Explaining and tackling the informal economy: an evaluation of competing perspectives

Colin C Williams

doi:10.1515/openec-2019-0007

Abstract

AbstractThis paper provides an evidence-based evaluation of the competing ways of explaining and tackling the informal economy. Conventionally, participants have been viewed as rational economic actors who engage in the informal economy when the benefits outweigh the costs, and thus participation is deterred by increasing the sanctions and/or risks of detection. Recently, however, an alternative social actor approach has emerged viewing participation to result from a lack of vertical trust (i.e., their norms, values and beliefs are not in symmetry with the laws and regulations) and horizontal trust (i.e., they believe many others are non-compliant). Reporting 2,000 face-to-face interviews conducted in Croatia in 2015, only a weak and partial association is found between participation in the informal economy and the perceived level of penalties and risks of detection, but a strong significant association with both the level of vertical and horizontal trust. Those who perceive a larger proportion of the population to be engaged in the informal economy, and those whose norms differ to the laws and regulations, display a significantly greater likelihood of participating in the informal economy. The theoretical and policy implications are then discussed.

Highlights

The aim of this paper is to evaluate the competing ways of explaining and tackling the informal economy
Which population groups are more likely to participate in the informal economy? And is participation in the informal economy associated with respondents’ perceptions of the level of penalties and risks of detection, as well as their perceptions of the propensity of others to participate in the informal economy and whether their norms, values and beliefs are in symmetry with the laws and regulations?
This survey has evaluated the effectiveness of the conventional rational economic actor approach which explains participation in the informal economy in terms of the benefits outweighing the costs and this seeks to tackle the informal economy by increasing the perceived penalties and risks of detection, and the social actor approach which explains the informal economy in terms of the level of vertical and horizontal trust and tackles it by improving these

Summary

Introduction

The aim of this paper is to evaluate the competing ways of explaining and tackling the informal economy. Grounded in institutional theory (North, 1990), this views participation in the informal economy to arise when the norms, values and beliefs of citizens (i.e., the informal institutions) are not aligned with the laws and regulations of the formal institutions (Alm et al, 2010; Cummings et al, 2009; Kirchler, 2007; Murphy, 2008; Torgler, 2007; Williams and Horodnic, 2015a,b), and there is a lack of what is here termed “vertical trust”. This social actor approach has started to view participation in the informal economy as influenced determined by citizens’ lack of horizontal trust that others are operating in a compliant manner

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Conclusion