Pakistan is a developing country with a population of over 230 million people, and despite efforts to boost its economy, it still faces high levels of inflation. According to the State Bank of Pakistan, inflation reached a 50-year high of 35.4% in March 2023. Inflationary pressures are impacting the purchasing power of ordinary citizens, particularly those in low-income brackets. However, despite these challenges, Pakistan has a thriving shadow economy that plays a significant role in the lives of millions of people. According to estimates by global economics reports, the shadow economy in Pakistan accounted for over 35.6% of the country’s GDP in 2022.
The shadow economy, also known as the informal economy or black economy, refers to economic activities that are not taxed or regulated by the government. In Pakistan, the shadow economy includes everything from street vendors and small-scale traders to large-scale smuggling operations and unregistered businesses. According to a report by the World Bank, the shadow economy in Pakistan was valued at $457 billion in 2022, accounting for 35.6% of the country’s GDP-PPP level. Some reports by an economist at PIDE states that the ratio is more than 90%.
There are various reasons why the shadow economy exists in Pakistan. One reason is the high tax burden on formal businesses, which can make it difficult for them to operate profitably. Another reason is the lack of access to formal credit for small businesses, which pushes them towards informal lending and borrowing. Additionally, corruption and bureaucratic hurdles make it challenging for businesses to operate within the formal economy.
The shadow economy plays a significant role in Pakistan’s economy. It provides employment opportunities for millions of people, particularly those who are less educated or lack formal job skills. It also provides goods and services at lower prices, making them more accessible to low-income households. However, the shadow economy also has negative impacts on the economy, such as the loss of tax revenue for the government, the undermining of formal businesses, and the lack of regulation and oversight.
Pakistan has been facing high inflation rates in recent years, which has had a significant impact on the economy and people’s livelihoods. According to the State Bank of Pakistan, inflation reached a 50-year high of 35.4% in March 2023, up from 12.7% in March 2022. The highest inflation rates were seen in food items, with an increase of 69.98% in the prices of wheat, 82.41% in the price of rice, and 53.51% in the price of cooking oil in 2021.
The impact of high inflation on Pakistan’s economy due to the Covid-19 pandemic has been further exacerbated by the recent political unrest in the country and the floods. Pakistan is still failing to meet IMF conditions for loan schemes which would further unstable the economy.
Despite the negative impacts of high inflation, the shadow economy in Pakistan has been playing a critical role in helping people to survive. It provides access to goods and services at lower prices than the formal economy, making them more accessible to low-income households. For example, street vendors and small-scale traders often offer essential goods, such as food and clothing, at lower prices than formal retailers.
The shadow economy also creates employment opportunities for millions of people. According to a report by International Labor Organization (ILO), the shadow economy in Pakistan employed over 75% of the total workforce. This is particularly important given that the formal economy is unable to absorb the country’s growing workforce.
The lack of taxes and regulations on informal businesses means that they can offer lower prices for goods and services, which can help people to stretch their budgets further. Informal businesses are often more flexible and able to adjust their prices in response to changes in market conditions. This can help to mitigate the impact of inflation on people’s standard of living.
While the shadow economy has positive impacts on the lives of many people in Pakistan, it also has negative impacts on the economy. One of the most significant negative impacts is the loss of tax revenue for the government. According to the World Bank, Pakistan’s tax-to-GDP ratio is one of the lowest in the world, i.e. 5.6% in 2022. The shadow economy contributes to this problem by operating outside of formal tax systems.
The shadow economy also undermines formal businesses by creating unfair competition. Informal businesses are often able to offer lower prices due to their lack of taxes and regulations, which makes it difficult for formal businesses to compete. This can lead to a decline in formal business activity and a reduction in economic growth. Additionally, the lack of regulation and oversight in the shadow economy can lead to a range of negative outcomes, such as poor quality goods and services, exploitation of workers, and environmental degradation. These issues can harm the economy and society as a whole.
To strike a balance, policymakers need to implement measures that encourage informal businesses to enter the formal economy, such as tax incentives and simplified registration processes. This can help to increase tax revenues and reduce the unfair competition between formal and informal businesses. By striking a balance between the benefits and risks of the shadow economy, Pakistan can ensure that it continues to provide essential goods and services, create employment opportunities, and help people to cope with economic shocks while also promoting sustainable and equitable economic growth in the long run.
