Alex suggests an exercise in trade pedagogy:

The instructor puts chocolate bars ("fun-size") or other candy in bags, one bag for each student. . . Students open the bag and are then asked to write down how much they would be willing to pay for the bag's contents. But before snacking, students are allowed to trade. After a few minutes of trade, ask the students to write down their valuation again. Voila! Gains from trade.

Gains from trade are obvious and the behavior is intuitive, perhaps piggy-backing on instincts for reciprocal sharing. This sort of good sense must be beaten out of students by ideologues in education. The effort is less than successful.

America’s ... shadow economy amounts to nearly 8 percent of its gross domestic product (GDP) – in the ballpark of $1 trillion.

There’s nothing particularly ominous about the shadow economy – at least, not the one Professor Schneider measures. He doesn’t include illegal activities like drug trafficking or counterfeiting. The transactions he looks at involve the legal production of goods and services that are not taxed and may violate labor laws.

Ironically, as recession shrinks the official economy, the informal one is growing.

It is so dispersed that the US Bureau of Economic Analysis judges it isn’t worth the resources to measure its output when it makes its regular GDP calculations. So while the US government is chasing the other side of the untaxed coin – wealthy Americans who avoid taxes by stowing their income abroad – a crackdown on the domestic informal economy doesn’t seem to be on the American agenda anytime soon.

For one thing, it’s a daunting prospect. The Internal Revenue Service or local tax authorities would have to track down thousands of elusive small vendors and follow up for payment to equal, by one estimate, the $100 million a year that the US could gain by taxing several hundred holders of Swiss and other foreign bank accounts. For another, it may be discouraging an activity that keeps lower-income Americans employed.

It is argued that the virtues of the informal economy expose the vices of the formal economy.

In a free market society, there would be no black market as such, at least not in anything that would be legitimate (there might still be small amounts of exchange in the realm of properly illegal activity, such as the hiring of hitmen). In a free society, contracts could be upheld for a large range of activity where there is no government protection, such as the street drug trade.

But consider: Most of the illegal drug trade works and thrives. People get what they want out of it. Most illegal drug transactions are upheld and carried out honestly, with most economic actors walking away from the transactions satisfied. This all happens not just in the absence of government protection of contracts, but in the face of outright government hostility, prohibitions, policing, and threats of jail time.

If a market can operate without the government protecting it, and indeed while the state is attempting at great cost to obstruct it, then we can safely argue that it would probably operate fine, and even better, without the state being involved at all. . .

That one trillion dollars is moving around in the economy in direct confrontation with state intervention shows that the market is self-organizing. We do not need the state to oversee all this business— in fact, despite the state’s obstructive presence, the underground market thrives. Are there problems? Of course. There is fraud, which would be harder to get away with if this market were all out in the open, and not forced into the shadows by the state. There is misrepresentation and dishonesty. But these are the exceptions.

And can we really believe there is less of this in the legal, regulated economy? It seems to me, the more involved the state is in overseeing the economic sector—banking, military spending, education, health care—the more we see corruption, waste and fraud. This is because the state itself represents the legitimization of violent and predatory behavior, and the more it expands its role in overseeing and attempting to direct the economy, the more illegitimate and dishonest behavior gets the state’s official seal of approval and protection through the force of law. The state allows corrupt business practices to operate under the facade of legitimacy. The black market, on the other hand, must exist with efficiency and mostly with honesty, so as to overcome the cost of avoiding government obstacles and detection. Indeed, I would guess we are less likely to see speculative bubbles and systemic fraud in the illegal market than in huge swaths of the more highly regulated and politicized sector. But the remaining problems with the black market, such as with the turf wars and adulterated products in the drug market, would mostly disappear if the state just withered away, as almost all these problems could be traced to the effect of police intervention and the need of illicit entrepreneurs and customers to circumvent the state’s watchful eye. But most of the black market is much more peaceful than the drug market, since it is just taxes and regulations, rather than iron clad punitive drug laws, that are being avoided. Competition, reputation and arbitration would allow for a more honest market than we see today either below ground or above the board.

In my hard-scrabble rural world a great deal of the economy is informal, and often is direct trade in labor and goods with no money changing hands. It's dead common for growers to trade their products and services with one another. But IMV it's happy talk skating very close to slimebag argument to assert that this model can be enlarged to replace the formal economy. The sticky bit is "arbitration", as it is called above. It works so long as the arbiters are entrepreneurial and solely focused on lubricating trade so that the transaction friction that they introduce - the delay and costs - is less than it would be without their services. It's another gain from trade. But once such a system is in place it's only a small step to statism and the mental flip that sees such services as a general revenue system to fund all of the other nefarious activities of statists.

What can be done in these recessionary times is to roll back some of the most destructive aspects of the tax and regulate system that are too burdensome to bear in faltering economic conditions. Much of that can be accomplished by merely turning a blind eye to the activities of the informal economy. Scaling back the state is highly desirable - we would all be much better off - but it seems unlikely to happen. It's big business, organized crime, government, and here to stay. The informal economy is self limiting: if it grew to the point where the cost of tracking down and shaking down those vending informal products and services was less than the revenue generated then it would be captured by state, just as in the past.

Not surprisingly, I see it as an analog of the grower's reality: his produce is filched by competitors - everything from fungi to bears - and it is not possible to stop. The best you can do, the most that you can afford to do, is to work to reduce predation below the cost of further protection. In hard times you can up the effort a bit - raise a posse and gun a few of them perhaps, so to speak - but it doesn't pencil to do that all of the time, and you would regret it if you did since they do in fact contribute to the overall balance that allows you to eke out a living. There are even worse predators that would ooze in to fill any vacuum that you created. "If the thunder don't get you then the lightning will." You can't win, you can't break even, and you can't get out of the game.

I do think that it is time to raise a posse. We have far too many predators to support right now. They are eating us out of house and home, stripping the foliage from the brush so that they are easier to see, and it shouldn't be that hard to pot a few of them in the next year or two. We need to restore some balance.