Determinants of the Size of the Informal Economy - An Empirical Evidence for the Role of Institutions
DOI:
https://doi.org/10.54172/tvb6kv07Keywords:
Informal Economy, Institutions, Corruption, Business RegulationsAbstract
The informal economy comprises all economic activities that are unregistered or unregulated by the state. In the past 40-50 years the informal economy has grown globally and its emergence has implications for economic development and the formal economy. Recently, many theories have emerged attempting to explain the phenomenon of the informal economy; one of them is the neoliberal explanation, which shifted the discussion about the informal economy toward the role of institutions. This paper aims to evaluate the neoliberal view that the informal economy will be larger in countries with higher regulatory and legislative burdens, lower rule of law, and higher corruption. The importance of these institutional factors in explaining the rise of the informal economy was assessed using panel data analysis to examine the relationship between the size of the informal economy and institutional factors for a sample of 90 countries. The results supported the institutional approach in explaining the informal economy and proved the validity of the neoliberal argument that the informal economy is larger when there is a greater regulatory burden and when there is an inefficient public sector marred by corruption. Therefore, policies aimed at solving the problem of the informal economy should focus on improving governance, improving the environment of legislation and systems, and establishing financial and tax incentives aimed at integrating private investment of individuals and projects into the formal economy.
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