The Rise of Shadow Economies

An important economic issue that is affecting several countries is the rising number of shadow businesses: businesses unregistered with their country's government. These businesses exchange goods and services, both legal and illegal, without paying taxes to their government. Typical examples of these include small taxicab services, roadside food stalls, and drug dealing. These businesses are causing concern because of their increasing prevalence in developing countries, which many worry is crippling economic growth and development. Other countries with smaller numbers shadow businesses are looking for ways to try and incorporate the operations of these businesses into their national economies. Here is a closer look.

In many developing nations, shadow businesses outnumber legal businesses by a wide margin. In Indonesia, the country with the highest number of shadow businesses in the world, there are as many as 130 shadow businesses established for every one legally registered business. Other countries with numbers close to this include India, the Philippines, Pakistan, and Egypt. In such countries, shadow businesses make up for than 80 percent of economic activity, creating a "shadow economy" that operates outside of governmental regulations. Business conducted in shadow economies leads to major repercussions such as governments losing tax revenue, increased unregulated competition to registered businesses, corrupt government practices, and decreased investment in the overall national economy. Because of the problems caused by shadow economies, it has been suggested that developing countries should try and improve the quality of their governmental institutions; this would hopefully attract more entrepreneurs to start up registered businesses and decrease the number of citizens operating in the shadow economy.

An alternate method for dealing with shadow businesses is being adopted by developed countries in the European Union such as the United Kingdom and Italy. The UK has the lowest number of shadow economies relative to registered businesses in the world; however, the value of its shadow businesses is absolutely staggering. Italy is similar in this fashion. The most prevalent shadow businesses, however, involve more illegal activities, including prostitution and drug trade. Including these activities in the national GDP would make great boosts for many European countries. In the UK's case in particular, accounting for revenue from these activities could add up to $16.4 billion to its GDP, increasing the size of its economy by 0.7%.

Obviously, this proposition has courted much controversy. Since most shadow transactions are dealt with in cash, it is not easy to exactly account the exact value of a shadow business. Also, since taxes are not paid on shadow businesses, accounting for their activities in a GDP does not necessarily add to a country's financial value. Ethics are also playing a role; claims are being made that illegal activities should not be nationally supported in this manner. The UK and Italy, despite doubts, are still planning on pulling ahead with the program to account for these practices later this year. Eventually, they hope to expand this into all of the European Union, although that may be a bitter pill to swallow for government figures and economists everywhere.

Shadow economies are proving to be a problem in both developing and developed countries. How do you think they can be dealt with?