Investigating if the Financial Markets Performance Affects the Shadow Economy: Additional Evidence From EU Countries

Abstract

The shadow economy also known as the informal or unobserved or underground economy, is a phenomenon that affects not only emerging markets and developing countries but also advanced economies. In general, this undeclared economic activity is hard to measure given its hidden nature in addition to its relation with unlawful activities. Nevertheless, apart from the legal aspects that may appear, shadow economy has negative implications in terms of tax revenue and social security contributions for the nations. To this end, an extensive literature has explored the measurement issues as well as the root causes of this phenomenon proving that the underground economy constitutes a significant portion of the overall economy in a number of countries. This paper tries to investigate the relationship between the shadow economy and the financial markets. This paper employs a number of panel data regression models to detect the association between the financial market metrics and the shadow economy (as a% of GDP). The outcome of this paper is that it finds evidence that increased market capitalization, GDP per capita and FDI as well as low unemployment and inflation rates contribute to low levels of shadow economy. This can be of value to policy makers and the competent authorities of the countries that wish to find means to contain their shadow economy.