5204.0.55.008 - Information Paper: The Non-Observed Economy and Australia's GDP, 2012
ARCHIVED ISSUE Released at 11:30 AM (CANBERRA TIME) 12/09/2013 First Issue
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3.2 The defining characteristic of underground production is non–compliance with administrative rules, rather than undertaking an illegal activity. Underground production falls within the SNA production boundary and should be included in the macroeconomic accounts.
3.3 Underground production tends to occur in areas where there is a low level of regulation and a high proportion of cash transactions, and is often undertaken by small businesses. It is concentrated in industries such as construction, accommodation, cafes and restaurants, personal and other services, and retail trade. Typically, owners of these businesses deal directly with their customers and can avoid taxes by under–reporting their income through understating cash receipts and/or overstating their business expenses. Conversely, it is less significant in highly regulated industries due to stronger incentives for management to report strong sales and profit performances, as well as more stringent independent auditing processes.
3.4 The main concern for the ABS is the impact unmeasured transactions may have on the quality of the national accounts and other business statistics. Lack of coverage causes imbalances in the internal consistency of the accounts because parts of economic transactions may be measured while other parts are not. For example, household expenditure on goods and services produced underground may be measured because the purchasers have no reason to hide their purchases, whereas the corresponding production activities are not reported by the producers and are therefore absent from source data.
METHOD FOR MEASURING UNDERGROUND PRODUCTION
3.5 Adjustments for underground production are applied directly to the income and expenditure measures and these measures are then incorporated into the supply–use framework.
3.6 Data from various sources are confronted through the compilation of annual supply and use tables to ensure comprehensive and consistent GDP estimates. Some of the underground economy adjustments are altered through the balancing process.
3.7 Underground production adjustments are applied to several elements of GDP:
3.8 Where householders participate actively in the NOE on their own account (that is, an employee in the observed economy who, outside of official working hours, participates in the NOE), they do so by offering goods and services directly to consumers which go unreported to the authorities. In the national accounts, this type of activity is classified as GMI rather than employee income. The householder is, in effect, operating as a small unincorporated business. Unincorporated business GMI is upwardly adjusted for missing business income.
3.9 As some businesses understate their income and overstate expenses, the ABS applies adjustments to GDP to quantify underground production. Private non–financial corporations GOS is upwardly adjusted based on aggregated tax audits and ABS assumptions on the incidence and opportunity for understating income and overstating expenses. No adjustments are made to the GOS estimate for private financial corporations as these businesses (such as banks and insurance companies) are normally very large and highly regulated. Public sector non–financial corporations and the general government sector are not likely to be involved in underground production and no adjustments are required.
3.10 Employees may undertake additional unrecorded paid work for an employer for 'cash in hand'. In this case, the unrecorded additional income should be classified as employee income or, in national accounting terms, compensation of employees (CoE). There are no adjustments made due to the lack of sufficient data.
3.11 However, to the extent that employees undertake work not officially attributed to an employer, the employee is assumed to be behaving as an unincorporated enterprise and this is treated as GMI recorded in the household sector.
In order to be classified as employed, i.e. either as an employee or self–employed, the person must engage in activity which falls within the production boundary. An employer–employee relationship exists when there is a written or oral agreement, entered into voluntarily by the parties, whereby the person works for the enterprise in return for remuneration in cash or in kind. Self–employed persons work for themselves, are joint owners of unincorporated enterprises, or members of a producers' co–operative. The remuneration of the self–employed is treated as mixed income.
ADJUSTMENTS TO GDP (E)
3.12 Business intelligence suggests that it is likely that there is underreporting of consumer expenditure similar to the underreporting of income to the Australian Taxation Office (ATO). To partially offset the income adjustment for income underreporting, the ABS makes a small adjustment to the HFCE estimate to allow for the underreporting of sales in business surveys (mainly the monthly retail turnover survey). Some small adjustments are also made to private gross fixed capital formation in respect of own account home construction and alterations, being part of household production for own use (note: this is not household production for own final use as this is investment in capital). Goods or services used for own gross fixed capital formation can be produced by any kind of unit, whether incorporated or unincorporated. In the ASNA, imputations are made of the value added by owner–builders in the construction, alteration or extension of their dwellings and for significant own–account construction carried out by private and public enterprises. An imputation is also made for computer software and research and development made on own account.
