The Tax Evasion Social Multiplier: Evidence from Italy∗

We investigate the role of externalities in tax evasion arising from congestion of the auditing resources available to local tax authorities. The empirical analysis employs a novel method due to Graham (2008) that mitigates most of the problems that surround the identification of endogenous social effects [Manski (1993)]. Identification exploits the information contained in the variance of concealed income at different levels of aggregation, and an identifying restriction suggested by the different technologies to audit taxable income and tax credits in Italy. We use a unique dataset containing audits of about 80,000 small businesses and professionals in Italy. We find a social multiplier in the range 2.5 3, meaning that the equilibrium response to a shock that induces an exogenous variation in mean concealed income is up to three times the initial average response. JEL codes: H26, C31, Z13, Z19.