Stiffing the Tax Man: The part of the economy that has grown under Obama

According to the Federal Reserve as of March 11, 2015 there was $1.36 trillion US currency in circulation.  In 2007 that number was approximately $803 billion.  Why has the amount of currency in circulation increased at a time when there are electronic apps for purchasing fast food, traditional retail is being replaced by on-line stores and almost all salary, wage and government entitlement payments are made via EFTs and debit cards?

Last October, the FDIC released its most recent survey of the banking habits of Americans, which had been conducted in 2013.  Here is an interesting number from the report.

20.0 percent of U.S. households (24.8 million) were underbanked in 2013, meaning that they had a bank account but also used alternative financial services (AFS) outside of the banking system.

This is in addition to the 7.7 percent or 9.6 million households in the United States that were unbanked in 2013. Alternative Financial Services include currency exchanges and other non bank check cashing services, money order, pay day loans, rent-to-own plans, pawnshops, tax refund anticipation loans and other non traditional money lending.

While social justice warriors look at the unbanked and wring their hands about the negligence of financial institutions in under serving the poor, economists use the above numbers as one way to estimate the size of the "gray market" or the "shadow economy"  For those who participate in the shadow economy using a bank means leaving a paper trail for the government to follow.  If such people have to accept checks, it is likely that they make a habit of not cashing such checks into any bank account they may own.  

Some of this shadow activity involves serious crimes such as drug dealing, stolen goods, hiring illegal immigrants, etc., but a lot of it is simply using only cash transactions in order to scam the tax man. Cash transactions are also used to stymie other government agencies that either dispense goodies based upon reported income or to avoid the onerous regulatory burdens placed on some activities.  There is even a technical term for it: legal source unreported income.

There aren't many recent numbers estimating the size of the shadow economy but few economists doubt its strength. In April and May 2013 there was a flurry of articles after a study by Edgar Feige, an economist at the University of Wisconsin-Madison, suggested that the shadow economy had doubled in size since 2009. Since consumer purchases of many items did not decline much less decline at rates that matched the sinking participation in the labor force, other economists tended to concede Feige's point even if they had reason to quibble with his specific numbers.  Other scholars have noted that new work force with its reliance on fewer employees and more freelancers may be an ongoing factor in the size of the shadow economy.

We have seen the rise of a new generation of people who are much more used to doing things in a freelance way,” says Sudhir Venkatesh, a sociologist at Columbia and the author of a study of the underground economy. “That makes them more amenable to unregulated work. And they seem less concerned about security, which they equate with rigidity.”

Legal source unreported income has long been thought to be widespread in many service areas.  Cleaning lady, baby sitter, gardener, dog walker and handyman/light construction immediately come to mind. Not only are such people often paid in cash, but much of their new business comes from referrals from existing customers so they have very low profiles compared to a business that must advertise. Nor do they make a lot of business purchases that require them to have accounts with suppliers.  

I'd add that it has become so easy to set up one's own legal entity on services like LegalZoom, it is now common to see that the business card for a neighbor who mows the lawns of the vacation homes or the husband and wife team of interior house painters is that of an LLC.   Small businesses have traditionally been less likely to attract IRS attention than self-employed individuals. 

Then there are those who lie to keep government payments coming.  From my experience with acquaintances, those who were laid off and decided to go into business for themselves do not rush to inform the unemployment office of that decision. Rather they extended the period in of benefits collection by working off the books for as long as they could.  Consider, too, the growing number of older workers who went on Social Security Disability after the Great Recession. Many were still able to work, but they gamed the system with the help of sympathetic bureaucrats and physicians when they realized they couldn't find regular employment to replace the job they had lost.   A person in that position who finds works a few days a month doing odd jobs isn't likely to deposit any checks into the bank account that receives the monthly transfer from the Social Security Administration.

The shadow economy had been a worldwide phenomenon. Indeed it is often largest in those nations with the longest histories of overreaching government bureaucracies.   According to a report by The World Bank, for the period between 1999-2007, the countries with the smallest shadow economies were Switzerland (8.1%) and the United States (8.4%).  Those with the largest were Korea (25.6%), Greece (26.5%) Italy (26.8%) and Mexico (28.85). 

Italy's patamilitary tax police that track cash purhases

While it appears the shadow economy has grown everywhere after the financial crisis of the past decade, it will be interesting to see if any future report finds Americans as still as relatively honest about their earnings as they were before Obama and his increasingly rogue government, led by a politicized IRS.