1. The Economics of Corruption: Measurement, Causes and Effects
Fabio Padovano
Public Finance - Introductory

2. Public Finance - Introductory
Introduction
Widespread phenomenon in poor countries: corruption
Often suggested corruption is bad for growth
Challenges for researchers:
Corruption hard to define, even harder to measure
Difficult to isolate effects of corruption in cross-country data from those of other covariates
Theoretically not always clear how corruption might harm growth
Even if we know that corruption is bad for growth, not obvious what can we do about it
Public Finance - Introductory

3. Public Finance - Introductory
What is corruption?
Misuse of public office for private gain
Often same as bribes, i.e., payments to government officials in return for favors
Not at all the same as taxation: revenue not used for public good, higher transaction costs, non-enforceable contracts
Not the same as lobbying: benefits of corruption (bribes) more firm- specific, less permanent, than lobbying
Not always/exactly the same as rent-seeking : the latter tends to be the result of government intervention (e.g., trade restrictions), rather than the action of an individual civil servant
Public Finance - Introductory

4. Public Finance - Introductory
Types of corruption
Economic theory (and legal systems) distinguishes 3 types of corruption (Forti, 2003) :
public-private;
public-public;
private-private
Usually focus on a) and b) (i.e. political and administrative corruption)
Economists usually hold that corruption requires the existence of three elements (Aidt, 2003):
The discretionary power of a policy-maker or bureaucrat to allocate economic resources, define rules and enforce contracts
An economic rent or utility associated to the discretionary power
A disutility associated to the probability to be caught and punished
Public Finance - Introductory

5. Public Finance - Introductory
Measuring corruption
There are different methods to measure corruption, none devoid of conceptual or statistical problems
Main difficulties are the definition of corruption, lack of objective data, risk of under-reporting, measurement errors
Three main types of indicators
Subjective indicators based on perceptions
Judicial indicators based on Court data
Objective measures based on direct observations and experiences
They do not coincide (Padovano, Voigt 2011)
Public Finance - Introductory

6. Subjective vs. objective
Public Finance - Introductory

7. Public Finance - Introductory

8. Determinants of corruption
Democracy, education and income
Economic freedom
Public sector size
Ethnic fragmentation and redistribution
Efficiency wages
Public Finance - Introductory

9. Public Finance - Introductory
Democracy, education and income (Modernization theory aka Lipset hypothesis)
Risk of being caught may be higher in more democratic systems where competitors for office have an incentive to disclose and publicize the incumbent’s misuse of office during the elections
Voters with more education and income are both more willing and capable to monitor public officials and to take action when these public officials violate the law
Greater civic engagement may lead to closer monitoring (Putnam, 2003)
Cross-country analyses support this hypothesis ( i.e. Glaeser et al., 2004; Djankov et al., 2003)
Public Finance - Introductory

10. Economic freedom and world trade
Competitive markets and openness to trade reduce corruption (Paldam, 2002; Treisman, 2000; Lambsdorff, 2006)
Tariffs and non-tariffs barriers to the international trade generates corruption (Herzfeld and Weiss, 2003, Treisman, 2000)
Endowment of natural resources like oil, minerals, gold increase the illegal rents → “Natural resources curse”(Ades and Di Tella, 1999)
Public Finance - Introductory

11. Public Finance - Introductory
Size of public sector
More regulations (production of law, taxation or public expenditure) and greater government size create a potential for corruption → more resources to steal and more rules to subvert (De Soto, 1898; Tanzi, 1994; Glaeser and Shleifer, 2003; Adsera et al., 2003)
Many empirical analyses (i.e. Gupta, Davoodi and Tjongson, 2002; Glaeser and Shleifer (2003); Adsera, Boix and Payne (2003) find that an increase in public expenditure is associated to higher corruption especially in sectors characterized by monopolistic supply, high technological content and more discretionary and less transparent management of the expenditure
What about the Scandinavian paradox?
Public Finance - Introductory

12. Ethnic fragmentation and redistribution
If an area is worn out by ethnic divisions and leaders tend to allocate resources towards groups of their own ethnicity, then members of one ethnic group might continue to support a leader of their own group, even if he is known to be corrupt because of redistributive interests (Mauro, 1995; Fearon and Laitin, 1996; Alesina eLa Ferrara, 2005)
Other forms of division, such as income inequality, may also reduce voters’ desire to oppose corruption since as voters become more diverse along the income line, they will focus on the redistribution rather than on the honesty of government officials (Mauro, 1995 and Alesina et al., 2002)
Public Finance - Introductory

13. Corruption and efficiency wages
Relationship between the incentives’ structure and corruption → higher salaries can solve problems of
moral hazard (ex post opportunistic behavior of the public official → reduction of monitoring costs)
adverse selection (ex ante difficulty to distinguish between a honest and dishonest official)
Efficiency wages could not work if corrupt bureaucrat requires a higher bribe to counterbalance the risk of losing his job (Besley and McLaren, 1993)
Empirical research is mixed:
Van Rijckeghem and Weder (2001) find that corruption is lower in countries where public officials are better paid than people that work in the private sector with similar level of responsibility
Di Tella and Schargrodsky (2003) do not find any empirical support to this hypothesis
Public Finance - Introductory