The Underground Recovery

Americans used to look with suspicion on places were people wanted to be paid only in cash. How unseemly. How sad. How redolent of corruption, unfulfilled expectations and dysfunctional institutions.

Exactly. And welcome home.

The US economy is becoming increasingly 'informal' or 'gray' or 'underground,' whatever adjective one chooses to describe a system in which systemic biases have rendered entire swaths of the working populace complicit in this rejection of societal reinforcement.

There are some who will sniff and ask what else one can one expect from illegal immigrants, the uneducated and unskilled. As if.

The majority of those participating in these off-the-books arrangements are PLUs: People Like Us. Programmers, designers, writers and illustrators, even members of the construction trades and other service workers. People who were once backbones of the creative middle class or avatars of the new economy. But persistent income inequality has led to political inequality which reinforces the necessity of shielding whatever uncertain compensation comes their way. Historically revered Supreme Court Chief Justice Oliver Wendell Holmes once said that 'taxes are the price of civilization.' A society whose members believe themselves incapable of making such contributions to the common good, especially while their wealthier confreres avoid those obligations through expensive legal dodges, may well worry about its future. JL

James Surowiecki reports in The New Yorker:

When we all finished filing our tax returns, there was a little something missing: two trillion dollars. That’s how much money Americans may have made in the past year that didn’t get reported to the I.R.S.,

according to a recent study by the economist Edgar Feige, who’s been investigating the so-called underground, or gray, economy for thirty-five years. It’s a huge number: if the government managed to collect taxes on all that income, the deficit would be trivial. This unreported income is being earned, for the most part, not by drug dealers or Mob bosses but by tens of millions of people with run-of-the-mill jobs—nannies, barbers, Web-site designers, and construction workers—who are getting paid off the books. Ordinary Americans have gone underground, and, as the recovery continues to limp along, they seem to be doing it more and more.

Measuring an unreported economy is obviously tricky. But look closely and you can see the traces of a booming informal economy everywhere. As Feige said to me, “The best footprint left in the sand by this economy that doesn’t want to be observed is the use of cash.” His studies show that, while economists talk about the advent of a cashless society, Americans still hold an enormous amount of cold, hard cash—as much as seven hundred and fifty billion dollars. The percentage of Americans who don’t use banks is surprisingly high, and on the rise. Off-the-books activity also helps explain a mystery about the current economy: even though the percentage of Americans officially working has dropped dramatically, and even though household income is still well below what it was in 2007, personal consumption is higher than it was before the recession, and retail sales have been growing briskly (despite a dip in March). Bernard Baumohl, an economist at the Economic Outlook Group, estimates that, based on historical patterns, current retail sales are actually what you’d expect if the unemployment rate were around five or six per cent, rather than the 7.6 per cent we’re stuck with. The difference, he argues, probably reflects workers migrating into the shadow economy. “It’s typical that during recessions people work on the side while collecting unemployment,” Baumohl told me. “But the severity of the recession and the profound weakness of this recovery may mean that a lot more people have entered the underground economy, and have had to stay there longer.”
The increasing importance of the gray economy isn’t only a reaction to the downturn: studies suggest that the sector has been growing steadily over the years. In 1992, the I.R.S. estimated that the government was losing $80 billion a year in income-tax revenue. Its estimate for 2006 was $385 billion—almost five times as much (and still an underestimate, according to Feige’s numbers). The U.S. is certainly a long way from, say, Greece, where tax evasion is a national sport and the shadow economy accounts for twenty-seven per cent of G.D.P. But the forces pushing people to work off the books are powerful. Feige points to the growing distrust of government as one important factor. The desire to avoid licensing regulations, which force people to jump through elaborate hoops just to get a job, is another. Most important, perhaps, are changes in the way we work. As Baumohl put it, “For businesses, the calculus of hiring has fundamentally changed.” Companies have got used to bringing people on as needed and then dropping them when the job is over, and they save on benefits and payroll taxes by treating even full-time employees as independent contractors. Casual employment often becomes under-the-table work; the arrangement has become a way of life in the construction industry. In a recent California survey of three hundred thousand contractors, two-thirds said they had no direct employees, meaning that they did not need to pay workers’-compensation insurance or payroll taxes. In other words, for lots of people off-the-books work is the only job available.

Sudhir Venkatesh, a sociologist at Columbia and the author of a study of the underground economy, thinks that many workers, particularly younger ones, have become comfortable with casual work arrangements. “We have seen the rise of a new generation of people who are much more used to doing things in a freelance way,” he said. “That makes them more amenable to unregulated work. And they seem less concerned about security, which they equate with rigidity.” The growing importance of services in the economy is also crucial. Tutors, nannies, yoga teachers, housecleaners, and the like are often paid in cash, which is hard for the I.R.S. to track. In a 2006 study, the economist Catherine Haskins found that between eighty and ninety-seven per cent of nannies were paid under the table.

It’s obviously a good thing that people are able to find work to keep themselves afloat when the legitimate economy has been terrible at creating new jobs and raising incomes. And the size of the shadow economy means that our economy as a whole is probably doing better than we think. But the damaging effects of this trend are clear. It’s hard for businesses to play by the rules if their competitors aren’t paying payroll taxes or workers’ comp. And off-the-books workers have no benefits or Social Security, and not much recourse if a boss decides to shortchange them. What’s more, when a sizable chunk of the population avoids taxes, confidence in the system diminishes. “Too much off-the-books work is not good for the social contract,” Venkatesh says. “Economies work best when people have some sense, however abstract, that they are all tied together.” ♦