List of Partners vendors. The underground economy refers to money earned from illicit activities like prostitution and the sale of illegal drugs. But it also broadly refers to any unreported income, such as undeclared tips or gambling winnings, or under-the-table payments made to laborers like house painters and construction workers, whose wages may go unreported to tax authorities. Unreported income paid to migrant workers or those without valid visas or work permits also contributes to the underground economy.
Due to its cloaked nature, it's difficult to gauge the true extent of the money that changes hands through the underground economy sometimes referred to as the shadow economy. But because these transactions go unreported, they distort the accuracy of key economic measurements, such as the gross domestic product GDP , which is calculated by totaling the following four components:.
Notice how the aforementioned metrics fail to take consider any transactions that occur within the underground economic system. This is significant because a nation's less-than-accurate GDP figure can adversely affect government policies that are influenced by GDP numbers. For example, the U. If GDP numbers aren't technically accurate, such policy decisions can have a weaker impact, or negatively impact the economy. Taxation is another major governmental concern related to the underground economy.
That money could go a long way in rebuilding infrastructure, funding schools, and supporting other worthy causes. Fortunately, there are a number of steps governments can take reduce the effect that underground economic activity has on skewing GDP numbers.
Reductions in personal income tax rates can encourage individuals to report income more accurately and completely. And then there's the tough love approach, where the installation of increased tax evasion penalties can discourage underreporting. Thirdly, a government may legalize certain underground economic activities, such as gambling and prostitution, as a way to legitimately tax the associated income, and increase revenue.
Finally, governments can stimulate the creation of higher-paying legal jobs, which would theoretically shrink the underground economy. Fiscal Policy.
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Popular Courses. For example, in developing countries with large shadow economies, the uncollected tax revenue can slow economic growth and hamper the creation of public programs. However, in other cases, participants in underground economies who retain income that would usually go to taxes can boost overall economic activity and stimulate demand. This situation holds especially true in nations where the withheld tax revenues would have been siphoned off by corrupt government officials.
In the early s, Mexican immigrants introduced recreational marijuana use to the United States. During the Great Depression, high unemployment rates triggered a spike in marijuana consumption, which coupled with racist sentiments at the time led to research that linked marijuana to violent crime.
Consequently, by , 29 U. Nonetheless, many people deemed the plant to be harmless and continued buying and selling it illegally. Subsequent studies refuted the idea that marijuana was linked to crime while declaring that the drug was neither addictive nor a gateway to other drugs.
Instead, proponents argue, marijuana has proven to be therapeutically helpful in treating illnesses such as cancer and AIDS.
The list of activities deemed to be underground economic transactions varies, depending on the laws of a given jurisdiction. For example, in some countries, alcohol is banned, while other nations encourage legal brewery, distillery, and distribution operations. Similarly, while drugs are illegal in most countries, some nations, plus an increasing number of U. In , 33 states and the District of Columbia passed laws legalizing the plant, which is now abundantly present in some food products, as well as many topical and oral medications.
As of early , cannabis is fully illegal in less than a dozen U. Although tobacco is legal in New York City, the product carries an exorbitant sin tax , and so many sales go unreported or "under-the-table. All such under-the-table transactions, in which participants fail to report their income to the IRS or the state, are technically considered to be underground economic activities.
This status can even apply to babysitters who don't report the cash that they pocket after watching Junior down the street. Other primary examples of underground economic activity include the untaxed sale of physical goods and the smuggling of goods into a country to avoid paying duties at the border.
Human trafficking operations also comprise the underground economy, as do the markets for copyrighted materials, endangered animal species, antiquities, and illegally-harvested human organs. Your Privacy Rights. To change or withdraw your consent choices for Investopedia. At any time, you can update your settings through the "EU Privacy" link at the bottom of any page.
These choices will be signaled globally to our partners and will not affect browsing data. We and our partners process data to: Actively scan device characteristics for identification. I Accept Show Purposes. Your Money. Personal Finance. Your Practice. Popular Courses. What Is the Underground Economy? Elements of the underground economy vary from nation to nation, state to state, and in some cases, municipality to municipality. Alternative names for the underground economy include the shadow economy, the black market, and the informal economy.
Marketing in illegal drugs, human trafficking, endangered species, human organs, antiquities, and stolen goods are examples of activity in the underground economy. Compare Accounts. The offers that appear in this table are from partnerships from which Investopedia receives compensation.
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