A study on the Unofficial Economy

There is a significant amount of output that is produced in the unofficial sector by making use of a considerable share of productive resources. This does have important implications in the designation of effective macroeconomic policies and also for the growth and prosperity of the private sector. Economists of different countries have tried to assess the size of this sector and also analyze the factors that stimulate its expansion. In this book we built a theoretical model that defines the optimum share of the unofficial economy (hidden sales) as a function of the tax rate, the probability of evaders being caught and the severity of the punishment. By using data from firm level surveys of Albanian firms we tested the validity of this model and the results highlight that the probability of detection, the integrity of courts, the incidence of protection payment by firms and the uncompetitive practices of their rivals (all indicators of weak formal institutions), accompanied by the lack of trust in these institutions, increase the share of the UE. Better and stronger institutions not only help fight the UE but are key factors to the development of any economic system.