According to the calculations of the shadow economy index, which have been carried out in the Baltic states since 2009, the level of the shadow economy in Latvia tended to decrease in 2015 and 2016, when it reached 21.3% and 20.7% of GDP, respectively. While in the following years, the size of the shadow economy in Latvia either did not change significantly or increased: In 2017, the shadow economy in Latvia was 22.0% of GDP, in 2018 - 24.2%, in 2019 - 23.9%, in 2020 - 25.5%, but in 2021 - 26.6% of GDP.

An increase in the shadow economy in 2021 is also observed in Lithuania and Estonia. Namely, compared to 2020, the shadow economy in Estonia increased by 2.5% in 2021, reaching 19.0% of GDP. In Estonia, this is the highest figure of the shadow economy since 2012, when the shadow economy reached 19.2% of GDP. While in Lithuania, the size of the shadow economy increased by as much as 2.7% in 2021, reaching 23.1% of GDP. In Lithuania, this is the highest indicator of the size of the shadow economy since 2009. Thus, most likely, due to the Covid-19 pandemic, the shadow economy in 2021 has increased in all three Baltic countries. Although the difference between the size of the shadow economy in Latvia and Lithuania is relatively smaller than in previous years, it is still highest in Latvia.

SSE Riga professor Dr Arnis Sauka, the author of the study, highlights: “On the one hand, it cannot be denied that the shadow economy in Latvia, as well as in the other Baltic countries, has been negatively affected by the Covid-19 pandemic. However, unfortunately, the data of our study show that policy makers, especially in Latvia, have not done well in reducing the shadow economy even in the years of economic growth, before the pandemic. This year, in addition to the Covid-19 pandemic, there has also been uncertainty, incl. economic uncertainty caused by the war Russia has started in Ukraine. In such very difficult circumstances, the reduction of the shadow economy in the coming years should not be forgotten, and new, more modern solutions should be found to reduce it. Because still great resources are wasted in the shadow economy that would be useful both for strengthening national defence and for health, education and science, social protection and other areas.”
 

The results of the study show that the most important component of the shadow economy in Latvia, Estonia and Lithuania in 2021 was envelope wages, which account for 46.2% of the total shadow economy in Latvia, 42.7% in Estonia and 38.8% in Lithuania.


In 2021, undeclared income made up 30.0% of the shadow economy in Latvia, and undeclared employees accounted for 23.8%. In 2021, unreported employees, in Estonia and Lithuania, respectively, accounted for 30.0% and 23.5% of the total shadow economy, while undeclared income accounted for 27.2% and 37.7% of the total shadow economy.

According to the results of the study, in 2021 compared to 2020, the share of the average salary (%) that entrepreneurs hide from the state, or the envelope wages, increased in all three Baltic countries. In Latvia, however, this increase is relatively small, only by 0.3%, with envelope wages increasing to 23.8% in 2021. In Estonia, the amount of envelope wages in 2021 has increased by 3.8%, reaching 17.0%, but in Lithuania by 0.9%, increasing to 16.2%. As professor Sauka emphasises: “Thus, the amount of envelope wages is still significantly higher in Latvia, which largely explains the differences in the overall shadow economy between the Baltic states.”

An increase in all Baltic countries is also observed in the area of non-disclosure of income (profit), as in Latvia the average share of income (%) hidden by entrepreneurs from the state increased by 0.6% in 2021, reaching 18.6%, in Estonia - by 0.5%, reaching 12.1%, but in Lithuania - by 1.0%, reaching 16.8%. At the same time the amount of non-disclosure of employees (average % of the total number of employees employed without a contract) in 2021, compared to 2020, slightly decreased in Latvia and Lithuania, respectively - by 0.2%, to 10.7% and by - 0.4% to 8.9%. In Estonia, the non-disclosure of employees in 2021 increased by 1.5%, reaching 10.5%, which is the highest figure since the shadow economy in Estonia has been measured.

The results of the study indicate that the overall level of bribery (as a percentage of the income unofficially paid by businesses as ‘grease money’) has increased in all Baltic countries in 2021, compared to 2020. The largest increase is observed in Lithuania, where this indicator has increased by 3.9%, reaching 12.3%. In Estonia, general bribery has increased by 0.6%, reaching 7.0% in 2021, and in Latvia - by 0.9%, rising up to 9.2%. The level of general bribery in Latvia has not been so high since 2014, in Lithuania since 2015, but in Estonia this is the highest indicator since this study has been made. The results of the study also show that in all the Baltic states in 2021, compared to 2020, the average % of the contract amount to ensure public procurement has increased. Namely, in Latvia there is an increase of 1.1%, reaching 8.0%, in Lithuania - by 2.1%, reaching 7.7%, but in Estonia - by 0.1%, with this component of the shadow economy increasing to 4%.
 

