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Cover of: Good and Bad Equilibria with the Informal Sector
Bouwe R. Dijkstra

Good and Bad Equilibria with the Informal Sector

Section: Articles
Volume 167 (2011) / Issue 4, pp. 668-685 (18)
Published 04.10.2018
DOI 10.1628/jite-2011-0008
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  • 10.1628/jite-2011-0008
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Summary
We examine whether an economy can have a bad (small or no formal sector, high taxes) as well as a good (small or no informal sector, low taxes) equilibrium. The government maximizes a combination of instantaneous welfare and the rate of decline of the informal sector. When the instantaneous welfare component only contains formal-sector welfare, multiple equilibria can occur if the elasticity of average to marginal cost for the public good is less than one. More regard for the informal sector leads to a worse equilibrium and to a higher prevalence of multiple equilibria.