Underground activities and labour market performance
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We build a general equilibrium search and matching model with an informal sector. We consider the impact of traditional policy instruments discussed in the tax evasion literature, such as changes in the tax and punishment system and the employment protection legislation, as well as the impact of concealment costs, on labour market outcomes. The model is calibrated to and simulated on the northern and southern European countries, where countries in the south have significantly higher informal sectors than countries in the north. We conclude that differences in tax and punishment systems cannot explain the observed difference. Instead, we find that stricter employment protection legislation in southern Europe, as well as the higher tax morale and more extensive use of third-party reporting in northern Europe, are potential candidates for explaining the difference.
KeywordsInformal sector Search and matching Unemployment Concealment costs Employment protection legislation Tax evasion
JEL ClassificationH26 J64 E26
We want to thank participants at the Shadow 2017 Conference in Warsaw, seminar participants at the School of Economics and Business, Norwegian University of Life Sciences, as well as Diana Hornshøj Jensen and Katia Usova for excellent research assistance.
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