The actual economic crisis has a major impact on the underground economy because of tax burden increase especially. This study realizes an analysis of the major implications of the economic crises on the size and the consequences of the underground activities. Also we try to reveal the correlation between the underground economy and the official one. The conclusion of this study is that the shadow activities have grown since the financial crisis began.underground economy, tax burden, taxation system

Mara, Eugenia Ramona

English

Research Papers in Economics

 
  1117 
 
THE UNDERGROUND ECONOMY IN ROMANIA 
 
 
MARA  EUGENIA  RAMONA
1 
“BABEŞ-BOLYAI”  UNIVERSITY,  FACULTY  OF ECONOMICS  AND BUSINESS 
ADMINISTRATION 
58-60  TH. MIHALI STREET,  CLUJ-NAPOCA,  ROMANIA 
ramonanandra@yahoo.com 
 
Abstract: 
The  actual  economic  crisis  has  a  major  impact  on  the  underground  economy 
because of tax burden increase especially. This study realizes an analysis of the 
major implications of the economic crises on the size and the consequences of the 
underground  activities.  Also  we  try  to  reveal  the  correlation  between  the 
underground economy and the official one. The conclusion of this study is that the 
shadow activities have grown since the financial crisis began. 
 
Key words: underground economy, tax burden, taxation system  
 
JEL classification: O17, O52, H2 
 
 
Introduction 
 
The  underground  economy  in  Romania  is  very  high  comparative  with  other  EU 
countries.  The  economic  crisis  has  brought  a  growing  of  shadow  economy  in a context 
where there were increases  of taxes, in particular  VAT and excise duties. 
Underground  economy  has  grown  alarmingly  in  the  developed  countries  over 
the  past  two  years,  with  starting  the  economic  crisis, according to calculations made by 
international  economists.  Black  hiring  and  evasion  of  tax  or  payroll  taxes  are  becoming 
more common,  even in developed countries. 
By  definition,  the  unofficial  economy  constitutes  activities  that  are  not  recorded 
in  the  government  statistics.  As  such,  the  extent  of  the  unofficial  economy  in  a  given 
country  is hard to measure  precisely. 
The  shadow  economy  is  often  considered  as  a  debilitating  force  that  saps  the 
official  economy  by  attracting  factors  of  production  away  from  the  official  economy 
and creating  competition  for official  firms  (Choi et all, 2002). 
The  shadow  economy  includes  all  market-based  legal  production  of  goods  and 
services  that  are  deliberately  concealed  from  public  authorities  for  the  following  reasons 
(Schneider,  2005): 
(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. 
                                                 
1Acest  articol  a  beneficiat  de  suport  financiar  prin  proiectul  ,,Studii  Post-Doctorale  în  Economie: 
program  de  formare  continuă  a  cercetătorilor  de  elită  –  SPODE”,  contract  de  finanţare  nr. 
POSDRU/89/1.5/S/61755,  proiect  finanţat din Fondul Social European prin Programul Operaţional 
Sectorial Dezvoltarea Resurselor Umane 2007-2013  
  
