Measuring the Shadow Economy: Endogenous Switching Regression with Unobserved Separation

CERGE-EI Working Paper Series No. 494

31 Pages Posted: 2 Nov 2013

See all articles by Tomas Lichard

Tomas Lichard

Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute)

Jan Hanousek

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)

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Date Written: November 1, 2013

Abstract

We develop a novel 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 have a secondary source of self-employed income. 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.

Keywords: endogenous switching regression, shadow economy, tax evasion, underreporting

JEL Classification: C34, H26

Suggested Citation

Lichard, Tomas and Hanousek, Jan and Filer, Randall K., Measuring the Shadow Economy: Endogenous Switching Regression with Unobserved Separation (November 1, 2013). CERGE-EI Working Paper Series No. 494, Available at SSRN: https://ssrn.com/abstract=2348753 or http://dx.doi.org/10.2139/ssrn.2348753

Tomas Lichard (Contact Author)

Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute) ( email )

P.O. Box 882
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HOME PAGE: http://www.cerge-ei.cz

Jan Hanousek

CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute) ( email )

Politickych veznu 7
Prague 1, 111 21
Czech Republic
420 2 2400 5119 (Phone)
420 2 2421 1374 (Fax)

HOME PAGE: http://www.cerge-ei.cz

Charles University in Prague ( email )

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Academy of Sciences of the Czech Republic ( email )

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Randall K. Filer

City University of New York, CUNY Hunter College - Department of Economics ( email )

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HOME PAGE: http://econ.hunter.cuny.edu/faculty/filer/

Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute) ( email )

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Prague 1, 111 21
Czech Republic
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HOME PAGE: http://www.cerge-ei.cz

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CESifo (Center for Economic Studies and Ifo Institute)

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