nep-iue New Economics Papers
on Informal and Underground Economics
Issue of 2016‒11‒13
six papers chosen by
Catalina Granda Carvajal
Universidad de Antioquia

  1. Informality and Optimal Public Policy By Bardey, David; Mejía, Daniel
  2. Entrepreneurship in the Shadows: Wealth Constraints and Government Policy By Semih Tumen
  3. The impact of lowering the payroll tax on informality in Colombia By Cristina Fernández; Leonardo Villar
  4. Prefilled Income Tax Returns and Tax Compliance: Evidence from a Natural Experiment By Kotakorpi Kaisa; Laamanen Jani-Petri
  5. Welfare Implications of AEoI By Marcelo Arbex; Sydney Caetano
  6. Optimal Taxation and Public Provision for Poverty Reduction By Ravi Kanbur; Tuuli Paukkeri; Matti Tuomala

  1. By: Bardey, David; Mejía, Daniel
    Abstract: This article tackles the feature of optimal public policy such as the level of enforcement and the supply of public goods in an economy characterized by a huge informal sector. We consider informality as the group of productive activities which,before hand, do not comply (totally or partially) with government regulations. The Government intervenes as a Stackelberg leader and has to decide how to allocate public expenditures, collected through the tax system, between the provision of a public good, which can only be used for formal activties, and enforcement effort, aimed at detecting informal firms that evade taxes. Taking the public policy as given, a representative family, owner of a representative ?rm, decides how to split a ?x amount of labour supply between formal and informal activities. Our results show that the greater are the distortions in the process of tax collection, the larger is the size of the informal sector. Finally, we derive the properties of the optimal public policy. In particular, we show that the shadow cost of public fund represent the rationale of enforcement spending. We also point out that the size of the tax distortion (e.g. the shadow cost of public funds) is inversely related to total income, the tax rate and the provision of the public good. Our calibration results reveal that higher values of the shadow cost of public funds call for more stick (more enforcement) and less carrot (public goods).
    Keywords: Informality, public good and enforcement.
    JEL: K10 K20 K42 O17
    Date: 2016–10
  2. By: Semih Tumen
    Abstract: I develop a dynamic model of forward-looking entrepreneurs, who decide whether to operate in the formal economy or informal economy and choose how much to invest in their businesses, taking government policy as given. The government has access to two policy tools: taxes on formal business activity and enforcement (or policing) discouraging informality. The main focus of the paper is on transitional dynamics under different initial wealth levels. Whether an initially small business will be trapped in the informal economy and remain small forever or grow quickly and become a large formal business depends on tax and enforcement policies. High tax rates accompanied by loose enforcement—which is mostly the case in less-developed countries (LDCs)—induce tax avoidance, discourage investment in formal businesses, and drive the entrepreneurial activity toward the informal sector even though the initial wealth level is high. Lowering taxes on formal activity joined with strict enforcement can help reducing the magnitude of poverty traps in LDCs—such as the MENA region, Latin America, and developing Asia.
    Keywords: Entrepreneurship, Informal economy, Government policy, Investment, Wealth constraints
    JEL: E21 E26 L26 O17
    Date: 2016
  3. By: Cristina Fernández; Leonardo Villar
    Abstract: El gobierno colombiano reformó recientemente el código tributario, reduciendo las contribuciones sobre la nómina del 29,5% al 16%, y sustituyéndolas con un impuesto sobre los beneficios. La ley fue aprobada en diciembre de 2012, y dos años más tarde, la tasa de informalidad en las 13 principales áreas metropolitanas disminuyó del 56% al 51%, en diciembre de 2014 (usando la definición legal de la informalidad). En la encuesta, la reducción fue un poco menos pronunciada, pasando del 68% a 64%. Este período también se caracterizó por altas, y a la vez con tendencia a la baja, tasas de crecimiento, cambios en las tasas de impuestos, y aumento de los salarios mínimos reales. Es del mayor interés saber qué parte de esta reducción se debió a la reforma fiscal. En este trabajo se lleva a cabo esta tarea usando “matching”, y un modelo de diferencias en diferencias. De acuerdo con los resultados, la reforma fiscal redujo la tasa de informalidad de los trabajadores afectados por la reforma en las 13 principales áreas metropolitanas, entre 4,3 y 6,8 P.P., lo que se tradujo en una reducción de la tasa de informalidad entre 2,0 y 3,1 P.P. dado que la población tratada fue de sólo el 45% de la población activa del país en 2012. El impacto sobre toda la encuesta fue de entre 4,1 y 6,7, lo que se traduce en 1,2 a 2,2 P.P. de impacto en la tasa de informalidad de todo el país. Resultados similares fueron encontrados utilizando la definición estricta de informalidad. La reforma afectó en su mayoría a trabajadores asalariados y empleadores varones entre 25 y 50 años de edad, y trabajadores con bajos niveles de educación.
    JEL: J32 J68 C40
    Date: 2016–10–31
  4. By: Kotakorpi Kaisa; Laamanen Jani-Petri (School of Management, University of Tampere)
    Abstract: Despite the adoption of prefilled tax forms in many countries, little is known about their effects on taxpayers’ reporting behaviour. We estimate the effect of the income tax filing system on taxpayers’ reporting behaviour, utilising data from a Finnish policy experiment. We find that receiving a (partially) prefilled income tax return lead to a significant reduction in non-prefilled deductions and self-reported income, and an increase in deductions that were prefilled in the new system. However, we do not find effects on individuals’ total taxable income or taxes paid. We discuss complexity and compliance costs, salience effects, and changes in the opportunities for tax evasion as possible explanations for our findings.
    Keywords: embezzlement, permanent income, transitory income
    JEL: H24 H26 H31
    Date: 2016–05
  5. By: Marcelo Arbex (Department of Economics, University of Windsor); Sydney Caetano (Faculdade de Economia, Universidade Federal de Juiz de Fora)
    Abstract: The Automatic Exchange of Information (AEoI) is a tax standard that governs how tax authorities of participating countries exchange information related to taxpayers’ foreign investments. We quantify the mismatch between costs and benefits of information exchange agreements and investigate the impact of foreign investment taxation and costs associated with information reporting requirements on the welfare of compliant countries. This paper shows that AEoI-abiding economies would entail substantial welfare losses. For any combination of interest rate, foreign earnings taxation and compliance cost, the welfare costs of AEoI are larger for the source (small open) economy than the revenue is for the residence country. Without commitment and enforcement, countries might be tempted to deviate from such agreements and share information only partially. The paper’s result provides a rationale for sharing of AEoI infrastructure costs among jurisdictions.
    Keywords: cross-border tax evasion, information exchange, international standards of transparency.
    JEL: F21 H26 H87
    Date: 2016–11
  6. By: Ravi Kanbur; Tuuli Paukkeri; Matti Tuomala (School of Management, University of Tampere)
    Abstract: The existing literature on optimal taxation typically assumes there exists a capacity to implement complex tax schemes, which is not necessarily the case for many developing countries. We examine the determinants of optimal redistributive policies in the context of a developing country that can only implement linear tax policies due to administrative reasons. Further, the reduction of poverty is typically the expressed goal of such countries, and this feature is also taken into account in our model. We derive the optimality conditions for linear income taxation, commodity taxation, and public provision of private and public goods for the poverty minimization case, and compare the results to those derived under a general welfarist objective function. We also study the implications of informality on optimal redistributive policies for such countries. The exercise reveals non-trivial differences in optimal tax rules under the different assumptions.
    Keywords: inequality; top incomes; growth; nonlinearity; longitudinal data
    JEL: H21 H40 O12
    Date: 2016–09

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