: A long run perspective," International Review of Law and Economics, Elsevier, vol. 32(2), pages 197-214.
  15. Loayza, Norman V., 1994. "Labor regulations and the informal economy," Policy Research Working Paper Series 1335, The World Bank.
  16. Bontempi Maria Elena & Giannini Silvia & Guerra Maria Cecilia & Tiraferri Angela, 2001. "Incentivi agli investimenti e tassazione dei profitti: l'impatto delle recenti riforme fiscali sul "cash flow" delle società di capitali," Politica economica - Journal of Economic Policy (PEJEP), Società editrice il Mulino, issue 3, pages 249-284.
  17. Dan Anderberg & Alessandro Balestrino & Umberto Galmarini, 2003. "Search and Taxation in a Model of Underground Economic Activities," Economic Inquiry, Western Economic Association International, vol. 41(4), pages 647-659, October.
  18. Hibbs Jr., Douglas A. & Piculescu, Violeta, 2005. "Tax Toleration and Tax Compliance: How Government Affects the Propensity of Firms to Enter the Uno¢ cial Economy," Working Papers in Economics 173, University of Gothenburg, Department of Economics, revised 12 Jun 2006.
  19. Trandel, Greg & Snow, Arthur, 1999. "Progressive income taxation and the underground economy," Economics Letters, Elsevier, vol. 62(2), pages 217-222, February.
  20. Bergström, Fredrik, 1998. "Capital Subsidies and the Performance of Firms," SSE/EFI Working Paper Series in Economics and Finance 285, Stockholm School of Economics.
  21. Abel, Andrew B., 1982. "Dynamic effects of permanent and temporary tax policies in a q model of investment," Journal of Monetary Economics, Elsevier, vol. 9(3), pages 353-373.
  22. Alm, James, 1985. "The Welfare Cost of the Underground Economy," Economic Inquiry, Western Economic Association International, vol. 23(2), pages 243-63, April.
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