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Introduction to the symposium on the shadow economy, tax behaviour, and institutions

Published online by Cambridge University Press:  25 May 2023

Catalina Granda*
Affiliation:
Department of Economics, Universidad de Antioquia, Medellín, Colombia
Christoph Kogler
Affiliation:
Department of Social Psychology, Tilburg University, Tilburg, The Netherlands
*
*Corresponding author. E-mail: [email protected]
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Abstract

This JOIE symposium features some of the most influential papers presented in the seventh version of the conference on The shadow economy, tax behaviour, and institutions. Accordingly, it brings together contributions from several disciplines and schools of thought in the social sciences and the humanities exploring such issues as the role of formal and informal institutions in understanding the shadow economy, the importance of social aversion in the motivations for tax compliance, and the dual nature of corruption. This introduction lays out the scope of the symposium, summarises the preceding literature on the topic, and provides a brief outline of each contributing article, noting that, although each paper focuses on a different economic and cultural context, they share several elements in common with alternative theories addressing the institutional, psychological, and sociological aspects of tax law compliance and other appropriate behaviours.

Type
Introduction
Copyright
Copyright © The Author(s), 2023. Published by Cambridge University Press on behalf of Millennium Economics Ltd.

Background

This symposium features some of the most outstanding papers presented in the seventh version of the international conference on The shadow economy, tax behaviour, and institutions, which took place virtually during 23–25 September 2021, at Brunel University London. This conference brought together researchers from several disciplines and schools of thought in the social sciences and the humanities to explore and discuss about the nature, role, and evolution of institutions pertaining to the shadow and/or informal economy, tax compliance, and tax administration; historical, sociological, and psychological aspects of tax behaviour; and taxpayers' social and cultural norms and practices.

Overview of the literature

Tax behaviour – compliance, avoidance, and evasion – has been heavily investigated in economics and the social sciences, indicated by a remarkable increase in scientific publications in recent years. Despite important earlier works in the field (Schmölders, Reference Schmölders1960), the most influential economic theory of tax compliance was introduced in the early 1970s. Accordingly, Allingham and Sandmo (Reference Allingham and Sandmo1972) framed the decision whether to comply with tax laws or to evade taxes as a decision under uncertainty. Rooted in the economics-of-crime paradigm (Becker, Reference Becker1968), the central assumption of their theory was that tax compliance increases with stronger deterrence, mainly via higher audit probability and tougher fines. The underlying rationale is that taxpayers are motivated exclusively by utility maximisation, choosing evasion over compliance when it yields a higher expected utility than complying with the regulations. Yet, in empirical studies the effects of audits and fines are not always observable while the effects of other crucial factors such as income and tax rates are not completely clear (Andreoni et al., Reference Andreoni, Erard and Feinstein1998; Fischer et al., Reference Fischer, Wartick and Mark1992; Kirchler et al., Reference Kirchler, Muehlbacher, Kastlunger, Wahl, Alm, Martinez-Vazquez and Torgler2010). Considering the relatively low probability of being audited in combination with the rather mild fines for detected tax evasion in most countries, taxes on earned income should be evaded almost completely according to Allingham and Sandmo's (Reference Allingham and Sandmo1972) model. Importantly, their assumption is inconsistent with reality, where observed tax compliance is remarkably higher (Alm et al., Reference Alm, McClelland and Schulze1992).

In contrast to this classical economic approach, alternative theories highlight the importance of social, institutional,Footnote 1 and psychological factors. According to these approaches, tax behaviour is influenced by trust in government authorities (i.e. institutional trust) as well as trust in other citizens (i.e. interpersonal trust), social norms and fairness considerations, and individual characteristics like attitudes, motivational postures, and tax morale (see, e.g., Braithwaite, Reference Braithwaite2009; Kirchler and Braithwaite, Reference Kirchler and Braithwaite2007; Torgler, Reference Torgler2002; Tyler, Reference Tyler2006; Wenzel, Reference Wenzel2004). In recent years, these factors have gained increased attention in the field of tax research as determinants of compliance and evasion. In particular, the concept of tax morale, which is commonly referred to as the intrinsic motivation for paying taxes independent of deterrence and enforcement mechanisms (Frey, Reference Frey1997), offers a promising avenue for investigating and explaining the cross-cultural differences that have been identified in tax compliance levels (Alm and Torgler, Reference Alm and Torgler2006; Andriani et al., Reference Andriani, Bruno, Douarin and Stepien-Baig2022). In addition, many studies on tax compliance behaviour and tax morale identify relevant gender differences, with women being more compliant than men (Alm et al., Reference Alm, Jackson and McKee2009; Baldry, Reference Baldry1987; Lewis, Reference Lewis1982; Torgler and Valev, Reference Torgler and Valev2010; Webley et al., Reference Webley, Robben, Elffers and Hessing1991).

