The shadow economy and sustainable development: The role of financial development

Abstract

This paper provides fresh evidence concerning the threshold relationship between the shadow economy and financial development. Shadow economy is quoted as an obstacle to sustainable development and therefore the role of financial development is examined in this paper to tackle the issue of shadow economy. It is based on panel data of 29 developed and developing countries over the period of 1975–2015 and use of panel threshold model. Three proxies for financial development—liquid liabilities, private credit to deposit money banks, and stock market capitalisation—were utilised to obtain the threshold value of US$33,600 Gross Domestic Product (GDP) per capita. This threshold helps to determine the impact of financial development on the size of the shadow economy. Empirical results suggest that above this threshold, financial development significantly contributes to the reduction in size of the shadow economy while it has no impact for countries that have per capita income below this threshold. This implies that, countries with lower per capita income (below $33,600) should implement policies to improve accessibility to finance and credit market which leads to a sufficiently higher per capita income that in turn allows for a reduction in the size of the shadow economy.

Shadow Economy, Economic Growth and Financial Development

“…The study uses the most used indicators as a proxy for financial development in previous literature. Main indicators that are used in this study are; (1) Private credit by deposit money banks (Private Credit) to account for the ability to access financial resources introduced by banks (Berdiev & Saunoris, 2016;Gharleghi & Jahanshahi, 2020), (2) Bank concentration (BankConcentration) as a proxy to the efficiency of the financial system (Affandi & Malik, 2019;Ardizzi et al 2014;Bose et al 2012), and (3) domestic credit to private sector (DomesticCredit) as a proxy to availability and diversity of the financial system (Bayar & Ozturk, 2016;Bose et al, 2012;Njangang et al, 2018). To be able to link the shadow economy (Shadoweconomy) and economic growth (GDPGROWTH), the study used the GDP growth rate as a proxy of economic growth (GDPGROWTH).…”

“…The shadow economy is known for its multiple dimensions and its accompaniment to the official economies in all world countries. Its characteristics, effects, and size can be significantly different from one country to another; it can be dangerous and lead to difficult economic consequences (Gorana & Schneider, 2015).…”

Operating lease decision among east Asian firms; critical factors for sustainable development

“…Companies selected were those that had lease financing or rent debt although some companies were removed from the list due to the unavailability of data and reports. Companies from the financial sector were not included as financial sector firms have different modification in their capital structure and given the nature of assets and liabilities are substantially different from non‐financial companies (Danso & Adomako, 2014; Gharleghi, 2019; Gharleghi & Jahanshahi, 2020; Shafighi, Shaari, Gharleghi, Sarmidi, & Omar, 2016; Zou & Xiao, 2006).…”

Mitigating the shadow economy through financial sector development in Indonesia: some empirical results

“…A study by Sangirova et al (2021) found evidence that as electronic payments system increases, the level of shadow economy to GDP decreases proportionally in Uzbekistan. In another study, by using a sample of 29 developed and developing countries over the period of 1975-2015, Gharleghi and Jahanshahi (2020) found support to the contention that financial development has the ability to reduce the size of shadow economy.…”