Shaomin LiJudy Wu

Old Dominion UniversityNorfolk, VA, USA

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Corruption and economic development

Dominant economic theory: corruption is bad for economic development (see review article by Svensson, 2003).

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Corruption and economic growthThe

empirical evidence on the corruption-efficiency relationship is mixed.

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The puzzle of corruption and economic growthThe “East Asian paradox” (Rock & Bonnett,

2003)Past attempts to solve the puzzle

The “efficiency enhancing” corruption argument (Leff, 1964; Lui, 1985, Wedeman, 2002).

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Studies on the causes and effects of corruptionJudge, et al (2008) reviewed 42 empirical

studies and found:Measurements of corruption vary widely. The

most used measure is the CPI developed by Transparency International.

More studies focus on the causes of corruption than those on the effects of corruption.

Economic explanatory variables are used the most, political variables the second, the cultural variables the third.

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Trust--the missing link in explaining the corruption-efficiency relationshipTrust: “willingness to rely on an exchange

partner in whom one has confidence” (Moorman et al. 1993).

Particularized vs. generalized trustThe role of trust in corruptionThe separation of time and space in corrupted

transactions requires some trust between the briber and the corrupt official.

The outcome of corruption with/without trustPredatory vs. efficiency enhancing corruptionsHow can a society develop a high level of trustGood political and economic institutionsExpansive social network

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Our main argumentsH1: corruption has a negative effect on

economic growthH2: trust has a positive effect on economic

growthH3: the effect of corruption on economic

growth is moderated by trust. There is a interaction effect between corruption and trust on economic growth. In countries with a higher level of trust, the negative effect of corruption will be mitigated.

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Empirical evidenceCase studyStatistical test

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Corruption in ChinaThe existence of wide and thick informal social

networks in the societyA high level of trustFrom particularized to generalized trust

(evidence from Tang, 2005)How bribery-corruption relationship is formedThe case of Motorola’s “slush fund” in China

“The terms of the deal was…a ten million-dollar discretionary fund. Hands off, no questions asked. Don’t ask where the money goes,…We know exactly what he was up to, and exactly how successful he would be…” (Gutmann, 2004, p124).

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How bribe is paid…“I [the briber] invite my client [corrupt official] to

a well-known Cantonese restaurant with several branches in Beijing. The meal costs an astronomical 20000 rmb [$2,400] for two. On the way out, the restaurant passes a gift to my client and the client is told he or she can exchange the gift for cash if he or she does not like it. The gift is then exchanged by my client for about 10000 rmb. I have not discussed any such exchanges with my client. But just in case people get the wrong impression, the restaurant has covered my car's license plate in the restaurant's parking lot.”

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Types of bribery-corruption transactions

According to Takungpao (2006):Bribery-corruption transaction has

become sophisticated:GlobalizationFuture options

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Corruption in the PhilippinesThe state head controls the entry of an

industry or monopolizes itImpose a tax or surcharge on allAppoint his/her cronies to be in charge of the

industrySteal the taxes/surcharges.

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Evidence from the three most important industries…The coconut industry (1970s)

President Marcos imposed a taxAppointed his friend, Manuel Conjuangco, to collect

it.Used the tax to subsidize mills owned by the two.

The cigarette industry (1970s)Imposed 100% import duty on filters.90% duty reduction to a company owned by Marcos’

friend, Herminio Disini. Disini in turn supplied the filter to Tan, another Marcos friend.

The sugar industry (1970s)Marcos order all sugar exports be monopolized by

PEC, controlled by his friend Robert Benidicto. 14

Statistical test Economic growth = a + b1(corruption) +

b2(trust) + b3(corruption*trust) + B(control variables) + e

DataA pooled data set

53 countries in two time periods. 76 observations in total

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Dependent Variable: annual economic growth rate

Main independent variables:Corruption. CPI 1996 and 2002 (Transparency

International).Trust. World Value Survey (Inglehart, 1994-2005).

2 waves: 1994-1999 and 1999-2004.Control variables:

GNI per capita (World Bank, 1994-1999 and 2000-2005). Schooling (Barro and Lee, 1995 and 2000) Political system (Freedom House, 1996 and 2002) Time, 1994-1999 and 2000-2005.

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Mean S.D. GDPpgr CORRUPT TRUST GNIp SCHOOL STATUS

GDPpgr 2.94 2.56

CORRUPT 4.70a 2.53 -.220(.056)

TRUST 28.86 15.53 .290*(.011)

-.588**(.000)

GNIp 12.91 12.65 .132(.257)

-.872**(.000)

.599**(.000)

SCHOOL 8.04 2.29 .179(.123)

-.625**(.000)

.417**(.000)

.627**(.000)

STATUS .07 0.25 -.016(.893)

.241*(.036)

.146(.208)

-.254*(.027)

-.304*(.008)

TIME .61 .49 .219(.057)

.010(.928)

-.004(.976)

.042(.722)

-.067(.568)

.016(.363)

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Independent variables

Dependent variable: log(GDPpgr)

Model 1a Model 2a Model 3a Model 1b Model 2b Model 3b

CORRUPT-.010(.008)

-.001(.009)

-.043***(.014)

-.025* (.013)-.020(.012)

-.059*** (.016)

TRUST.003**(.001)

.010***(.002)

.003** (.001).011***(.002)

CORRUPT*TRUST

.001***(.000)

.001*** (.000)

GNIp-.004(.003)

-.005**(.003)

-.005**(.002)

SCHOOL.004

(.009).001

(.009).002

(.008).007

(.009).004

(.009).004

(.008)

STATUS-.025(.065)

-.080(.069)

-.130**(.065)

-.031(.065)

-.103(.068)

-.150**(.064)

TIME.057*(.031)

.059*(.031)

.055*(.028)

.063**(.031)

.068**(.030)

.063**(.028)

Intercept2.865***

(.064)2.863***

(.062)2.650***

(.081)2.811***

(.073)2.786***

(.071)2.582***

(.085)

N 76 76 76 76 76 76

R Square.103 .153 .293 .129 .203 .337

F-statistics 2.040* 2.533** 4.776*** 2.071* 2.936** 4.936***

Regression result (cont’d)Log (GDPpgr) = 2.582 + (-.059+.001TRUST)*CORRUPT+.011*TRUST-.0

05*GNIp+.004*SCHOOL-.150*STATUS+.063*TIME +error,

If trust => 0, then effect of corruption on growth is -0.17%.

Every 10% increase in trust => reduce the negative effect of corruption by 0.03%.

H3 is supported.

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Concluding remarks The negative effect of corruption on economic

growth can be mitigated by a high level of trust in a country.

The boundary between particularized and generalized trust

Consequences of efficiency enhancing corruptionIt enriches the corrupt officials pockets;

Gives them incentives to increase state power.It improves the bribing firm’s profitability.It impoverishes the state coffers.=> the government has strong monopolistic power, a

weakened treasure, and an efficient and wealthy business class.

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ImplicationsPolicy implications for eradicating corruptionThe difficulty of cleaning corruption in

societies with high level trust.Firms have little incentives to report

corruption (“corruption with theft” by Shleifer and Vishiny).

Strong and thick social network makes “whistle blowing” difficult).

The “futures option” type of corruption.

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Implications (cont’d)What can be done?

Firms?Governments?International organizations?

Further research?

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