THE recession in advanced economies will set the tone for global economic outlook in 2009. Of importance is the extent of fiscal pump priming and mone

In the current global economic downturn, with people losing jobs and businesses suffering shrinking revenues, we may well see a more vigorous black economy

THE black economy is also known sometimes as the hidden economy or the underground economy, but in fact, a lot of it is right there in plain sight. Broadly, the term covers all unregistered and unregulated economic activities. Not all of these are sinister crimes that take place in the shadows.

Your favourite chicken rice stallholder, who has never filed a tax return, is part of the black economy. So are the illegal car workshop just down the road and the factory in Balakong that makes knock-offs.

And what about the handyman you turn to for household repairs, the accounts executive who earns some side income by giving tuition to your kids, and the professional who freelances outside office hours? If the Inland Revenue Board (IRB) knows nothing about the earnings, the trio come under the black economy banner as well.

The foreign worker you see going around housing estates on weekends offering to cut grass? Black economy too. And of course, how can we forget the pirated DVD seller who provides your weekly movie fix?

Dr Jeyapalan Kasipillai

Conventional wisdom has it that in the current global economic environment, with people losing jobs and businesses suffering shrinking revenues, we may well be seeing a more vigorous black economy. The perception is that in such desperate times, legal and ethical requirements are often likely to take a back seat.

Individuals may be forced to moonlight, join the ranks of the self-employed or work outside the law, thus avoiding the income tax net. Companies may cut corners by sidestepping rules and regulations in areas such as taxes and duties, licensing and registration, and employee benefits.

Copyright owners are among those who believe that the infringement rate will rise in tandem with the economic slowdown.

“Obviously, when the economy is tougher, it does give impetus to the pirates to promote their illegal wares to consumers,” says Shamsul Jafni Shafie, executive director of the Malaysian Federation Against Copyright Theft (MFACT), which represents the Motion Picture Association (MPA) and the Entertainment Software Association (ESA).

(MPA is the international counterpart of the Motion Picture Association of America, the lobby group of the American movie, home video and television industries. The ESA is a US organisation that looks after the interests of computer and video game publishers.)

Informal and unfair

Even in the industrialised countries, which typically have lower levels of unreported economic activity than those of the developing economies, there is anecdotal evidence suggesting that during a downturn, more businesses are compelled to operate in the informal sector.

Just ask the Irish Small and Medium Enterprises Association (ISME). Last August, chief executive Mark Fielding warned: “There has been a marked increase in black economy activities during the economic slowdown, with numerous companies complaining to ISME that they are being undercut by rogue operators.”

tan Sri Mohamed Yakcop

The association’s lament is just one view, but it is not a unique one. Many businesses paint themselves as victims of the black economy. For one thing, their illegal competitors do not comply with taxation and regulatory obligations, and therefore incur lower costs.

That gives them an unfair advantage over the legitimate businesses. Nowhere else is this more evident than in the industries that are levied sin taxes.

The alcohol, tobacco and gambling players pay such high taxes – it is the government’s way of discouraging these vices by making the products more expensive – that there is a huge incentive for others to enter the market through the back door.

It is almost routine for the listed cigarette manufacturers, numbers forecast operators and brewers in Malaysia to grumble about losing ground to smugglers, counterfeiters and unlicensed bookies.

The chairman’s review in British American Tobacco (M) Bhd’s (BAT) annual report 2007 talks about the impact of the surprise 25% excise increase in July 2007, which pushed up cigarette prices.

“As expected, consumers downtraded to cheaper alternatives in the form of illegal cigarettes, which reached an all-time high of 25%, a serious increase from 14% just three years ago,” wrote chairman Tan Sri Abu Talib Othman.

In Carlsberg Brewery Malaysia Bhd’s annual report 2007, managing director Soren Holm Jensen points out that only Norway has higher excise duties than Malaysia. He expresses hopes that the current rates in Malaysia will not rise for the next few years and argues that the steep taxes encourage smuggling.

Another group of industries that would love to see the black economy contracting are those that revolve around intellectual property (IP). In this case, perhaps the most unsavoury aspect of the illegal competition is that it gleefully piggybacks on the output of the legitimate businesses for free.

The pirates make gains from movies, music, software and books without having to create the works. The producers of fake goods merely copy and sell stuff. They need not fork out a cent for artistic input, research and development, and marketing. It is yet another unfair advantage.

The damage can be debilitating, like it has been for the music companies in Malaysia.

A wider impact

About a decade ago, they were selling about RM315mil worth of CDs. This has plummeted to an estimated RM60mil in 2008. After adding sales of about RM20mil through online and mobile channels, we are talking about a 75% plunge in revenue.

