Shadow economy offers safety net of last resort for many unemployed

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WASHINGTON — When Kevin Kalmes received a foreclosure notice on her home after being unemployed for more than two years, she said, she started selling the contents of her basement, figuring, “I can’t fit all this stuff in a Wal-Mart shopping cart.”

“Then I just kept the basement sale open, forever, without getting permits, because I didn’t sell it all,” said Kalmes, 61, who lives in Chicago. She then sold items for family, neighbors and friends, dubbing her never-ending sale the “Little Shop of Hoarders.”

Kalmes is among the 4.8 million unemployed Americans — 40 percent of all those jobless — who have been out of work for more than 27 weeks, even as the economy has been growing since June 2009 and the job market shows recent signs of healing. As her unemployment benefits have run out, she has entered the informal economy to make ends meet.

America’s shadow economy includes activities that are actually illicit — prostitution and drug dealing — and more benign jobs like working construction for a day for cash, or even the $2 per child kid that Kalmes gets for walking neighborhood students to the bus. Added together, economists estimate $2 trillion could be involved.

Such informal arrangements, while providing a safety net of last resort for workers like Kalmes, also may provide answers to puzzling discrepancies in economic data. One example: Explaining why retail sales have outpaced gains in reported income for almost four years, said Bernard Baumohl, chief global economist at the Economic Outlook Group in Princeton, N.J.

Retail sales have grown at an annual rate of 3.5 percent or more since September 2010, even as taxes have increased and jobless benefit eligibility has shrunk to 73 weeks or less from 99 weeks in some states. Unemployment is 7.7 percent, up from 4.4 percent in 2007, and income rose just 2.2 percent in the 12 months through January.

“There could very well be a much-larger than expected underground economy at work here that is making a contribution,” Baumohl said.

For Kalmes, her entry into the shadow economy came after losing her job of 13 years as a production manager for Paris Presents in Gurnee, Ill., where she oversaw the assembly of “all those delightful gels and lotions and refreshers and gift baskets.” She even flew to China to train workers in a factory there, she said.

On March 17, 2010, her job was outsourced to the people she’d trained, she said. The company confirms Kalmes worked there, though not the dates or circumstances of her departure.

For 1 1/2 years, she said, she applied for jobs, first at two-thirds her old income. Then at half. Then for $9 an hour.

“At some point you believe that you have no value in the workplace,” she said. “It’s like going through 25 boyfriends in a couple of years and saying, doesn’t anyone want to love me?”

Mitchell Hirsch, an advocate for unemployed workers for the New York-based National Employment Law Project, has heard stories of workers entering the shadow economy with increasing frequency since joining the organization in 2010. Such informal work “is definitely more significant than before the recession, especially among people who are tapping out savings and losing unemployment benefits.”

“They’re finding in some cases desperate and in some cases very creative ways of trying to get some kind of income legally,” he said.

The length and scale of long-term unemployment in the U.S. is unprecedented. More than 30 percent of the unemployed have been out of work for half a year or more during every month since July 2009. In data going back to 1948, the share had never before climbed above 30 percent.

In the economic expansion that lasted from November 2001 to December 2007 the number of long-term unemployed fell to as low as 1.1 million and in the previous expansion from March 1991 to March 2001 the number reached as low as 593,000.

“The customer continues to be pressured by jobs, jobs, jobs, jobs,” William Simon, chief executive officer for U.S. operations at Wal-Mart Stores, the world’s largest retailer, said at a March 5 investor conference. “Unemployment, insecurity, they tell us is top-of-mind.”

Much research into America’s off-the-books economy has been conducted from the perspective of lost tax revenue. The IRS estimated last year that in 2006 taxpayers avoided $376 billion in taxes due to under-reporting income.

As much as “18-19 percent of total reportable income is not properly reported to the IRS,” according to a 2011 analysis titled “America’s Underground Economy” by Richard Cebula, a professor of finance at Jacksonville University in Florida and Edgar Feige, a professor of economics at the University of Wisconsin-Madison.

“The estimated $2 trillion of unreported income gives rise to an annual tax gap of $450 billion to $500 billion,” the report said. Their research also finds that “there is strong evidence that the higher the unemployment rate, the greater the extent of aggregate federal income tax evasion.”

The underground economy relies largely on untraceable cash payments. Data from a Federal Deposit Insurance Corp. survey, released in September, estimates that 8.2 percent of U.S. households, almost 10 million, have neither checking nor savings accounts.

The number of households without bank accounts rose by 821,000 since the FDIC’s previous survey in 2009.

“We know people work off-the-books, we know there are knock-off goods,’ said Richard Yamarone, a senior economist at Bloomberg LP in New York, who has written on the underground economy. “Millions, not thousands of people are involved in the facilitation of trade in this sector.”

Another gauge economists use to track the size of the shadow economy is currency in circulation, the total stock of physical bills. That measure has surged since the onset of the recession, reaching a record $1.18 trillion on March 13 from $803 billion in 2007, according to data from the Federal Reserve.

That’s an increase of $373 billion in cash. While not a precise estimate of the U.S. cash economy, because more than half may be held in other countries, even if part of the residual remains in the U.S. it illustrates the informal economy’s growth.

One category tracked by the Labor Department includes those employed part-time who want full-time jobs. In February, almost 8 million workers were in that category. That’s down from a peak of 9.2 million in September 2010, yet more than double the 3.9 million in 2006.

While overall unemployment fell to 7.7 percent last month, a rate that includes the underemployed was 14.3 percent.

“As consumers continue to increase spending, companies will see their sales increase, earnings will rise, hopefully it will generate more hiring that will bring in some of the people stuck in the shadow economy,” said Baumohl.

Meanwhile, Kalmes just wants to bring her basement sale out of the shadows.

“I’m hoping to incorporate the business,” she said. “I’m looking for a tiny storefront, maybe 900 small feet. It could be something little and wonderful for the neighborhood.”

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