Interactions between financial development indices and the underground economy Panel-VECM Vector Error Correction Model

he financial sector is one of the sectors that contributes to the expansion or decline of the underground economy. In particular, the financial sector performs many important functions in an economy, including providing credit for entrepreneurs and allowing them to monitor business transactions for tax purposes. In contrast, the occurrence of the underground economy can inhibit the development of the financial sector. Therefore, the authorities should look more closely at the interplay between these two indicators and consider their interactions in their policymaking and policymaking. With this in mind, this study attempts to examine the relationship between financial development and the underground economy in 34 selected countries, including Iran, from 1995 to 2015. The results show that all the error correction equations are negative and each part of the error is corrected to achieve long run equilibrium.