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East: The Black Economy -- Is the Underground Sector Really So Bad? (Part 1)

  • Mark Baker

The "black economy" -- exchanges hidden from the gaze of the central government and beyond its ability to tax and control -- amounts to more than half the official economy in some countries. It's flourished in the transition countries of Eastern Europe and the former Soviet Union. Yet it remains poorly understood and difficult to measure. In the first of a two-part series, RFE/RL's Mark Baker looks at what the black economy is and whether it is, in fact, all bad.

Prague, 10 June 2004 (RFE/RL) -- In former communist countries, billions of dollars that change hands each year never get reported to tax authorities or central governments.

This is the so-called black economy -- and in countries like Georgia, Azerbaijan, and Ukraine, it can amount to as much as 50 to 60 percent of the official economy.

But the black, or underground, economy remains poorly understood and notoriously difficult to measure. And there's no consensus if -- on balance -- the effects are positive or negative.

Experts say the first task is to correct a popular misconception that the black economy refers only to illegal or illicit activities -- like drug dealing or prostitution.

Sam Vaknin is an economic adviser who has written extensively on the black economy.

"The misnomer 'black economy' covers usually two totally disparate and distinct fields of activity,” he says. “One is legal activities that are not reported to tax authorities -- in other words, tax evasion. That is included in the black economy. And the second realm is that of illegal activities, illicit activities, criminal activities. The two have nothing in common."

Vaknin says illegal activities make up only a small component of the black economy -- at most 20 percent of the total. Some economists measuring the black economy even choose to ignore illegal activities altogether.

Professor Friedrich Schneider at Austria's University of Linz is at the forefront of efforts to measure the black economy. He tells RFE/RL there are many reasons why people get pulled into the underground economy.

"The first and most important reason -- two reasons -- [for people] are surely to avoid paying income [tax], value-added [taxes] and other taxes, and to avoid paying social-security contributions. Other reasons are to avoid having to meet legal labor market standards, such as minimum wages, maximum working hours, safety standards, and other things," Schneider says.

Every country, to some degree, must cope with a black economy -- as citizens try to shield at least a part of their income from tax authorities. But Schneider's research shows the problem is particularly serious in the transition countries of the former Eastern bloc.

In Georgia and Azerbaijan, for example, the black economy amounts to more than 60 percent of the size of the official economy. This puts these countries on par with African states like Nigeria and Zimbabwe.

The numbers are high elsewhere in the former Soviet Union. In Ukraine, the black economy is more than 50 percent the size of the official economy. In Belarus, that number is 48 percent. In Russia, Moldova, and Kazakhstan, it's about 45 percent.

By contrast, in highly developed Western states, the black economy is about 16 percent of the gross domestic product (GDP) on average.

Schneider places part of the blame on communism for encouraging poor economic habits, of hiding gains from the state. But he says, clearly, the black economy persists in certain areas because mistrust of authorities remains high.

"The [main] causes [of the black economy] are the [high] tax burden, the [high] social security burden, the payment burden, government regulations, the popular feelings against the state, tax morale, and [the population's] trust or distrust of state authorities," Schneider says.

The jury remains open as to whether the black economy is all bad. Certainly for the state, which loses much-needed tax revenue, the answer is "yes."

But Vaknin says the black economy also holds hidden benefits. He points out that the "black" sector is often the most efficient part of the economy. In devastated areas in the Balkans and the Caucasus, for example, the black economy employs people, pays them and ultimately allows for money to enter the legitimate economy.

"Personally, I think the black economy is a big blessing -- the charm, talisman, and luck -- of the postcommunist transition countries. I think that without the black economy, had all of the citizens been utterly law-abiding, had all of the entrepreneurs succumbed to the bureaucracy, had all businessmen listened to their governments and the bad advice of the West -- Western institutions like the World Bank and the [International Monetary Fund] -- I think these countries would have never had an economy to start with," Vaknin says.

But that is by no means a universal sentiment.

Robin Hodess, the head of research at the corruption watchdog Transparency International in Berlin, says in her group's experience, any gains are short-term.

She says efforts to hide income -- and lower tax payments -- ultimately deprive the neediest in society of the resources they need to thrive.

(In Part 2, we examine attempts to measure and control the "black economy.")
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