Is there a displacement deadweight loss from tax evasion? Estimates using firm surveys from the Czech Republic

Abstract

In the presence of the underground economy, taxes may give rise to a deadweight loss from displacement of efficient producers by inefficient producers. We consider an economy in which a producer faces two types of costs: the cost of production and of taxes.

If efficiency in production is positively correlated with taxhonesty, then high tax rates may cause inefficient producers to crowd out efficient producers. We find the correlation of production efficiency and tax-honesty to be positive (between 0.1368 and 0.1673) by using surveys of 426 Czech firms taken in 2004 and 2005.

Keywords

• underground economy
• social cost of public funds
• taxation
• tax evasion