The objective of this study is to estimate the extent of the underground economy, illegal currency and tax evasion in the Saudi economy over the period of 1980-2010. The study uses the Gregory and Hansen cointegration test based on the recent form of the currency demand approach as a proxy to indirectly quantify the underground economy. The outcomes provide that the average size of the underground economy constituted 62.80% of the official GDP over the study period. The size was 64.25% of the official GDP in 1980 and 57.82% of the official GDP in 2010. The average size of the illegal money to the money outside banks reached about 18.18% over the study period. The rate of tax evasion to the official GDP has been fluctuating over the study period. It was 3.38% of the official GDP in 1980 and 2.53% of the official GDP in 2010. The high rates of tax evasion compared to the official GDP fluctuated from 7.53% in 1982 to 7.91% in 1990. Then, the rates declined, except for the year of 1998, where the rate was 7.21%. From the results, the plot of CUSUM and CUSUMSQ statistic tests for ln(M1) do not cross its critical value line at the 5% level of significance, and hence, the study concludes that the model of Saudi money demand is stable over the study period.
Keywords:
Underground economy, Illegal currency, Tax evasion, Zivot and andrews unit root test, Gregory-Hansen cointegration, Currency demand approach.
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