The highest levels of shadow economy in Latvia is observed in Riga Region, Kurzeme and Zemgale. In terms of sectors, the highest share of shadow economy in Latvia still comes from the construction sector.


Professor Sauka points to a negative trend: “If since 2015, the shadow economy in the construction sector in Latvia has decreased (40.0% in 2015, 38.5% in 2016, 35.2% in 2017, 34.1% in 2018, 30.7% in 2019 and 28.7% in 2020), then in 2021 the sector observed an increase in the shadow economy to 31.2%.” In 2021, the volume of the shadow economy in retail trade in Latvia reached 29.8%, in the service sector - 27.5%, in production - 25.0%, and in wholesale trade - 24.4%.

When it comes to the opinions that businesses in the Baltics profess of the activities of the State Revenue Service (SRS), they are still relatively satisfied. On a scale of 1-5, where 5 means very high satisfaction, in 2021 satisfaction with the SRS in Latvia reached 3.60, but in Lithuania - 3.56. Thus, for the first time since this factor affecting the shadow economy has been measured (since 2010), satisfaction with the activities of SRS in Latvia is higher than in Lithuania. Satisfaction with the SRS is still the highest in Estonia in 2021 (3.74), which is a decrease compared to 2019 (3.80) and 2020 (3.76).

The results of the research show that in 2021, compared to 2020, the satisfaction of entrepreneurs with state tax policy has increased in Latvia - from 2.63 to 2.70. In Lithuania and Estonia, on the other hand, satisfaction with tax policy decreased from 3.08 to 2.81 and 3.14 to 3.02, respectively. Satisfaction of entrepreneurs in Latvia has also slightly increased in terms of the quality of legislation (from 2.96 in 2020 to 2.98 in 2021), but has decreased in Lithuania and Estonia, from 3.03 to 2.89 and 3.35 to 3.25, respectively. In turn, satisfaction with government support for entrepreneurs in Latvia in 2021 increased to 2.89 (from 2.59 in 2020), but decreased in the other two Baltic states: to 2.91 in Lithuania (from 2.99 in 2020) and to 2.51 in Estonia (from 2.78 in 2020).

The results of the study also show that although younger and smaller companies are proportionally more involved in shadow economy activities than larger and older companies, the overall contribution of the shadow economy is bigger for larger companies (with more than 50 employees and an annual turnover of more than EUR 500,000). This trend is directly related to the fact that the largest companies, although proportionately less involved in the shadow economy, still have a much higher financial turnover.

Evaluating the latest data on the shadow economy, professor Sauka acknowledges: “Although the trends are generally negative, given the context, the growth of the shadow economy in Latvia, Estonia and Lithuania in 2021 could have been higher. The shadow economy is likely to continue to grow over the next 2-3 years, especially if adequate resources are not devoted to reducing it. In this regard, co-operation between various institutions with an aim to reduce the shadow economy should be further strengthened in Latvia, especially at the operational level. It would urge policy makers not only to concentrate resources on reducing the shadow economy in the most problematic areas, but also to take a comprehensive approach to reduce the shadow economy by introducing a number of interrelated measures. The shadow economy is a complex phenomenon that cannot be reduced by one, single measure. We should not forget about raising the government's reputation among entrepreneurs and the population, incl. the publicly fair trial of corruption and other economic crimes.”

This study was co-financed as part of the project VPP-FM-2020/1-0005 ‘Shadow Economy in Latvia’ (RE: SHADE) of the State Research Programme ‘Reduction of the Shadow Economy for the Provision of Sustainable Development of the State’.

The presentation of the study is available below.

 

About Shadow Economy Index for the Baltic Countries

SSE Riga carries out its ‘Shadow Economy Index for the Baltic Countries’ study once a year, surveying businesses in the Baltic states. The authors of the study are the head of the SSE Riga Centre for Sustainable Business, professor Dr Arnis Sauka and SSE Riga professor Dr Tālis Putniņš. In order to estimate the size of the shadow economy as a percentage of GDP, the index includes calculations of undeclared business income, unregistered/hidden employees, as well as undeclared envelope wages.