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Official Regulations and the Shadow Economy: A Labour Market Approach

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  • Maxim Bouev

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Abstract

This work revisits the role of regulations in emergence o f the shadow economy. In particular, it supplements the previous theoretical research that mainly ignored the fact that the decision to ???go underground??? is essentially a result of both employers and employees interacting in the labour market. We adapt a job search approach (see, e.g. Acemoglu 2001) to model a transitional economy with an informal sector. We apply and develop the idea first documented inter alia by Loayaza (1996) that there are two types of regulations that influence the size of the informal labour market through two different channels. Red tape and bureaucratic extortion (bribing) make starting a new business officially a not very attractive option and can lead new firms to the informal sector. On the other hand, taxes and redundancy pay make official firms offer lower wages which drives potential employees away into underground jobs. Depending on various combinations of policy parameters equilibria with different share of the informal economy are possible. The paper draws conclusions regarding the role of unemployment benefits in reducing the size of the informal economy. Policy implications are offered.

Suggested Citation

  • 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.
  • Handle: RePEc:wdi:papers:2002-524
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Koziarivska Larysa & Oliinyk Andrii, 2006. "Effects of the 2004 Personal Income Tax System Reform on the Shadow Sector in Ukraine," EERC Working Paper Series 06-08e, EERC Research Network, Russia and CIS.
    2. Horst Feldmann, 2008. "Business regulation and labor market performance around the world," Journal of Regulatory Economics, Springer, vol. 33(2), pages 201-235, April.
    3. Gaetano Lisi & Maurizio Pugno, 2015. "A matching model of endogenous growth and underground firms," International Journal of Economic Theory, The International Society for Economic Theory, vol. 11(4), pages 347-369, December.
    4. 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.
    5. 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.
    6. Mariano Bosch & Julen Esteban-Pretel, 2009. "Cyclical Informality and Unemployment," CIRJE F-Series CIRJE-F-613, CIRJE, Faculty of Economics, University of Tokyo.
    7. Mariano Bosch, 2006. "Job Creation and Job Destruction in the Presence of Informal Labour Markets," CEP Discussion Papers dp0761, Centre for Economic Performance, LSE.
    8. Lisi, Gaetano, 2010. "Introduzione allo studio dei modelli di "matching" del mercato del lavoro
      [Introduction to the study of matching models of unemployment]
      ," MPRA Paper 22735, University Library of Munich, Germany.
    9. Gaetano LISI, 2011. "Optimal taxation and monitoring in an economy with matching frictions and underground activities," Eastern Journal of European Studies, Centre for European Studies, Alexandru Ioan Cuza University, vol. 2, pages 5-11, June.
    10. Feldmann, Horst, 2009. "Business regulation, labor force participation and employment in industrial countries," Journal of Economics and Business, Elsevier, vol. 61(3), pages 238-260.
    11. Lisi GAETANO, 2010. "The Unemployment Volatility Puzzle: The Role Of The Underground Economy," Journal of Applied Economic Sciences, Spiru Haret University, Faculty of Financial Management and Accounting Craiova, vol. 5(2(12)/Sum), pages 59-69.
    12. Lisi, Gaetano, 2011. "Matching Models of Equilibrium Unemployment: An Overview," MPRA Paper 30191, University Library of Munich, Germany.
    13. Bogdan Mróz, 2012. "The Shadow Economy and Systemic Transformation: The Case of Poland," Chapters,in: Tax Evasion and the Shadow Economy, chapter 6 Edward Elgar Publishing.
    14. Gaetano Lisi, 2016. "Unemployment, underground economy and economic growth in a matching model of behavioural economics," International Review of Economics, Springer;Happiness Economics and Interpersonal Relations (HEIRS), vol. 63(2), pages 159-170, June.
    15. Bosch, Mariano & Esteban-Pretel, Julen, 2012. "Job creation and job destruction in the presence of informal markets," Journal of Development Economics, Elsevier, vol. 98(2), pages 270-286.
    16. Gaetano Lisi, 2010. "The Strange Case of Dr. “Unemployed” and Mr “Hidden” in Italy," Economics Bulletin, AccessEcon, vol. 30(4), pages 2802-2816.
    17. Lisi, G., 2011. "Entrepreneurship, On-the-job Search and Informal Jobs," Journal of the New Economic Association, New Economic Association, issue 9, pages 33-46.
    18. 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.

    More about this item

    Keywords

    informal economy; labour markets; corruption; regulations; search models;

    JEL classification:

    • H26 - Public Economics - - Taxation, Subsidies, and Revenue - - - Tax Evasion and Avoidance
    • J41 - Labor and Demographic Economics - - Particular Labor Markets - - - Labor Contracts
    • J42 - Labor and Demographic Economics - - Particular Labor Markets - - - Monopsony; Segmented Labor Markets
    • J64 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - Unemployment: Models, Duration, Incidence, and Job Search
    • O17 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Formal and Informal Sectors; Shadow Economy; Institutional Arrangements

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