The negative effects of the informal economy

The informal economy has many negative effects. We can briefly list the main ones as follows:                      

- Tax and premium losses

One of the most significant negative effects of the informal economy is the reduction in tax revenues, which are the state's primary source of income. The fact that some economic activities remain outside the formal system leads to taxes being underpaid or not paid at all, ultimately reducing the state's tax revenues. Budget deficits resulting from a decrease in state tax revenues are met either through borrowing or printing money. If budget deficits are met through borrowing, interest rates rise, thereby increasing investment costs for the private sector and causing a reduction in investments. A decrease in investments increases unemployment, leading the unemployed masses to work in the informal economy. Meeting budget deficits through borrowing also increases public debt costs due to rising interest rates, which in turn further increases budget deficits. Meeting budget deficits by printing money through the central bank leads to an increase in inflation rates, thereby causing a deterioration in income distribution. One of the greatest harms of informal employment is the decline in state revenues in areas such as tax revenue (corporate tax and income tax), social security premiums, and unemployment insurance premiums. Low tax revenues increase budget deficits and public debt stock, while deficiencies in social security premiums make it difficult for citizens to access quality and free healthcare services, increasing the deficits of social security institutions and the transfers that must be made to these institutions from the budget. The lack of unemployment insurance premiums causes a reduction in the amount and duration of unemployment benefits that employees can receive during periods of unemployment.

Thanks to the informal economy, some individuals earn income that remains untaxed. Consequently, an unfair situation arises between those who pay their taxes in full and those who do not. The unfair distribution of the tax burden also leads to injustice in income distribution.

Firms operating in the informal economy do not pay social security premiums, which reduces retirement pensions and may also limit social transfers provided by the state to social security income groups. Reduced social transfers can make living conditions for low-income groups even more difficult, potentially leading to social and political unrest.

- Deviations in statistical data

The main negative effects of the informal economy are that it leads to uncertain and unreliable estimates in macroeconomic variables such as unemployment rates and income levels. A large-volume informal economy distorts official macroeconomic figures such as unemployment and national income, reducing the reliability of this data. It can limit or completely eliminate the effectiveness of economic policies created based on this data. This is because a certain degree of precision in key statistics such as production and employment is essential to create sufficiently effective monetary and fiscal policies. Due to the informal economy, data regarding existing economic activities in the country are reflected and reported differently than they actually are. This discrepancy results in those responsible for creating economic policy being misinformed or inadequately informed about the country's current economic problems. This state of deficiency or error causes a variation in the impact of the tools used for solutions. Therefore, achieving a solution through implemented policies becomes quite difficult. In addition, it is also possible that policies implemented due to incorrect and erroneous information may lead to different economic problems in the country. The fact that these policies implemented by the state cause new economic problems, combined with the decline in existing trust, reduces confidence in the state in economic terms and emerges as a development that could lead to an environment of economic crisis.

- Causing unfair competition

Along with the issues mentioned above, the informal economy also causes the deterioration of free competition in the market.

As long as they are not caught, firms operating in the informal economy can pursue a more competitive pricing policy compared to formal firms because they avoid legal obligations. By selling the goods and services they produce at a price lower than the market price, they can increase their sales volume and profits.

The fact that both essential elements are expensive and that commercial activities have transformed into a larger but more competitive environment due to the effect of globalization makes it very difficult for businesses whose strength is broken by the informal economy to carry out these tasks. In this context, it is possible to speak of the informal economy having a restrictive effect on investment within the economic system in Turkey. On the other hand, considering situations such as the taxes paid, raw material or technology costs, it is observed that a business can only make investments through informal economic activities or exemptions and exceptions. Their revenues decrease, and for this reason, they face situations such as not paying their employees sufficient wages. This causes employees to demand wage increases and to rely on unions to convey and realize these demands. It is noted that if individuals cannot find what they are looking for from businesses, the relationships between both employer and employee, and between civil society organizations and workers and employers, weaken.

Another harm of informal employment for employees is that they have no legal protection. Informal workers, who have no guarantees regarding the timely payment of their wages, working hours, or weekly/annual leave, are left entirely to the initiative/mercy of the employer. Since informal workers will not have rights such as unionization, they will not have any enforcement power against the employer regarding wage increases and social rights.