The Invisible Impact of Conflict: A Study of Terrorism, Regime Type, and the Shadow Economy

Does terrorism contribute to the growth of the shadow economy? While extensive literature has delved into the causes and consequences of terrorism, little has been studied on its impact on the shadow economy. Employing data on terrorism and the shadow economies of 116 countries from 1990 to 2017, we demonstrate that terrorism results in an increase in the size of the shadow economy and that the effect is larger in autocracies. We argue that the economic and social impacts of terrorism create environments that reinforce both exit and exclusion factors through the erosion of institutional trust and social capital, ultimately incentivizing or compelling actors to seek alternative methods of economic activities. Furthermore, a lack of free and horizontal information-sharing venues to address public fear and repressive counterterrorism measures in autocracies further hamper the economic pursuits of individuals, businesses, and foreign investors, facilitating their engagement in informal economic activities.