Article Review: Underground Economy
INTRODUCTION
In essence, a successful critical analysis concentrates in achieving a balanced appraisal. The economic meaning of this idea is the analysis should include the audience in a concise analysis of the strengths, applicability, and weakness in the ideas presented in the paper. Ideally, good peer-reviewed articles in Economics should follow the scientific technique of research. This paper is a review of Blackburn, Bose and Capasso’s study on the interconnection between the underground economy, tax evasion, and financial development. It tends to analyze how the authors’ contents fit the objectivity and logic of Economic Research.
OBJECTIVE
The article sets out to study the connection between financial development and the underground economy using a bank intermediation and tax evasion model.
CONCEPTS
Blackburn, Bose and Capasso’s paper centers on a clear definition of three main concepts, namely, financial development, tax evasion, and the underground economy. The paper describes the underground economy as a part of a country’s economic activity that remains unrecorded hence untaxed and unregulated by the formal government. The presence of such sectors is a reflection of a visible incentive for economic agents to hide their economic activities. Financial development refers to an increase in the efficiency and outreach of institutions that form a country’s financial sector. Finally, tax evasion is the intentional failure of an economic agent to meet their tax obligations to the central government. Economic agents evade taxes because it would be less rewarding if practiced otherwise (245-246).
ARGUMENT
The central argument hypothesis is that financial development results in a reduction in tax evasion and a shrinkage in the spread of shadow economies.
METHOD:
As stated earlier, Blackburn, Bose, and Capasso look into their proposed connections by developing simple econometric models of financial intermediation and tax evasion (247-250). The assumptions, proofs and implications of these models provide quantifiable evidence that the three factors share a special connection (Hymans). They measure past relationships among the key variables such as tax rates and contractual interest rates to reveal the current and possible future relationship between the three factors.
EVIDENCE
Both the models and method have the ability to detail observed inverse relationships between financial development and the rate at which agents evade taxes. For instance, the former is sufficiently high when the latter is at its minimum and vice versa. Also, when financial development is in the middle, tax evasion decreases with subsequent increase in financial markets efficiency.
VALUES
The value propositions throughout the article remain clear to detail. The authors use propositions and implications after every mathematical step to offer evidence on the possible implications of various behaviors. Unlike other previous studies, Blackburn, Bose, and Capasso offer an easy and clear way for Economists to quantify the possible relationships between the three factors using simple econometric modeling. As a show of consistency with previous literature, these researchers are of the view that underground economies are much higher in developing countries than their developed counterparts (Blackburn, Bose, and Capasso 250).
LITERATURE
Their adequacy in economic research places emphasis on the need for continuous literature development. Thus, without undermining the importance of other researchers, the authors focus on financial development as a factor that other writers have ignored in their analysis of shadow economies. That is, they suggest a different channel through which financial development can help in the growth of an economy. They dub this channel the shrinkage of the size of shadow economies.
CONTRIBUTION
Their results can best fit into the advancement of our current knowledge on underground as well as the potential connection between the financial and real sectors of a formal economy. The authors assert that over the recent past, economic literature on these elements has concentrated on understanding such connections as well as identifying various ways through which governments use financial development to shape their economies’ growth possibilities. Out of this literature, there is an overall agreement that financial development plays a vital role in enhancing economic growth. The idea is that formal economies use financial institutions to develop an environment that allows lenders and borrowers to increase their productivity and volume of investment (Blackburn, Bose, and Capasso).
Blackburn, Bose, and Capasso have an extensive experience in economic research and work with three reputable institutions of higher education from the US, UK, and Italy. The authors use a clear, confident and concise to explain the central theme. This tone shows their mastery on the topic at hand.
OVERALL ASSESSMENT
Second, the interconnection between financial sector outreach and information sharing as well as a firm’s decision to evade taxes varies across countries. Indeed, as Claessens and Yurtoglu suggests, while there is a muted relationship between these factors, the relationship grows stronger as one moves to developing countries. Similarly, there is a significant chance that the inter-factor relationship varies across economic agents of different sizes. It follows that the influence of a more effective information sharing and financial outreach system is statistically stronger across smaller than larger firms (8-13).
Finally, the association between information sharing and financial institution outreach would vary across industries, as would firms’ decision to slip into the shadow economy of tax evasion. Particularly, firms that operate in financially dependent industries have a higher need for liquidity thus attracting superior growth opportunities. Their position means that they have a less likelihood of evading taxes in countries with superior institutional outreach and credit registries. These findings show a significant consistency with economic theory. One would expect small and medium size enterprises to reap additional benefits in economies that offer formal financial services. Similar results apply to firms with excessive financial and liquidity requirements (Claessens and Yurtoglu 8-13).
CONCLUSION
Blackburn, Bose, and Capasso’s findings offer practical evidence on the crucial connection between tax evasion, shadow economies, and financial development. As economies grow, the subsequent growth in the banking sector through outreach increases information sharing channels. An increase in information sharing results in reduced informality and tax evasion. Thus, financial development limits the chances of tax evasion, which in turn reduces the occurrence of shadow economies. I would conclude by stating that this article is an extremely important addition to applied and economic theory concerning underground economies.
Works cited
Blackburn, Keith, Niloy Bose and Salvatore Capasso. "Tax evasion, the underground economy and financial development." Journal of Economic Behavior & Organization, Vol 83 (2012): 243– 253. PDF.
Claessens, Stijn and Burcin Yurtoglu. Corporate Governance and Development: An Update . Washington, DC: The International Finance Corporation, 2012. PDF.
Hymans, Saul. "Forecasting and Econometric Models." 2008. Library of Economics and Liberty. Web. 12 April 2016. <http://www.econlib.org/library/Enc/ForecastingandEconometricModels.html>.
