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What we pay in the shadow: Labor tax evasion, minimum wage hike and employment

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  • Nicolas Gavoille
  • Anna Zasova

Abstract

The interactions between minimum wage policy and tax evasion remain largely unknown. We study firm-level employment effects of a large and biting minimum wage increase in Latvia conditional on labor tax compliance. The Latvian labor market is characterized by the prevalence of envelope wages, i.e. unreported cash-in-hand complements to the official wage. We apply machine learning to classify firms between compliant and tax-evading using a unique combination of administrative and survey data. We then show that firms engaged in labor tax evasion are insensitive to the minimum wage shock. Our results suggest that these firms use wage underreporting as an adjustment margin, converting (part of) the envelope into legal wage. Increasing minimum wage contributes to tax rule enforcement, but this comes at the cost of negative employment consequences for compliant firms.

Suggested Citation

  • Nicolas Gavoille & Anna Zasova, 2021. "What we pay in the shadow: Labor tax evasion, minimum wage hike and employment," Working Papers CEB 21-017, ULB -- Universite Libre de Bruxelles.
    • Handle: RePEc:sol:wpaper:2013/331990
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    Cited by:

    1. Konstantins Benkovskis & Olegs Matvejevs, 2023. "The New Version of Latvian CGE Model," Working Papers 2023/02, Latvijas Banka.
    2. Gavoille, Nicolas & Zasova, Anna, 2021. "Foreign ownership and labor tax evasion: Evidence from Latvia," Economics Letters, Elsevier, vol. 207(C).
    3. Nicolas Gavoille & Anna Zasova, 2021. "Minimum wage spike and income underreporting: a back-of-the-envelope-wage analysis," SSE Riga/BICEPS Research Papers 7, Baltic International Centre for Economic Policy Studies (BICEPS);Stockholm School of Economics in Riga (SSE Riga).
    4. Bíró, Anikó & Prinz, Dániel & Sándor, László, 2022. "The minimum wage, informal pay, and tax enforcement," Journal of Public Economics, Elsevier, vol. 215(C).
    5. Garcia-Louzao, Jose & Tarasonis, Linas, 2023. "Wage and Employment Impact of Minimum Wage: Evidence from Lithuania," Journal of Comparative Economics, Elsevier, vol. 51(2), pages 592-609.
    6. Clemens, Jeffrey & Strain, Michael R., 2022. "Understanding “Wage Theft”: Evasion and avoidance responses to minimum wage increases," Labour Economics, Elsevier, vol. 79(C).
    7. Konstantins Benkovskis & Ludmila Fadejeva & Anna Pluta & Anna Zasova, 2023. "Keeping the best of two worlds: Linking CGE and microsimulation models for policy analysis," Working Papers 2023/01, Latvijas Banka.
    8. Gavoille, Nicolas & Zasova, Anna, 2023. "Minimum wage spike and income underreporting: A back-of-the-envelope-wage analysis," Journal of Comparative Economics, Elsevier, vol. 51(1), pages 372-402.

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    More about this item

    Keywords

    Minimum wage; Employment; Tax evasion;
    All these keywords.

    JEL classification:

    • J08 - Labor and Demographic Economics - - General - - - Labor Economics Policies
    • H26 - Public Economics - - Taxation, Subsidies, and Revenue - - - Tax Evasion and Avoidance
    • E26 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Informal Economy; Underground Economy

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