Recording Industry Association of Malaysia CEO Tan Ngiap Foo asks: “Which industry can withstand such a big drop. We are dying. How to create good music?”

In addition, counterfeiters inflict harm by diluting the reputation of the genuine products. The legitimate businesses risk losing a customer each time a consumer is misled into buying an imitation and gets lower quality than he has bargained for – over-the-counter medicines that lack efficacy, bags and shoes that fall apart soon after purchase, watches that do not tell time accurately, cigarettes with dodgy additives.

When businesses gripe about unjust competition from the black economy, they do not always get sympathy. After all, apart from crime, few facets of the black economy appear menacing and serious enough to warrant special attention from the authorities.

The current laws and enforcement measures ought to be enough, should they not? Why fret over petty traders and backyard industries that do not pay taxes and fees, when there are bigger fish to go after?

Also, it is hard for the public to grasp the idea that large and high-spending businesses such as the cigarette, beer and gaming companies and the Hollywood studios are at all troubled by illegal operators.

In addition, it is common for most folks to view IP piracy as victimless, and that the legitimate businesses are partly to be blamed for not lowering prices.

For that matter, there are the arguments that the gray market creates jobs and eases social tensions, and that if allowed to mature, the illegal operators will eventually join the formal economy.

However, this surely cannot be a zero-sum game. There are consequences when the black economy pummels those who conduct business above board, and the effects will ripple through their supply chains. The governments (and by extension, the public) will feel it as well.

Naturally, the industries affected by the black economy are rather persuasive in articulating this point.

The BAT website says the trade in illegal cigarettes may undermine the legitimate tobacco industry, reduce the demand for Malaysian-grown tobacco, reduce the potential amount of taxation that could be collected by the Government and make the tobacco market difficult to regulate.

Says Confederation of Malaysian Tobacco Manufacturers (CMTM) chief executive Shaik Abbas Ibrahim: “The underground economy expands at the expense of the legitimate economy. The Government loses revenue. It cannot fulfil its health agenda because of the availability of cheaper illegal cigarettes.”

Shamsul Jafni of MFACT argues that if video piracy goes unchecked, the output of the film and TV industries may decline, and this will hurt not only those in the creative communities, but also those working in the movie distribution line, including cinema operators and video stores.

The are social costs as well, he says, such as the fact that piracy and sale of pornographic videos often go hand in hand, and that there are links between movie thieves and organised crime.

He adds: “Piracy hurts all Malaysians. The pirates don’t pay tax on the illegal copies they distribute or sell, and thus they don’t contributing to the welfare of all Malaysians.”

The case for extra vigilance

Indeed, there are several big-picture reasons to justify governments taking a deeper interest in the growth of the black economy.

No.1 is that the informal sector is unrepresented in the official statistics and data. This may lead to information gaps and flawed policies.

Says Professor Dr Jeyapalan Kasipillai of the Monash University Sunway Campus’ School of Business, “The existence of the hidden economy has an important implication in determining macroeconomic variables, the functioning of the national economy and the implementation of economic policy.

“From this point of view, some observations of the hidden economy and knowing something about where it occurs is an extremely useful research exercise.”

When the Government decided to give a cash rebate to salve the pain from the substantial jump in petrol and diesel prices last June, it opted to rely on the Road Transport Department’s database to maximise the number of people who ought to receive the rebate.

Some observers say a better way to provide relief to the rakyat is to grant tax credits because this would be based on income levels. The snag is that the reach of the tax system is limited.

In an interview with StarBizWeek in November, Second Finance Minister Tan Sri Nor Mohamed Yakcop acknowledges that the idea is good but difficult to execute.

“We have about 12 million people who work. Only about two million are registered with the IRB, and over one million pay tax. So we have another 10 million of the working population who are not registered taxpayers,” he explains.

Here is a clear argument for doing more to ensure that individuals and businesses are included in the formal economy.

Another drawback of the black economy is that its players are usually small-scale, inefficient and relatively unproductive. They continue to be thus because it is hard for them to be weaned off the dynamics that comes with their illegal status.

More importantly, governments have to realise that factors such as red tape, burdensome taxes and regulatory requirements, and lax enforcement hasten the growth of the black economy.

There is an eternal conflict between the authorities’ instinct to let enterprise find its course and the cold logic that the black economy should be driven to the surface. It’s a taut interplay of many forces. Eventually, something has got to give.

An example: Lately, there has been talk that the copyright owners, frustrated by the rampant piracy, may push for Malaysia to be bumped from the US Trade Representative’s watch list (for IP rights protection and enforcement) to the priority watch list.

That will bring us a step closer to trade sanctions. Although this is a remote possibility at the moment, such a step will be a rude wake-up call for the Government.

The black economy should never have such power to make life difficult for law-abiding citizens.

The Star- Errol Oh