Oct 11, 2011

How does economics explain corruption?

From a paper by Benjamin Olken and  Rohini Pande: "Corruption in Developing Countries"
Abstact: Recent years have seen a remarkable expansion in economists’ ability to measure corruption. This, in turn, has led to a new generation of well-identified, microeconomic studies. We review the evidence on corruption in developing countries in light of these recent advances, focusing on three questions: how much corruption is there, what are the efficiency consequences of corruption, and what determines the level of corruption. We find robust evidence that corruption responds to standard economic incentive theory, but also that effects of anti-corruption policies often attenuate as officials find alternate strategies to pursue rents.
The evidence and example of the "alternate strategies to pursue rents" are fascinating:

In the short-run, we have seen several examples of substitution from one type of corruption to another. In the Olken (2007) study, an increase in auditing of road expenditures led to decreased missing expenditures from the project, but more family members of project officials being hired to build the roads. In Niehaus and Sukhtantar (2010), conversely, an increase the wages of daily wage jobs (and hence in the ability to steal from those workers) led to a reduction in theft of piece-rate jobs. Burgess et al (2011) find that when a district’s oil and gas revenue increases, providing an alternate source of rent extraction for local district officials, illegal logging falls. In all these cases, it appears that corrupt officials have different avenues of corruption available to them, and substitute among them as the returns to one form of corruption get easier or harder. If an anti-corruption policy clamps down differentially on certain types of corruption (as almost all do), one needs to take care that corrupt officials do not substitute to other forms of corruption with more severe efficiency costs.
There are also several examples that suggest that the long-run effect of anti-corruption policies may be smaller than the short-run effect as officials adapt. One of the examples mentioned above is Banerjee et al (2008). In this study, an incentive program on nurse attendance in India was found effective only during the first 6 months of the intervention, when the program was correctly in place. Later, however, the system was undermined by the local health administration, who took advantage of a loophole in the program design and began allowing many more unexcused absences. By 18 months after the program had started, the program was no longer able to improve nurse attendance.
In the case of Brazil, Ramalho (2007) uses the 1992 impeachment of President Fernando Collor to evaluate the impact and persistence of corruption on the market value of politically connected companies. The results suggest that the market perceived the decrease in the president’s probability of staying in power as affecting the value of politically connected companies, but only temporarily. According to the results, family-connected companies had on average daily abnormal returns 2 to 9 percentage points lower during bad event days, with the effect reversing completely within one year. One interpretation is that over the course of the year, these previously politically connected firms were able to form new connections. 
See the whole paper. [One of the things that I really like about economists, is that, like mathematicians, most of their research and papers are online!

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