Measuring the Shadow Economy: Endogenous Switching Regression with Unobserved Separation
Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute)
CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute); Charles University in Prague; Academy of Sciences of the Czech Republic; Centre for Economic Policy Research (CEPR)
Randall K. Filer
City University of New York, CUNY Hunter College - Department of Economics; Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute); University of Michigan at Ann Arbor - The William Davidson Institute; CESifo (Center for Economic Studies and Ifo Institute)
October 13, 2012
IZA Discussion Paper No. 6901
We develop an estimator of unreported income, perhaps due to tax evasion, that does not depend on as strict identifying assumptions as previous estimators based on microeconomic data. The standard identifying assumption that the self-employed underreport income whereas wage and salary workers do not is likely to fail in countries where employees are often paid under the table or engage in corrupt activities. Assuming that evading individuals have a higher consumption-income gap than non-evading ones due underreporting both to tax authorities and in surveys, an endogenous switching model with unknown sample separation enables the estimation of consumption-income gaps for both underreporting and truthful households. This avoids the need to identify non-evading and evading groups ex-ante. This methodology is applied to data from Czech and Slovak household budget surveys and shows that estimated evasion is substantially higher than found using previous methodologies.
Number of Pages in PDF File: 22
Keywords: shadow economy, switch regression, income-consumption gap
JEL Classification: C34, E01, H26, J39
Date posted: October 13, 2012
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