'Shadow economy’ on the rise again due to COVID-19 - study

Israel’s shadow economy dropped from 14% of the GDP in 1996 to 10% last year

A man counts New Israeli Shekels. (photo credit: REUTERS)
A man counts New Israeli Shekels.
(photo credit: REUTERS)
Israel’s “shadow economy,” meaning economic activities that the state is unaware of, has been declining for the past several years, a study released on Wednesday by the Taub Center reports.
The study, which included crime-related economic activity such as sex work and drug trafficking, argues that this trend will be disrupted by the uncertainty created by the COVID-19 pandemic.
To avoid the tax authorities or other people becoming aware of the transaction, cash is an obvious choice. This is why, in his innovative model, Dr. Labib Shami tied together cash withdrawal from ATM machines and bank accounts to a new way of calculating the extent of the shadow economy.
Since it’s difficult to estimate the extent of activities meant to be secret and which extend over a very wide range – from accepting cash and not reporting it, to teaching math or doing plumbing, to engaging in criminal activities such as selling heroin – Shami created a predictive mathematical model.
The known amount of cash people keep is correlated with other known factors, such as the tax burden in an economy or the amount of money-based criminal activity. The result is a predictive model showing that if the tax burden is high, it is logical to assume some of the money floating around as cash is used to evade taxation. If a society has so many crimes involving money, it’s logical that some of the cash is used for these crimes.
“I did what they suggest to do in crime movies and followed the money,” Shami joked in an interview with The Jerusalem Post. “This is why the model includes criminal acts involving payments but not acts of random violence, where money is unlikely to be involved.”
What Shami found is that Israel is actually becoming a society in which, when things are stable, fewer people operate in the shadow economy. Israel’s shadow economy dropped from 14% of the GDP in 1996 to 10% last year.
“It’s not that people suddenly decided they want to pay tax,” Shami told the Post. “It’s much more likely [due to] the move from paying in cash to paying with electronic means, so that is the main reason.”
The year 2008, the study claims, marks a shift in this trend due to the economic slump. While the OECD values the shadow economy in Israel during that year to be worth NIS 70 billion (6.6% of the GDP), the study claims that the true scope is 18%, or roughly NIS 190b. (the OECD data, provided by the State of Israel, did not take into account criminal activities).
“When people take out a lot of cash but use their credit cards less and less, you must ask yourself: Where is all that money going?” Shami said.
The current economic slump Israel is experiencing to COVID-19 poverty will also affect the shadow economy. Reports about Israelis who openly admit they collect unemployment benefits while working for cash in hand have been common throughout the pandemic.
“Business owners are also allegedly ‘encouraged’ to operate in the shadow economy, with the current policy of aiding business hit by COVID-19,” Shami said. “To get a grant, you must prove you lost 25% of your earnings in relation to 2019. Well, let’s say you lost ‘only’ 24%. Wouldn’t an owner be tempted to accept cash now to be able to present the Tax Authorities with a ‘fixed’ report to collect the grant?”
Greece, whose economy collapsed in 2009, is known as a country where the shadow economy is enormous, he told the Post.
“When they were asked why don’t they pay tax,” Shami said, “they responded by saying that nobody does, so why should they?
“My next study might include in the mathematical model the variant of public trust the public feels toward the society’s leadership,” he said.