Size, Causes and Consequences of the Underground Economy

Chapter 10Tax Policy and the Underground Economy*

Peter S. Spiro

The purpose of taxation is to raise revenue to pay for public goods, but along the way it has impacts on economic growth and income distribution. These impacts are often undesirable, and sometimes difficult to predict.

Tax policy is the most complex area of economic policy, because each tax change has so many ramifications. One can say very little about the impacts of taxation based simply on economic theory and deductive logic. Only empirical estimates of the elasticity of response to specific taxes can enable us to choose which is the least bad alternative. This empirical analysis is inherently difficult, and it is made even more difficult by the existence of an unmeasured underground ...