  1118 
The  period  of  transition  from  centralized  to  market  economy  caused  changes  of 
commercial  and  productive  activities,  in  the  informal  legal  sphere.  Moreover,  informal 
economy  exists  before  1989,  mainly  driven  by  households’  former  party  activity  and 
security,  which  take place outside the state accounting  Buziernescu,  2007). 
Underground  economy  in  Romania  has  continued to increase after  1990, notably 
due to: 
  Inconsistent  tax legislation  as this many  gaps; 
  Increase opportunities  for corruption  through  decentralization; 
  Parallel  economy  inherited  from  the old regime; 
  Generalized  attitude  of acceptance of corruption  among the population; 
  The  emergence  of  small  businesses,  generating  significant  underground 
economy  (tax evasion and undeclared  work); 
  Tax evasion  late appearing  no law. 87/1994; 
  Lack of true experts in the field  of taxation; 
  Ever-rising  tax burden and the inability  of taxpayers  to bear.  
Regarding  the  last  aspect  mentioned  the need to attract state revenues prompted 
governments  to  tighten  tax. In these circumstances, to circumvent tax  a law that is being 
targeted  by  many  companies  in  Romania  tend  not  necessarily  to  emulate  their  fabulous 
profits,  but  to  ensure  their  very  survival.  Thus,  there  is  a  parallel  part  of  the  economy 
develops  the  instinct  of  conservation  and  economic  environment.  In  times  of  crisis, 
economy  becomes  a  way  of  adapting  to  difficult  situations.  In  essence,  when  a  system 
crashes,  components  and  seek  a  new  formula  and  spontaneously  redistribute  resources 
and  control  institutions  fail  to  keep  up  with  even  less  time  to  anticipate. With the crisis 
deepening  the  partnership  between  the  state  and  taxpayer  disappears,  being  replaced 
with the abuse of state tax evasion  and the use of economic  agents. 
According  to  the  National  Institute  of  Statistics  estimates,  withholding  full  VAT 
and  income  tax  evasion  is  the  most  important  part  of  economy  in  our  country.  In  the 
study conducted following  INS reported inaccuracies  in the Romanian  economy: 
  undeclared  work; 
  VAT evasion; 
  income  tax evasion; 
  informal  sector. 
   A  higher  level  of  underground  economy  means  a  lower  official  economy  and  in 
the  same  times  a  lower  economic  growth  rate  for  the  official  GDP.  For  Romania,  the 
statistics  are  alarming  with  regard  to  this  phenomenon  and  the  negative  effects  of 
increased size of the shadow economy are strongly felt in the GDP and the tax revenue. 
In  our country, according to the Tax Procedure Code, Financial Guard is the only body 
in the Ministry of Finance authorized to execute checks and other findings at the request 
of  the  prosecution.  In  2009,  in  order  to  achieve  its  objectives,  the  Financial  Guard 
participated,  in  collaboration  with  other  specialized  bodies  of  the  ministries  and 
specialized  institutions  in  the  country, and similar bodies in other EU states to actions to 
detect and combat illegal  activities. 
  
 
Therefore,  actions aimed  Financial  Guard following  priority: 
  Monitoring  and  intervention  in  high  risk  areas  with  tax  evasion 
(excisable  products); 
  Follow-spot  operators  on  equipping  machines  with  electronic  cash 
registers; 
  Specific  actions  seasonal activities  (institutional  character); 
  Intra-community  acquisitions; 
  Import-export  operations.  
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The  activity  report  of  the  ANAF  in  2009,  tax  audit  actions  aimed,  primarily, 
target  areas  were  the  following: activities of services related to crude oil and natural gas 
extraction,  specialized  wholesale  trade  of  food,  beverages  and  tobacco,  wholesale  fruit 
and  vegetables,  construction  of  residential  buildings  and  non-specialized  wholesale 
trade,  trade  in  various  brokerage,  brokerage  trade  fuels,  minerals  and  chemicals  for 
industry,  wholesale  and other products. 
Thus,  in  2009,  112.170  checks  were  made  to  corporate  taxpayers  and 
individuals,  of  which  83.010  (74%)  legal  persons,  resulting  6082  million  lei  as 
additional  tax  liabilities  (with  32.6%  more  than  in  2008).  Tax  loss  was  reduced  by the 
amount  of  1519.9  million  lei.  A  significant  share  of  the  total  additional  tax  liabilities 
have  attracted  a  value  added  tax  (60%)  and  corporate  tax  (27%).  Furthermore,  tax 
auditors  confiscated  goods  totaling  96.9  million  lei,  compared  to  36  million  lei in 2008. 
In  addition,  deficiencies  were  applied  to  fines  totaling  43.2  million  lei  and  were 
submitted  to  the  competent  bodies  to  continue  the  research  for  a  2610  -  number  of 
criminal  complaints  with  a    loss  of  3123.7  million  lei,  which  is  increased  activity  to 
combat tax evasion  by over 100% compared to 2008. 
With  regard  to  areas  where there were high levels of the underground economy, 
these  are  manufacturing,  construction,  trade  (distribution  and  retail),  where  the 
underground  economy  has  a  third  of  the  sector's  contribution  to  GDP,  but  it  is  much 
wider in other areas such as transport, hotels  and restaurants. 
The  most  important  factors  which  favors  the  size  and  scope of the underground 
economy,  include  high  level  of  social  contributions  paid  by  employer  and  employee, 
complex  and  unstable  legal  framework  that  hinder  taxes,  hiring  black  because  of  high 
unemployment  transition,  maintaining  subsistence  agriculture,  low-skilled  workers,  and 
consequently  a  wide  spread  poverty  and  low  wages,  and  the  large  number  of  SMEs 
involved  in the underground  economy. 
In  view  of  a  complete  understanding  of  the  size of the underground economy in 
Romania  relative  to  other  EU  countries,  in  the  next  figure  is  presented  a  comparative 
evolution  for  underground  economy  starting  with  2003  until  2010  in  Romania  and  in 
EU27 computed as an average  for all 27 countries.. 
 
