Tuesday, December 2, 2008

Underground economy provides shelter for illegal workers

Not long ago, Arizona joined the immigrant-bashing frenzy by adopting a law (signed by Janet Napolitano, soon to head up Homeland Security), that essentially requires all new hires to be vetted through the federal government's buggy E-Verify system to determine their eligibility to work in the United States. Employers who knowingly hire illegal workers can have their business licenses suspended on a first offense and permanently withdrawn on a second offense. The law made it more difficult for businesses to openly hire illegal immigrants, but it didn't eliminate the need for willing and able labor. Now, not too surprisingly, it turns out that employers and workers are resolving the conflict between the law and economic reality by going underground.

The Arizona Republic reports:

Blocked by the law from getting payroll jobs, many illegal immigrants instead are performing services or selling items on the side for cash.

Others have tried a different strategy: borrowing the identities of citizens or legal residents to land jobs with employers.

The maneuvers are allowing many undocumented families to remain in the United States despite heightened enforcement of immigration laws and a battered economy that has erased many jobs.

There are no studies that estimate how many illegal immigrants have turned to cash-only work to survive in Arizona. But economists say one of the results is that much of the money immigrants earn is going unreported and untaxed. That deprives the state of income-tax revenue even as tax revenue in Arizona is plummeting because of the faltering economy.

This should be a shock to exactly nobody. In many countries over the past few decades, the United States included, an increasing share of business activity has been taking place out of sight of government authorities. Why? Well, the reasons for this growth in underground activity aren't difficult to determine. In a presentation to the World Bank, No-Wook Park, a research fellow at the Korea Institute of Public Finance, explained the causes of the underground economy as:

  • Higher tax rates and social security contributions
  • Increased regulation
  • Forced reduction of weekly working hours
  • Earlier retirement
  • Unemployment
  • Decline of civic virtue and loyalty towards public institutions

Independently, Friedrich Schneider, a professor of economics at Johannes Kepler University of Linz, says (PDF), "The shadow economy includes all market-based legal production of goods and services that are deliberately concealed from public authorities for the following reasons:

  1. to avoid payment of income, value added or other taxes,
  2. to avoid payment of social security contributions,
  3. to avoid having to meet certain legal labor market standards, such as minimum wages, maximum working hours, safety standards, etc., and
  4. to avoid complying with certain administrative procedures, such as completing statistical questionnaires or other administrative forms."

Note that avoiding regulations features prominently among the causes set forth in both definitions of the underground (or shadow) economy. Arizona's employee verification and employer sanction regulations may be popular among crowd-pleasing politicians and nativist voters, but they have proven to be exactly the sort of burdensome rules that businesses and workers want to dodge.

And so they go underground.

How many go underground? It's hard to know. In Arizona, income-tax collections are down 13% from last year, but the economy has slowed in that time, too. To get an idea of the scope of the phenomenon, we can look at Massachusetts. There, where regulation is especially intrusive, taxes are high, and there are plenty of illegal workers, a recent study (PDF) "estimates the underground economy on Martha’s Vineyard conservatively at 12 percent of reported wages and 16 percent of reported jobs."

No-Wook Park says the underground economy grew in the United States from the equivalent of 3.5% of GDP in 1960 to 9.5% in 1995. Schneider, whose numbers are generally considered the most authoritative, puts the shadow economy in the U.S at about 8.4% of GDP as of 2003. If Schneider and Park are right --and they almost certainly are -- increased regulations should increase the size of the underground economy. So, however much shadow economic activity was taking place in Arizona before the new law, there's certainly more of it now.

And as the underground economy grows, an increasing share of economic activity takes place beyond the reach of tax authorities. Arizona may already be feeling that pinch as revenues dry up. Raising tax rates is no solution, since that's yet another spur to operating in the shadows.The economy chugs along, in defiance of resented regulations -- and increasingly it does so without benefit to the government.

That might be a good thing in many ways. But the underground economy functions beyond the protections of the law, too, and without the benefits that accrue to an above-ground job. If your boss stiffs you, there's little recourse if you're working in the shadows. And you can probably forget about health coverage.

But despite the threat posed by law enforcement, the lack of legal protections and the uncertaintly if shadow status, a large number of people prefer life underground to surrendering to objectionable regulations. Regulations targeted at illegal workers are just like any other burdensome red tape. If they are so intrusive that they stand in the way of economic activity, that activity will continue underground without regard for the rules.

In Arizona, as elsewhere, the underground economy provides shelter of a sort for people who need to make a living no matter what the government says.

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Blogger akaGaGa said...

I know of a born and bred citizen of Massachusetts who, through a series of ridiculous circumstances, now lives entirely underground. His job is off the books, he no longer has a driver's license, and he doesn't have a legal address. He simply has ceased to exist in any legal manner. As these events unfolded, I would shake my head in disgust, wondering when he would get his act together. But now? I'm thinking that, through serendipity, he's probably in a better position than I am, given the coming military state. If they don't know he exists, he'll be pretty darn hard to find.

December 2, 2008 6:45 PM  

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