World Bank: Bulgaria Has Largest Shadow Economy in EU

Bulgaria in EU | September 13, 2012, Thursday // 09:24|  views

The shadow economy made up 33% of Bulgaria's GDP in 2007 and has not shrunk ever since, a World Bank has found. Photo by Sofia Photo Agency

Too many of Eastern Europe's workers and firms are engaged in the 'shadow economy' and Bulgaria tops the blacklist, a World Bank report shows.

The report "In From the Shadow: Integrating Europe's Informal Labor" looks primarily at Bulgaria, the Czech Republic, Estonia, Hungary, Lithuania, Latvia, Poland, Slovenia and Slovakia.

It found that the shadow economy made up 33% of Bulgaria's GDP in 2007 and has not shrunk ever since.

This is followed by Romania (29%), Lithuania (28.5%) and Estonia (28.2%). Austria is at the other end of the scale, with 7.6% of GDP coming from the black market.

European Commission statistics estimate Bulgaria's shadow economy as accounting for 32% of GDP in 2012.

The trend is so wide-spread that it undermines the region's long-term growth potential, the World Bank report warns.

"As the impacts of the euro crisis, population ageing, and labor force shrinkage spread to emerging economies of Eastern Europe, bringing workers and firms in from the shadow economy is critical for long-term economic growth in Eastern Europe," the Washington-based development lender said.

"The governments of the new member states in Eastern Europe simply cannot afford a large shadow economy, neither in the short run due to fiscal concerns, nor in the long run due to the shrinking labor force," World Bank senior adviser, Katarina Mathernova, commented.

Mathernova said the World Bank was continuing its role as a partner with the European Union in determining how to improve the economic performance of its newest members.

In Bulgaria, Romania, and Slovenia the informal workforce is about evenly split between dependent workers without a legal contract and the nonprofessional self-employed.

Unpaid" family work is highest in Romania and otherwise appears to be significant only in Poland, Greece, Bulgaria, and Italy.

In Bulgaria, Estonia, Hungary, Latvia, and Slovakia, the proportion of males employed without a contract is much higher than that in formal employment.

When the social insurance criterion is used to identify informal dependent workers, the share of noncontributing employees in the new member states (Bulgaria, Czech Republic, Estonia, Latvia, Poland, Slovenia, and Slovakia) who have at least a secondary education is 70% and higher.

When the social insurance criterion is used to identify informal dependent workers, 99% of noncontributing workers in Bulgaria, the Czech Republic, Poland, and Slovakia are native born.

The report found that people's experiences with unemployment vary more in the wealthier members of the EU than in the new member states.

Only in Latvia and Bulgaria does the share of people currently employed without a contract who have experienced long-term unemployment compare with the share in Belgium, the Netherlands, the United Kingdom, Portugal, and Italy, where it ranges from one-quarter to a third of informal dependent workers.

In Hungary and Lithuania about 30% to 35% of survey respondents mentioned taxes as the most important reason for undeclared work, whereas taxes were the most important determinant for less than 10% of respondents in Slovenia, Romania, Slovakia, and Bulgaria.

In particular, for singles without children, Bulgaria stands out with zero progressivity of labor taxes.

"This is important because low progressivity means that some room exists for lowering the tax wedge for low-wage earners in a fiscally neutral way by increasing progressivity," the World Bank comments in the report.

The report calls for promotion of the social value of paying taxes and gaining citizens' trust in their governments.

"Improved and sustainable high levels of tax morale can only be achieved through a successful liaison of three factors: corruption control, the quality of institutions, and the degree of citizens' participation," the World Bank said.

In Bulgaria, however, the report says, it does not pay to go out of the shadow of the shadow economy as the share of informal income that an informal worker has to give up to formalize is too high.

The report offers the contrasting examples of Bulgaria and Romania on the one hand, and Australia and the United States on the other.

These examples are selected because they best illustrate how social protection policy and the design of benefit eligibility criteria create high opportunity costs for formal work.

For lower wage levels, the so-called "formalization tax rate," or FTR in Bulgaria and Romania is higher than in Australia and the United States.

In Bulgaria, the FTR for single persons with no children peaks at around 70% (around 60% for Romania), at earnings equivalent to about 10 percent of the average wage.

That means that in Bulgaria, single persons with no children who earn less than the minimum wage in the informal sector have to give up from 50% to 70% of their income to formalize.

By contrast, in Australia and the United States, the FTR peaks at a much lower fraction of the average wage - around 40% in Australia and 30% in the United States - and at a higher wage level of around 30% to 40% of average wages.

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Tags: United States, Australia, shadow economy, World Bank, Slovakia, Slovenia, Poland, Latvia, Lithuania, Hungary, Estonia, the Czech Republic, Bulgaria, Romania, Eastern Europe


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