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Keeping both Corruption and the Shadow Economy in Check: The Role of Decentralization

  • Roberto Dell'Anno


    (Department of Economics and Statistics, University of Salerno)

  • Désirée Teobaldelli


    (Department of Law, University of Urbino “Carlo Bo”)

This paper puts forward a framework for evaluating the effects of governmental decentralization on the shadow economy and corruption. The theoretical analysis demonstrates that decentralization exerts both a direct and an indirect impact on the shadow economy and corruption. Firstly, decentralization helps to mitigate government-induced distortions, thus limiting the extent of corruption and the informal sector in a direct way. Secondly, in more decentralized systems, individuals have the option to avoid corruption by moving to other jurisdictions, rather than going underground. This limits the impact of corruption on the shadow economy and implies that decentralization is also beneficial in an indirect way. As a result, our analysis documents a positive relationship between corruption and the shadow economy; however, this link proves to be lower in decentralized countries. To test these predictions, we developed an empirical analysis based on a cross-country database of 145 countries that includes different indexes of decentralization, corruption and shadow economy. The empirical evidence is consistent with the theory. Results are robust and significant even after controlling for the endogeneity bias.

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Paper provided by University of Urbino Carlo Bo, Department of Economics, Society & Politics - Scientific Committee - L. Stefanini & G. Travaglini in its series Working Papers with number 1213.

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Length: 37 pages
Date of creation: 2012
Date of revision: 2012
Handle: RePEc:urb:wpaper:12_13
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