More recently, the so-called slippery slope framework (Kirchler et al., Reference Kirchler, Hoelzl and Wahl2008) was introduced in an attempt to integrate various influencing factors of tax behaviour. Based on two overarching dimensions, trust in authorities and power of authorities, this approach offers a possibility to integrate classical economic and socio-psychological determinants of tax compliance (Alm and McClellan, Reference Alm and McClellan2012; Bazart and Pickhardt, Reference Bazart and Pickhardt2011; Durham et al., Reference Durham, Manly and Ritsema2014). While power is manifested by the economic factors of the Allingham and Sandmo (Reference Allingham and Sandmo1972) model, trust is assumed to be propelled by factors such as attitudes, social norms, and fairness perceptions. In addition, recent research has investigated the role of public shaming (Coricelli et al., Reference Coricelli, Joffily, Montmarquette and Villeval2010, Reference Coricelli, Rusconi and Villeval2014), emotions (Enachescu et al., Reference Enachescu, Olsen, Kogler, Zeelenberg, Breugelmans and Kirchler2019), cultural values (Andriani et al., Reference Andriani, Bruno, Douarin and Stepien-Baig2022), and new experimental methods have been applied to gain insight into the underlying cognitive processes influencing tax compliance decisions (see, e.g., Kogler et al., Reference Kogler, Olsen, Müller and Kirchler2022).

Summary of the contributions of this symposium

This JOIE symposium includes some of the most valuable contributions to the seventh shadow conference along the lines mentioned above. It consists of three articles addressing issues such as the role of formal and informal institutions in understanding the shadow economy, the importance of social aversion in the motivations for tax law compliance, and the nature of corruption. Although each article focuses on a different economic and cultural context, the three papers share some elements in common with the alternative theories summarised above. First, they challenge the classical economic approach to tax compliance by arguing that the probability of audits and the degree of punishment do not fully explain tax evasion. Second, their findings suggest that a trust-based relationship with the government and other individuals makes people more inclined to comply with tax laws and other appropriate behaviours.

To begin, Gërxhani and Cichocki (Reference Gërxhani and Cichocki2023) present an overview of the empirical research on drivers of the shadow economy in transition countries.Footnote 2 After the fall of communism, many former communist countries entered a transition stage from a planned to a free-market economy that entailed a complete overhaul of the previous formal governing institutions. This transition stage led to a paradoxical situation of formal institutions changing fast and drastically, while informal institutions – the norms and traditions established during 45 years of communism – have changed less so. This review article focuses on two aspects: first, whether and how both formal and informal institutions, their interaction, and their enforcement affect individuals' participation in the shadow economy; and second, how involvement in shadow economies affects individuals' wellbeing. The authors find that intensified immersion in the shadow economy is observed when there is a conflicting relationship between perceptions of formal institutions and individuals' informal institutions. Further, joining the underground economy in transition countries may not be a voluntary choice, but more of a survival tactic because of people being ‘excluded’ from formalised employment opportunities and their benefits, with generally negative implications on individuals' wellbeing. These findings confirm the importance of simultaneously considering both formal and informal institutions when studying individual engagement in the shadow economy, which acquires more relevance for transition countries that have experienced radical institutional reforms.

Then, Malka Tiv (Reference Malka Tiv2023) examines the factors affecting the motivations for tax law compliance in Israel, mainly focusing on the effect that social stigma exerts on an individual's willingness to comply with tax laws. The basic assumption of any tax system is that most of the population pays their due taxes voluntarily. For this reason, a better understanding of taxpayer behaviour and individuals' motivations for paying taxes would be of help for tax authorities in designing better compliance strategies. However, this issue has been relatively neglected since revenue agencies' main emphasis, consistent with the classical economic approach to tax behaviour, has been placed on effective enforcement. This article presents the first quantitative study exploring the actual motives for tax law compliance in Israel, and particularly the impact of social aversion towards tax offenders on a taxpayers' choice of paying taxes. Framed in the recent research on public shaming, this study shows that the social response to tax evaders and personal values regarding the obligation to pay taxes are the most influential variables on the intention to comply with tax laws, while the fear of punishment does not play any role on tax law compliance. These results highlight the importance of education aimed at internalising the meaning of paying taxes and the consequences of non-payment as a means for increasing tax law compliance among a country's citizens.

Finally, Hugo et al. (Reference Hugo, Savage, Schneider and Torgler2023) employs causal and indicative variables to analyse the dual nature of corruption in Latin America during 1980–2018. The authors conceptualise corruption as comprised of two distinct behaviours, namely, rent seeking and systemic corruption. In fact, these two forms of corruption coexist and may work in opposite directions in terms of helping or hindering economic growth. Thus, while rent seeking is driven by greed and private gain, systemic corruption arises as a way of dealing with inefficient bureaucracies and speeding up economic activity. Using structural equation modelling, this article explores the existence of both rent seeking and systemic corruption empirically, thus providing evidence for these two types of corruption. The findings in this study support the view that corruption is not a homogeneous phenomenon, but one that encompasses a complex set of social behaviours, and thereby suggest the need to consider the duality of corruption when designing policies aimed at countering it.

Concluding note

Without a doubt, the articles in this symposium will exert a meaningful contribution to the literature on the shadow economy and tax compliance and, more generally, on how institutions affect individuals' attitudes towards rent-seeking behaviour and compliance with the law.

Acknowledgements

Catalina Granda acknowledges support from the scientific programme ‘Social and productive inclusion: programs and policies for the promotion of a formal economy’, code 60185, which is part of the EFI Alliance – Formal and Inclusive Economy, under the contingent recovery grant No. FP44842-220-2018.

Footnotes

1 According to Hodgson (Reference Hodgson2006), institutions represent formal and informal norms and rules that determine human interaction and social exchange. Like culture, institutions influence individual and collective preferences and attitudes (Hodgson, Reference Hodgson2006; Hodgson and Jiang, Reference Hodgson and Jiang2007; Hofstede, Reference Hofstede1980).

2 This review article is mostly based on Gërxhani's keynote address at the seventh international conference on The shadow economy, tax behaviour, and institutions (Brunel University London, 2021).

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