Evaluating the effectiveness of tax policies in reducing the underground economy in Vietnam

Vietnam’s underground economy, characterized by unregulated and unregistered activities, poses significant challenges to fiscal capacity, social equity, and economic development. Informality undermines government revenue, distorts competition, and restricts economic planning. This study aims to evaluate the effectiveness of various tax policy interventions Value Added Tax (VAT) reforms, business registration incentives, and enforcement measures in reducing informality in Vietnam. Specifically, the research addresses whether these policies effectively encourage informal enterprises to formalize, thereby improving tax compliance and economic transparency.The study employs a combined Propensity Score Matching (PSM) and Difference-in-Differences (DiD) methodology to ensure robust causal inference. The analysis covers the period from 2012 to 2023, utilizing data from the General Statistics Office, Ministry of Finance, and World Bank Development Indicators. PSM is used to match comparable groups of enterprises, while DiD estimates the differential impact of policy interventions over time. Robustness checks, including placebo tests and sensitivity analyses, validate the findings. The findings reveal that VAT reforms and registration incentives significantly reduce informality, while enforcement measures are less effective. The study contributes to the literature by applying a novel PSM-DiD framework to the analysis of informality in an emerging economy context, providing evidence-based insights for policymakers. The results underscore the importance of balancing incentives and enforcement measures to promote sustainable formalization.