The Relationship between Effective Governance and the Informal Economy
Barry A. Friedman

Abstract
The informal economy constitutes a large portion of worldwide gross domestic product, but little empirical research exists that addresses this phenomena. This study explored the relationship between six dimensions of effective governance and the size of the informal economy across 149 countries over six years. The size of national informal economies (Schneider, Buehn & Montenegro, 2010) was regressed on six World Governance Indicators (World Bank, 2011). The perception of a country’s population that the current regime is not stable, that regulatory quality is low, and that corruption is not controlled was associated with larger national informal economies. Conversely, higher perceived levels of political stability, regulatory quality, and corruption control were associated with smaller informal economies. Employment rate, manufacturing sector size, net immigration rate, and gross domestic product were held constant. These relationships were consistent from 2002-2007. Implications of these findings are discussed.

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