Currency Demand Approach Research Articles

On the asymmetric relationship between the size of the underground economy and the change in effective tax rate in Taiwan

This paper examines the asymmetric response of the underground economy (UE) in Taiwan to an effective tax rate change. The UE size in Taiwan from 1962 to 2003 is estimated using a cash deposit ratio (CDR) approach and a currency demand approach. The impact of an increase in the effective tax rate on UE is greater than that of a decrease. In addition, the impact on the UE is stronger for direct than for indirect taxes. The difference between upward and downward movements is significant for both indirect and direct taxes in the CDR approach. However, the difference is only significant for indirect taxes in the currency demand approach.

Measuring the Underground Economy with the Currency Demand Approach: A Reinterpretation of the Methodology, with an Application to Italy

We contribute to the debate on how to assess the size of the underground (or shadow) economy by proposing a reinterpretation of the traditional Currency Demand Approach (CDA) a la Tanzi. In particular, we introduce three main innovations. First, we take a direct measure of the value of cash transactions - the flow of cash withdrawn from bank accounts relative to total non‐cash payments - as the dependent variable in the money demand equation. This allows us to avoid unrealistic assumptions on the velocity of money and the absence of any irregular transaction in a given year, overcoming two severe critiques to the traditional CDA. Second, in place of the tax burden level, usually intended as the main motivation for non‐compliance, we include among the covariates two direct indicators of detected tax evasion. Finally, we control also for the role of illegal production considering crimes like drug dealing and prostitution, which - jointly with the shadow economy - contributes to the larger aggregate of the non‐observed economy and represents a significant component of total cash payments. We propose then an application of this “modified CDA” to a panel of 91 Italian provinces for the years 2005–08.

A Re-Examination of the U.S. Underground Economy: Size, Estimation, and Policy Implications

We re-examine the size of the underground economy in the U.S. between 1972 and 2006, after properly adjusting for several statistical issues relating to its estimation. The dynamic error-correction-based currency demand approach confirms that income tax rates have no contemporaneous effect on currency demand, but they have positive and significant effects with a one-period lag. In addition, we observe that the size of the underground economy in the U.S. has grown considerably during the post-1990 period from $148.7 billion (3.4% of official GDP) in 1973 to $691.2 billion (6.0% of official GDP) in 2006. We also find that misspecified models have a propensity for overstating the size of the underground economy. During recessionary periods, the underground and official economies move in a same direction, although the growth rates of the underground economy are more unpredictable than those of the official economy.

An ARDL model of unrecorded and recorded economies in Turkey

PurposeThe goal of this paper is twofold: to estimate the unrecorded economy (UE) of Turkey over the period 1987‐2007 using a revised version of the currency demand approach, and to analyze the relationship between the UE and recorded GDP.Design/methodology/approachThe paper proposes to measure the UE using the autoregressive distributed lag (ARDL) approach to cointegration analysis. Toda‐Yamamoto causality tests are also conducted to identify the relationship between unrecorded and recorded GDP.FindingsThis research provides fresh evidence of the size of the UE relative to the recorded GDP in Turkey, which ranges from 10.7 percent to 18.9 percent over the estimation period. Moreover, empirical evidence concretely suggests that causality runs from the recorded GDP to the UE. However, there exists a mild reverse causality.Research limitations/implicationsMeasures of the UE, and particularly those based on monetary approaches, have been criticized on several counts, including their lack of robustness and weak theoretical foundations (e.g. the velocity of money in the recorded economy and in the UE is the same).Practical implicationsThis analysis suggests that the UE is pro‐cyclical with respect to the recorded GDP. It suggests that the phenomenon of the UE is more dangerous when the economy is in an expensive phase. Hence, during a positive business cycle, it is clearly desirable for the government that the anti‐UE controls should be more effective.Originality/valueThe ARDL approach to estimating the size of the UE eliminates the criticism of the previous currency demand estimations, which were based on partial adjustment models. Therefore, the paper's econometric selected cointegration methodology and causality test is an improvement over the existing studies.

The dynamics of parallel economies. Measuring the informal sector in Mexico

The existence of parallel economies that operate in the shadows of informality within most Latin American countries is widely recognized by the economic literature. However, its composition, size and effects on economic growth are still open questions. In this paper, we estimate the size and the evolution of the Mexican informal economy in the last three decades using a vector error correction model. In addition to the standard explanatory variables traditionally used in the currency demand approach, we include remittances given their relevance in the Mexican economic system. The results indicate that informality prior to the late 1980s accounted for at least two thirds of GDP, while stabilizing around one third of GDP in the last decade. Furthermore, our estimates provide evidence of a positive long-run relationship between informality and economic growth.

