Shadow Economy and Entrepreneurial Entry

We analyze theoretically and empirically the impact of the shadow economy onentrepreneurial entry, utilising 1998-2005 individual-level Global Entrepreneurship Monitordata merged with macro level variables. A simple correlation coefficient suggests a positivelinear link between the size of the shadow economy and entrepreneurial entry. However, thismasks more complex relationships. With appropriate controls and instrumenting for potentialendogeneity where required, the impact of the shadow economy on entry is found to benegative, based on a linear specification. Moreover, there is also evidence of nonlinearity:entrepreneurial entry is least likely when the shadow economy is of medium size. Weattribute the negative effects of shadow economy on entry to perceived strong competitionfaced by new entrants when the shadow economy is widespread. At the individual level, anextensive shadow economy has a more negative impact on respondents who are risk averse.In addition, in the economies where property rights are strong, the negative impact of theshadow economy is weaker....