The impact of financial  crisis on underground  economy 
 
There is an important difference for the entire period almost 10% between EU27 
and  the  level  of  underground  economy  from  our  country.  This  figure  reflect  the 
increasing  of  underground  economy  starting  with  2008,  and  for  this  reason  we  can 
appreciate  that  financial  crisis  has  an  important  effect  on  the  underground  economy  –
stimulating  this kind of economic  activities.  How can be explained  this fact? 
 First  of  all,  economic  crisis  increase  the  burden  of  taxation,  particularly  in 
Romania  (minimum  corporate  tax,  increasing  of  VAT  and  excises).  Other  major  factor 
is  decreasing  the  personal  incomes,  corporate  profits  and  purchasing  power.  In  this 
context  the  individuals  and  companies  try  to  recover  this  loses  through  underground 
activities.    Companies  accept  such  a  situation  to  compensate  for  lost  revenue  and  the 
employees  agree to work illegally  in order not to lose his job.  
  
  1120 
Figure 1 Underground  economy in Romania and EU27 average 2003 - 2010 
15
20
25
30
35
%
 
G
D
P
Romania   EU 27
Romania   33.6 32.5 32.2 31.4 30.2 29.4 29.4 30.2
EU 27 22.3 21.9 21.5 20.8 19.9 19.3 19.8 20
 2003    2004    2005    2006    2007    2008    2009    2010  
Source: Schneider,  2010 
 
In  this  context  of  economic  crisis  many  companies  prefer  hiring  black  to  avoid 
taxes  and  social  contributions.  For  avoiding  the  payment  of VAT and excises  smuggling 
of  cigarettes  and  alcohol  is  increasing.  All  this  means  for  the  state  budget  lower 
revenues  and this fact was reflected  in the huge budget deficit  for 2008 and 2009. 
 
Effects of underground  economy 
 
There  is  no  doubt  about  the  increasing  of  underground  economy  in  the financial 
crises  context.  It  is  important  the  level  of  underground  economy  but  analyzing this level 
is  not  enough.  It  is  important  to  analyze  the  effect  of  underground  activities  on  the 
official  economic.  From  this  perspective  our  analysis  will  be  focused  on  the  impact  on 
GDP and the labor market.  
Based on data provided by Eurostat we try to analyze the period between 2003-
2010  for  revealing  the  correlation  of  underground  economy  with  official  GDP  and 
unemployment  rate. 
Table 1 
Indicators  2003  2004  2005  2006  2007  2008  2009  2010 
GDP  per capita Euro  2400  2800  3700  4500  5800  6500  5500  5700 
Underground 
economy %GDP 
33,6  32,5  32,2  31,4  30,2  29,4  29,4  30,2 
Unemployment rate 
% 
7,0  8,1  7,2  7,3  6,4  5,8  6,9  7,3 
Source: Schneider,  2010, Eurostat, 
The analysis of economy development in the period 2003 - 2010, we see a slight 
decrease in the size of this phenomenon (about 2%) both for Romania and for the EU27 
average.  However,  the  difference  between  Romania  and  the  European  average  is 
relatively  constant  at around 10%, reflecting  a systemic  problem of our economy. 
  