A re-examination of the U.S. underground economy: size, estimation, and policy implications

We re-examine the size of the underground economy in the U.S. between 1972 and 2006 after properly adjusting for several statistical issues relating to its estimation. The dynamic error-correction-based currency demand approach confirms that income tax rates have no contemporaneous effect on currency demand, but they have positive and significant effects with a one-period lag. In addition, we observe that the size of the underground economy in the U.S. has grown considerably during the post-1990 period from $148.7 billion (3.4% of official GDP) in 1973 to $691.2 billion (6.0% of official GDP) in 2006. We also find that misspecified models have a propensity for overstating the size of the underground economy. During recessionary periods, the underground and official economies move in a same direction, although the growth rates of the underground economy are more unpredictable than those of the official economy.

The Dynamics of Parallel Economies. Measuring the Informal Sector in Mexico

The existence of parallel economies that operate in the shadows of informality within most Latin American countries is widely recognized by the economic literature. However, its composition, size and effects on economic growth are still open questions. In this paper, we estimate the size and the evolution of the Mexican informal economy in the last three decades using a vector error correction model. In addition to the standard explanatory variables traditionally used in the currency demand approach, we include remittances given their relevance in the Mexican economic system. The results indicate that informality prior to the late 1980's accounted for at least two thirds of GDP, while stabilizing around one third of GDP in the last decade. Furthermore, our estimates provide evidence of a positive long run relationship between informality and economic growth.

Measuring the size of the hidden economy in Trinidad & Tobago, 1973–1999

In this paper, an attempt is made to measure the hidden economy of Trinidad & Tobago over the period 1973–1999, within the Structural Cointegrating VAR (SCVAR) framework. Using a Tanzi-type currency demand approach as a starting point, a multiple equation SCVAR model is estimated that contains two long-run relationships linking the demand for currency with other variables. The model is evaluated on the basis of its persistence profiles, its impulse responses and other statistical criteria. It is solved using a Gauss–Siedel algorithm and is used to establish that the size of the hidden economy rose from a low of about 14% of measured GDP in the early 1970s to a high of 36% in 1981, and is currently about 20% of measured GDP. Hidden economic activity is also found to be highly positively correlated with activity in the regular economy.

Türkiye de Kayıtdışı Ekonominin Tahmini

In this study, size of the underground economy in Turkey is estimated econometrically by using Tanzi's methodology in period 1971-2000. According to currency demand approach, the ratio of the underground economy to official one is estimated 24 percent in 2000.

The Underground Economy, the Demand for Currency Approach and the Analysis of Discrepancies: Some Recent European Experience

Recent estimates of the size of the “underground economy” have used the so‐called “demand for currency approach.” One of the assumptions made by these studies is that official statistics do not take into account the underground economy when estimating GDP. After setting some definitions, the paper presents a brief critical review of the method and results obtained for the European Union using this approach. It points out that the different concepts of unreported and unrecorded activities are incorrectly considered to be equivalent. The third section, after a review of the method of estimating the underground economy using the discrepancy approach, presents the new results of the authors which give an indication of the amount of the unreported activities already included in official national accounts statistics in the EU. The results of the discrepancy approach disprove the widespread belief that official statistics only include officially recorded transactions and reinforce the critical view on the results obtained with the currency‐demand approach.

The Increase of the Size of the Shadow Economy of 18 OECD Countries: Some Preliminary Explanations

The latest empirical results of the size of the shadow economy in 18 OECD countries are presented, using the currency demand approach to calculate the shadow economy over time. The results indicate a strong increase in the size of the shadow economy, over the period 1960 to 1998 and for 15 of the 18 investigated OECD-countries the size of the shadow economy is more than 13% of the GNP for the year 1998. Also an analysis is given about the size of influences of major causes (direct and indirect tax burden and government regulation) on the shadow economy for Austria.

Estimating the Size of the Danish Shadow Economy using the Currency Demand Approach: An Attempt

The currency demand approach provides some insight into the size and development of the shadow economy in Denmark. Currency demand is statistically affected by tax rates. The difference in currency demand is calculated by comparing the actual tax burden over time to the lowest tax burden in the period 1952-82. The shadow economy grew steadily to 10 per cent (of GNP) in 1977 and then fluctuated between 7-10 per cent (of GNP) for the period 1978-82. The calculated size fits nicely with the results obtained using the same

The development of the shadow economies for Denmark, Norway, and Sweden: A comparison

By applying the currency demand approach, it is tried to provide some insights about the size and the development of the shadow economies in Denmark, Norway and Sweden. Special emphasis is laid on the role of one cause variable - the marginal tax rate - which is assumed to be strongly associated with the size of the shadow economy. In each of the three Scandinavian countries the demand for currency is influenced in a statistically, highly significant way by the marginal tax rate. The difference in demand for currency is then calculated when the actual tax burden over time is compared to the lowest tax burden over the estimation period 1954 to 1982. Assuming the same velocity of money in the shadow and official economy, the shadow grows from 0% in 1954 to 7% for Denmark, to 8% for Norway and to 10% for Sweden up to 1975. From 1976–1982 it fluctuates between 7–8% for Denmark, between 8–10% for Norway and between 11–13% for Sweden. From 1967 on, Sweden has the largest shadow economy followed by Norway and then by Denmark.