Government’s Invincible Routine

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A multitude of research shows that the shadow economy in Lithuania is decreasing. Yet, the pace of change is not as fast as desired. The level of the shadow economy remains high and there are still plenty of reasons for this kind of economic activity to emerge. A survey conducted by the Lithuanian Free Market Institute in six countries in the region shows that a considerable proportion of Lithuanian population justifies undeclared economic activity.

As many as 43% of people in Lithuania justify employment whereby part of the wage is paid under the table. A total of 36% justify unregistered purchases from legal sellers. More than a fifth justify engagement in smuggling and illegal production or sales of cigarettes, alcohol products and fuel. A high degree of tolerance of the shadow economy suggests several things. Firstly, the more the public justifies a certain activity, the easier it becomes to engage in it. It is also suggestive of the scale of the shadow economy: the more people engage in undeclared economic activity, the more justifiable it becomes.

The government usually fights the shadow by punishing and demonising shadow economy actors. But is it an effective strategy in a situation when the public justifies the shadow economy? It is naive to think that it is possible to combat the shadow economy by provoking public discontent when the public believes it is a normal practice. It is important to realize the main aspect of the shadow economy which is evidenced by everyday life but all too often disregarded by those in power. The more foolish the laws are, the larger the shadow economy. The higher the taxes, the bigger the incentive to evade them. The more economic activity, people and companies are restrained by regulations and prohibitions, the lesser the compliance.

Shadow economic activity is usually seen as an immoral, unjustifiable practice because it involves tax evasion and noncompliance with law. However, some view the shadow economy as a way to avoid something that they consider to be unjust – for instance, giving away 40% of one’s wage to the government or 80% of the cigarette price in taxes. Admittedly, some would hide their taxes and disobey laws even if the taxes or laws were favourable. Such people abuse the shadow economy. Yet, we should not ignore that part of the population who operate in the shadow economy simply because they would hardly survive in the official one.

The shadow economy is a compelling phenomenon in the sense that it reduces the government’s arrogance. MPs and government officials regularly come up with ideas about how people should lead their lives —pay more taxes, stop smoking and drinking, manage their businesses in one way or another, etc. However, if law diverts too much from the reality, the reality adjusts itself by shifting to the shadow. This is the positive aspect of the shadow economy. That is to say that the shadow economy should not be viewed only as a criminal activity. It is an economic activity that creates a certain value and makes people react to economic incentives. The easier it is to operate legally, the fewer choose to go into the shadow. Notably, undeclared operations exist in almost every sphere where economic activity is taxed or regulated. That is why in fighting the shadow economy it is essential to balance measures that are aimed to introduce stricter control and punishment of the shadow economy with policies that deal with the drivers of the shadow economy, i.e. taxes and regulation, and are tailored to create a more favourable economic environment.

Want to know more on shadow economy? Enjoy one of our back issues of 4liberty.eu Review: Unraveling Shadow Economy

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