Underground Economy

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Underground economy

The underground economy or black market is a market where all commerce is conducted without regard to taxation, law or regulations of trade. The term is also often known as the underdog, shadow economy, black economy, parallel economy or phantom trades. In modern societies the underground economy covers a vast array of activities. It is generally smallest in countries where economic freedom is greatest, and becomes progressively larger in those areas where corruption, regulation, or legal monopolies restrict legitimate economic activity. The black or underground economy is the economic activity which is not measured by government statistics. This can include a range of different economic activities not measurable by the government, such as: smuggling alcohol, tobacco and fuel,weaponry prostitution, copyrighted media,illegal drugs. It includes: ▪ Selling goods illegally e.g. criminal goods;

▪ Selling goods and services and not declaring income earnt; ▪ Self sufficiency (If a farmer grows his own food, he will not appear to have any income, his sustenance comes from his own produce, but, there is no buying and selling). Economic activity which is not recorded can create a real problem for governments, such as: ▪ Difficulty in measuring GDP and living standards.

▪ Difficulty in regulating standards in the black economy. ▪ Criminal activity.
▪ Loss of Tax Revenue
▪ Inequality. Firms benefit from avoiding paying tax.

Size of the Black Economy:
o UK 10,6% of GDP
o US 8% of GDP
o Italy 30%
o Russia 40-50%
o Sub Saharan Africa 50-60%
o China 20%
o Japan, 6%

There are various methods for estimating underground economy. The optimum method for a country depends on the features of its economy, and its tax and legal system. Based on some common features, the methods can be classified in the following way:

a) Direct methods:
• surveys,
• tax audit.
b) Indirect methods:
• tax statistics and national accounts difference,
• income-expenditure difference – a macro-approach,
• income-expenditure difference – a micro-approach,
• labour market,
• cash in circulation,
• the transaction method,
• the input method.
c) Causal models:
• cash demand,
• determinants/indicators.

The UK economy is the world's fifth largest. Gross Domestic Product (GDP) was almost US$2.2 trillion in 2005 (equivalent to around £1.16 trillion sterling at November 2006 prices). Only the economies of the US, Japan, Germany and China are larger .  The black economy has been estimated at 10.6% of GDP. Based on analysis of household expenditure and income data, researchers at the University of Cyprus estimated that patterns of expenditure for households where there were self-employed individuals matched those of employees on much higher reported incomes .  The proceeds of crime are estimated at around 2% GDP. This is income obtained from illegal activity as opposed to non-declared income from legal activity.

Estimating the size of the black economy is important for assessing the seriousness of the problem, for the correct measurement of GDP and employment. To some extent, certain household groups (such as the selfemployed) under-report their income, their expenditure pattern would resemble the expenditure pattern of better off households known to report their income correctly – such as civil servants. The researchers show that failing to account for this can understate the size of the black economy. The results indicate that self-employment income reported by blue collar households needs to be scaled up by a factor of 2.18 to correct for underreporting; whereas the corresponding figure for self-employment income reported by white collar households is 1.64. Considering that reported self-employment income is around 12% of GDP and that blue collar households account for nearly...
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