Minimum Wage and Tax Evasion: Theory and Evidence

This paper examines the interaction between minimum wage legislation and tax evasion byemployed labor. I develop a model in which firms and workers may agree to report less thanthe true amount of earnings to the fiscal authorities. I show that introducing a minimum wagecreates a spike in the distribution of declared earnings and induces higher compliance bysome agents, thus reducing their disposable income. The comparison of food consumptionand of the consumption-income gap before and after the massive minimum wage hike thattook place in Hungary in 2001 reveals that households who appeared to benefit from the hikeactually experienced a drop compared to similar but unaffected households, thus supportingthe prediction of the theory....