ADJUSTMENTS TO GDP (P)
3.13 The adjustments applied to GDP(I) are also applied directly to the production–based estimate of GDP(P) as they are directly related supply–side measures using more or less the same annual data sources. The adjustments are made to gross output and total intermediate use for incorporation into the supply use framework.
3.14 Based on aggregate tax audit information, around 70% of the income adjustment factor is added to output and 30% is deducted from intermediate consumption (with some variation between industries) to account for understatement of sales and overstatement of expenses by businesses. These adjustments are the best estimates given the information available. Getting a more accurate assessment of the total degree of under and over reporting would require the ATO to begin a program of taxation audits on a randomised sample of businesses every five years or so.
3.15 To estimate supply and intermediate use adjustments by industry, GOS/GMI adjustments are split into estimates for understated income (gross sales of goods and services) and overstated expenses. The former component provides the upward adjustment to supply and the overstated expenses component provides the negative adjustment required to intermediate use.
3.16 Overall estimates of gross output, intermediate and final use together with factor incomes are balanced within that framework.
3.17 The adjustments rely on indicative information from aggregated income tax audit data, qualitative comment, and checks and balances inherent in the national accounting methodology.
3.18 The ABS has consulted with the ATO for intelligence on methodological issues and tax compliance trends by industry. To calculate the underground production adjustments, the ABS used the ATO's project based audits, business income tax data and aggregated goods and services tax (GST) audit data to calculate estimates for underground production.
GDP – I
3.19 Table 2 summarises the impact of these adjustments on the components of aggregate income–based GDP estimate. Overall, the current income adjustments add about 1.5% to the overall value of GDP.
3.20 The 2010–11 results are not markedly different to those published in the ABS paper The Underground Economy and Australia's GDP (ABS 2003) for the 2000–01 year where the percentage adjustments in 2000–01 were 3.2% for private non–financial corporations GOS, 10.1% for GMI, and 1.3% for GDP. As similar percentage adjustments are made each year, there is little impact of these adjustments on annual GDP growth rates.
3.21 To partially offset the income adjustments, a small, positive 0.4% adjustment is made to the HFCE (GDP(E)) estimate to account for under–reporting of sales.
3.22 The GOS/GMI underground production estimates are applied to Supply and Use Table domestic output and intermediate use data which generate an adjustment in the National Accounts to estimate missing income and expenses of business that are avoiding the payment of tax.
3.23 Underground production adjustments for Gross output and TIU by industry group are shown in table 3.
3.24 Table 3 shows the size of the adjustments to output and intermediate use according to each division in the Australian and New Zealand Standard Industrial Classification (ANZSIC) after the balancing process was completed for the 2010–11 benchmarked year.
3.25 The estimated value added by the underground economy in 2010–11 was $20,723m. This is 1.5% of the value of GDP of $1,403,888m and 3.4% of total GOS/GMI. This compares to the value for 2009–10 of $17,591m, which was 1.4% of GDP and 3.2% of GOS/GMI for that year.
3.26 In 2010–11, Division E Construction had the largest adjustment of understatement of income applied to domestic output of 2.3% as well as the largest adjustment of overstatement of expenses applied to intermediate use of –1.12%. The net effect was a $10,533m upward adjustment to gross value added (GVA).
3.27 This was followed by Division H Accommodation and Food Services with a 2.6% adjustment to its GVA and Division L Rental, Hiring and Real Estate Services with a 2.4% adjustment to its GVA.
3.28 The GST is a tax of 10% on the supply of most goods and services in Australia, including imported items. In most cases, GST does not apply to exports of goods or services, or other items consumed outside Australia. GST is fully recorded in government accounts, however businesses engaged in underground production may not pass on to government the full amount collected.
3.29 Compliance of Australian businesses in regards to the GST was investigated by the ATO. The additional GST revenue collected following targeted auditing increased from $1.1b in 2003–04 to $2.1b in 2008–09. Total GST revenue also increased over the same period from $26.9b to $41.5b, indicating that tax reporting, regulations and audits are keeping under reporting to a minimum. The ATO analysis of GST provides some validation that ABS underground production estimates are unlikely to be greater than 2% of GDP.
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