  1121 
Figure 2. Correlation  between underground  economy and GDP per capita in 
Romania between 2003-2010 
y = -938,64x + 33816
R
2 = 0,9329
0
1000
2000
3000
4000
5000
6000
7000
29 29,5 30 30,5 31 31,5 32 32,5 33 33,5 34
Underground economy % GDP
G
D
P
 
p
e
r
 
c
a
p
i
t
a
 
E
u
r
o
 
Source: own calculation based on Table 1 
 
As  we  can  see  in  the  previously  figure  there  is  an  indirect  correlation  between 
the GDP per capita and underground economy and also very powerful, more than 93%. 
This  fact  confirms  that  economic  crises  have  an  important  impact  in  favor  the 
underground  economy increase. 
 
Figure 3. Correlation  between underground  economy and unemployment  rate in 
EU27 countries in 2009 
y = 0,2561x - 0,9673
R
2 = 0,3422
0,0
1,0
2,0
3,0
4,0
5,0
6,0
7,0
8,0
9,0
29 29,5 30 30,5 31 31,5 32 32,5 33 33,5 34
Unemployment rate %
U
n
d
e
r
g
r
o
u
n
d
 
e
c
o
n
o
m
y
 
%
G
D
P
 Source: own calculation based on Table 1 
 
Considering  the  impact  of  underground  economy  on  the  unemployment  rate,  in 
this  case  there  is  a  direct  correlation;  any increase of underground economy is reflected 
in increasing  of labor force employed  without  legal  forms. 
 
Conclusion 
 
In what concerns the size of the underground economy with respect to GDP, we 
found  that  the  dimension  ranges  from  33.6  percent,  in  2003, to 30.2 percent of official 
GDP  in  2010.  The  underground  economy  slightly  decreases  except  for  last  three  years 
when starting  the economic  crises.   
Given  these  results,  the  policy  recommendations  to  reduce  the  underground 
economy  in  Romania  are  based  on  three  pillars:  (a)  reducing  the  social  security  
  1122 
contributions  paid  by  employer  and  employee;  benefits  system,  especially  for 
unemployed  people;  (b)  improving  the  efficiency  of  public  sector  together  with  an 
increase of economic freedom and a better tax audit system; (c) to reform tax regulation 
for  reducing  the  bureaucracy  and  corruption  –    important  factors  in  realizing 
underground  activities. 
Despite  these controversies, the underground economy is not always a bad thing. 
An  increase  in  underground  activity  during  a  crisis  can  avoid  a  recession  more  and 
individuals  and businesses  earn more money,  which  they can spend in the real economy. 
 
REFERENCES 
 
1.  Buziernescu  R.,  2007,  Evaziunea  fiscală  internă  şi  internaţională,  Editura 
Universitaria,  Craiova 
2.  Choi,  Jay  Pil  and  Thum,  Marcel  P.,  2002,  Corruption  and  the  Shadow  Economy  
CESifo  Working  Paper  Series  No.  633,  Available  on  SSRN:  
http://ssrn.com/abstract=297602 
3.  Dell’Anno,  R.,  2007,  The  shadow  economy  in  Portugal:  an  analysis  with  the 
MIMIC approach, Journal of Applied Economics. Vol X, No. 2 (Nov 2007), 253-
277 
4.  Schneider,  F.,  &  Enste,  D.,  2002,  Hiding  in  the  Shadows:  The  Growth  of  the 
Underground  Economy.  Economic  Issues  No.  30,  IMF, 
http://www.imf.org/external/pubs/ft/issues/issues30/index.htm 
5.  Schneider F., 2010,  Size and Development of the Shadow Economy of 31 European 
Countries  from 2003 to 2010, ShadEcEurope31_2010.doc 
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What  Do  We  Really  Know?,  CREMA Working Paper 2006-01, Basel, Center for 
Research in Economics,  Management  and the Arts. 
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The underground economy in Romania

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