EU Finds New Source of GDP Growth: Payments from Criminal Activity

June 5, 2014         By: Jane Genova

This October, the economies of the members of the European Union (EU) will be accounting for payments from criminal activities.

These range from prostitution, where it is still illegal in most EU member countries, to smuggled cigarettes.

Wryly, Bloomberg News refers to that as Europe’s “new source of economic growth.”

But as the street-smart had already suspected, all hasn’t exactly been economic gloom and doom throughout Europe since The Great Recession.

Underground economies flourish during hard times. Ordinary people find ways to get by. The well-off are cagey enough to take advantage of the emerging bargains.

For example, more luxury goods become available on the grey market.

Eurostat, the official bookkeeper for the EU, estimates this accounting change could boost nations’ GDP growth by an average of 2.4 percent.  The largest increases could be between 4 and 5 percent in Sweden and Finland.

For Italy, it could be a 2 percent growth.  Since the Bank of Italy estimated the nation’s illegal activities could be valued at about 10.9 percent of GDP, underneath the official stagnant economy, the criminal one has evidently been thriving.

This shift in how GDP is calculated is happening for two reasons.

One is regulatory. In 2010, the European System of Accounts (ESA) mandated:

“ … illegal economic actions [that] shall be considered as transactions when all units involved enter the actions by mutual agreement.  Thus, purchases, sales or barters of illegal drugs or stolen property are transactions, while theft is not.”

Some Europeans are amused by the bureaucratic distinction between illicit activities conducted through consensus and involuntary ones. That means that the GDP will include the revenues the middleman earns peddling stolen goods but not what the thief gets from pawning the merchandise.

But likely they also view this as progress. It creates a level playing field for measuring economic activity throughout the EU. No more apples and oranges.

Historically, the prudish nations such as Italy and Spain where prostitution is against the law did not factor in those payments.

More liberal countries like Germany which permits prostitution, did.  Consequently, the snapshots GDP gave of the various economics were way out of focus.

The second reason is pragmatic. The ESA came up with guidelines for assessing revenues from the underground economy.  In reality, that isn’t all that difficult.  Shadow economies operate by strict sets of rules, especially concerning pricing.

Talk to ten dealers (but seriously, don’t do this) about the range in the value of heroin of a supposed purity. The numbers are likely to come in about the same.  Both sex workers and their clients understand the standard rates for the myriad of services provided by different “grades” of providers. Buyers of a smuggled Prada purse know exactly the parameters for negotiation.

Putting aside the niggles about the wording of the regulation and the source of the revenue, the impacts for the EU nations could be huge.

Government bonds could increase in value.  More foreign investment could be attracted. Italy could be among the nations which find that their budget deficits will happily fall beneath the statutory 3 percent of GDP.

Employers operating in the official economy might have more confidence in the future. Property values could recover. Emigration by the educated young could peter out. The tension about inequality of income could lessen.

However, GDP has always been a platform for creative accounting.

The new snapshots taken might have a more accurate focus, but they still won’t capture the entire story of what is occurring in all sectors of the economies of Europe, a Sisyphean task if there ever was one.