Underground economy refers to a market that is not approved by the state, and belongs to the shadow economy. Black markets typically arise where the state imposes certain market factors such as price laws or rationing on entire markets.
The underground economy is to be distinguished from the gray market which takes place in trade, although not required but nevertheless is legal.
A black market has some features of traditional markets such as pricing, allocation, promotion and innovation. Every market participant is fully aware of the fact that if caught by the authorities, their goods will be confiscated.
Under modern settings the black market spreads over an immense range of activities. It is usually more modest in jurisdictions where economic freedom is higher, and turns increasingly more prominent in places where corruption, legislation, or monopolies restrain economic activity.
Although controls on the black market trade are not state regulated or protected, it functions very well according to its market dynamics. Black market prices are therefore determined by many factors which may not apply in the conventional markets.
Instead of state courts handling disputes, a different set of rules take effect in black markets in relation to conflict resolution. Which often manifest itself in informal structures, based on factors such as reputation, trust and honor.
Although in many instances rules of the jungle may apply as greedy and ruthless merchants take control through brute force with the possibility of cartel formation. Since the enforcement of law may not be undertaken by government bodies, it can lead to violence.
Small arms are typical in Europe black market goods. Since the barriers are relatively high for the legal acquisition of such weapons, the underground economy satisfies a distinct black market demand. International trade in small arms is de facto regulated, the trade in weapons is not forbidden in most countries, but only requires a state permit.
In countries that do not allow private currency trading, a regular phantom black market for foreign exchange usually exists. While in regions of the world where violations of copyright, and patent rights are rarely prosecuted by government agencies, there is an influx of pirated DVDs and CDs usually sold by street vendors.
After the Second World War, the supply situation of the population was very poor. Food and basic necessities were available only through food stamps and few other legal transactions. In addition to this legal market, an illicit black market sprouted where everything was available, albeit at staggering prices.