Some €2 trillion of Europe’s economy
goes unreported, often thanks to the anonymity of cash. Electronic
payments will go a long way to countering this shadow economy,
reports Jeremy Woolfe, who attended a high-level
debate on the issue held in Brussels earlier this month.

A painter offers his works for cash at half price by doing it
outside the official economy and avoiding taxes. A bar owner
accepts €5 ($6.80) in cash for a glass of wine, and then does not
account for the sale. These are some of the irregularities that
comprise Europe’s massive shadow economy which is estimated to be
worth some €2 trillion annually.

In Germany and France the shadow economy is about one-eighth the
size of the countries’ official GDP. Elsewhere, according to a
study by Friedrich Schneider, professor of economics at Johannes
Kepler University in Linz, Austria, it can be much higher. For
example, it is estimated to equal almost 40 percent of the GDP’s of
some Central and Eastern European countries

The research reveals that under-reporting has not been broadly
addressed by European governments, according to Kepler. In fact, in
evaluating 66 measures used to curtail the shadow economy, only 15
percent focused on sales under-reporting. Fewer still considered
the increased use of electronic payments as a means of countering
the shadow economy.

Kepler’s study, The Shadow Economy in Europe, was
sponsored by Visa Europe and first presented in Brussels on 17
March at a ‘Crossfire Debate’ organised by the Friends of Europe,
an open forum for debate on issues in the European Union (EU).
Speakers included Jörgen Holmquist, European Commission director
general for the internal market division; Andreas Pratz of
consultancy AT Kearney; and Marc Temmerman, executive
vice-president of Visa Europe.

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The principal motive for the event was to speed up Europe’s
transfer to the use of electronic payments and the adoption of the
Single Euro Payments Area (SEPA). Banks may be enthusiastic about
SEPA, but are reluctant to make the heavy investment in software
necessary until potential partners have done the same. They reflect
a complaint from the European Central Bank (ECB) that no
implementation end date has been set.

Indeed, in March this year, the European Parliament instructed
the European Commission (EC) “to set an end-date, not later that
the end of 2012, and to specify multilateral interchange fees (MIF)
for card payments. This follows an earlier expression of concern
over delays in implementing SEPA that came from the EU’s Economic
and Financial Affairs Council.

Estimates for the investment cost to banks for SEPA run to €10
billion. EU internal market commissioner, Charlie McCreevy, has
observed that the forecast operational cost savings for banks could
be as much as €49 billion, “a five-fold return on investments”.

Speaking at the Brussels conference, Temmerman said that
national authorities need to push harder to make SEPA a

“We need standards everyone accepts,” he added. “And we need
regulators and governments to help us come up with a model that
helps everyone.”

Temmerman repeated calls for a “level playing field”. He wanted
regulators and governments to enable “an equitable balance between
all the players”. He pressurised the EC to “do whatever it

A call for fair play

The Visa Europe executive vice-president complained that the
“four party system” was not being treated fairly by the
authorities. This system, used by Visa Europe and by MasterCard,
involves the issuing bank, the merchant’s bank, the card holder and
the merchant. American Express operates under a three-party

Temmerman also pressed for equal treatment of
electronic-payments and cash, the latter which is “subsidised”, and
which enables the social cost of the shadow economy.

To return to the academic study on the shadow economy, this
states there appears to be a strong correlation between the
prevalence of electronic payments in a country and its shadow

Countries with high levels of electronic payment usage, such as
the UK and the Netherlands, have smaller shadow economies than
those with minimal levels of electronic payments, such as Bulgaria
and Romania.

The study shows that the group of activities where electronic
payments would be of the most use in combating the shadow economy
include cars and car parts, non-specialised retail stores,
restaurants and bars, catering, and transportation, such as taxis
and buses. It found a few others specific to an individual country.
These are: in Poland, pharmaceutical retail; in Turkey, fuel sales;
and in Italy and Spain, budget hotels.

By targeting these sectors, believes Kepler, governments could
address 50 percent of the shadow economy in the three main

High denomination banknotes

Leo Van Hove, professor of economics at the Vrije Universiteit
Brussel, told EPI that the ECB ought to combat the shadow
economy by eliminating high denomination euro currency banknotes,
especially the €500 note. At present 37.4 per cent of the total
value of bank notes in the Eurozone is held in €500 notes, which he
believes is a good indicator of the size of the shadow economy.

“We could manage also without the €200 note, and even the €100
note, and get by having the €50 note as the largest in existence,”
stressed van Hove.

In the background to the meeting was the position of MasterCard,
though it was only lightly represented in Brussels. In December
2007, the competition division of the EC, announced that the
company’s multilateral interchange fees for cross-border payment
card transactions with MasterCard and Maestro-branded debit and
consumer credit cards in the European Economic Area violated EC
Treaty rules.

MasterCard immediately announced that it was appealing, stating
that it “will appeal to the European Court of First Instance
against… the Commission’s decision”.

In fact, MasterCard in June 2008 caved in to the EC ruling, by
setting its cross-border interchange fees at zero. However, its
appeal has not been withdrawn. Behind-the-scenes discussions are
continuing, with MasterCard arguing for charges sufficient to
compensate for the card holder’s payment “grace period” and
merchant guarantees.