The collapse of the Soviet Empire in 1991 opened a new frontier in globalization: the economic integration of the Eurasian “super-continent.” This chapter explores the process and prospects of integration on the huge land mass that stretches from the Atlantic to the Pacific and from the Arctic Sea to the Indian Ocean, principally focusing on the economic dimensions of the integration process in Eurasia. It compiles evidence on integration in the areas of energy and non-energy trade and transport, illicit drug trade, investment and capital flows, migration, and communication and knowledge. It concludes with a consideration of the institutional and political dimensions that affect regional cooperation in Eurasia and offers some broad policy recommendations.

The Eurasian continental space was integrated for centuries, if not millennia, of pre-modern history. Anthropologists speculate that much of modern humanity originated in and spread from the Mongolian steppes millions of years ago. Waves of conquerors, among them Attila the Hun and Genghis Khan, followed these early migrations. The Great Silk Road (represented in a stylized manner in Chart 10.1) serves as the epitome of Eurasian economic and cultural connectedness. It ran east to west from the Yellow Sea through Central Asia, the Mediterranean, and on to Western Europe. The route also connected the Indian subcontinent and what are now the northern reaches of Russia (Hopkirk, 1980). Commerce, culture, and religion spread along this route, as did conflict and disease, including the Black Death of the mid-fourteenth century.

Introduction

In his revolutionary work, the godfather of modern fiscal policy Lord Maynard Keynes gave a central role to discretion in fiscal policy. Thus, in some ways, he, and even more his followers, who probably pushed his ideas beyond where he would have liked, gave policy makers what many of them had always wanted: a justification for spending more or, in particular cases, for reducing taxes without cutting public spending. A correct or effective discretionary fiscal policy is, however, difficult to pursue because it requires information and attitudes that are often in short supply. When countries try to fine-tune their fiscal policy, they often end up making mistakes. This chapter focuses on those difficulties within the European context. It discusses problems that have not received the attention that they deserve.

Since it was first proposed, and then endorsed by the Keynesians, with a revolutionary fervor that at times paralleled that of true religious believers, countercyclical fiscal policy has been subjected to occasional criticism. Three major lines of criticism can be distinguished.

First is the existence of various lags. It was noticed from the beginning that there are likely to be lags in (1) the recognition that fiscal action is needed, (2) the taking of the action, and (3) the time that passes between when the action is taken and when the economy begins to feel its effects. These lags reduce the effectiveness of countercyclical policy.

Introduction

This contribution focuses on the plight of (most of) the old member states, as the new member states are unlikely to face the same problems. The latter are growing faster than the old EU-15. They are likely to continue to benefit from their low production costs, a production base with a relatively well-educated work force, an improving policy framework, and their proximity to the biggest market in the world.

By contrast, the main theme of the Euroland economy continues to be weakness of both demand and supply. And it is not only the economy that is weak, but also the economic policy making. Fiscal policy plans go awry all the time; the Lisbon Agenda is constantly invoked but no action is taken; and so on. This disarray results from the assumptions underlying existing policies: they are geared for a growing economy in which every year growth allows for some redistribution. Growth prospects are now rather dim throughout most of Euroland due to lower productivity growth and, particularly in Germany, due to demographic developments. Economic policy making is squeezed from both sides.

The low growth diminishes the potential for redistribution, which has an impact on both fiscal and monetary policy. Fiscal policy is deteriorating as finance ministers try to save, and then discover every year that despite their attempts at cutting expenditures, the ratio of public expenditure to GDP does not go down. Year after year, deficits are higher than expected.

Introduction

Corruption, no doubt, is regarded as one of the modern evils. It is carried out by those with a criminal intention and motivated by greed. Yet, if this simple explanation were valid, why would we have to face in reality some disturbing counterexamples? Why, in particular, do we face a significant pattern where corrupt people tend to be involved in a variety of charitable institutions? Why do many bribers and bribees engage in an assortment of regular business transactions and political initiatives where they are regarded as trustworthy and honest partners? Our viewpoint of them as criminals contradicts their social engagement. The trust they enjoy in their regular relations sounds rather controversial, given their misuse of entrusted power.

A straightforward argument would, certainly, point out that corrupt actors must be entrusted with power before misusing it. There must be opportunities for corrupt misbehavior. These opportunities commonly arise where public office holders are in a monopoly position, have discretion in interpreting, applying, or changing the law, and lack accountability (Klitgaard 1988: 75).

Why this book?

Corruption, the misuse of public power for private benefit, turns out to be a relatively new challenge for social sciences. It has been an issue for politics and society for many centuries, but its systematic scientific treatment is rather novel. However, most researchers consider corruption to be just another application of preexisting theories without sufficiently considering their adequacy. This, I believe, is like putting new wine into old wineskins. Just as wine causes the skins to burst corruption ruptures preexisting theories. Just as we lose wine in old skins we may fail to understand corruption without considering its intrinsic dynamics and logic. Applying old theories then falls short of an adequate understanding of the phenomenon.

A lecture that I run on the economics of corruption starts with a game: students are supposed to derive a strategy of how to win a public tender when they have insufficient funding to take the official route. I find myself time and again appalled by the variety of unusual, innovative, and totally criminal proposals. This is what corruption is about: someone violates the rules of the game in a way that was not anticipated by others. To apply models of perfect foresight, rational expectations, competition with a level playing field, and similar models are, hence, no longer enlightening. In this spirit, a variety of orthodox approaches to corruption appear less useful.

Anticorruption is society's perpetual endeavor to discipline its public servants and politicians. It cannot be imagined that this goal will ever be reached solely by intellectual effort. Courage and commitment among civic-minded people will remain a prerequisite for low levels of corruption. But societies’ ventures require some thorough guidance. Our knowledge on anticorruption is increasing at a remarkable speed. Reform ideas are tested throughout the world and experiences are rapidly exchanged so as to determine best practice. Yet, there is still no overarching framework available that helps in organizing our thinking. An inspiration for such a framework is suggested in this book: the principle of the invisible foot.

A first approach intended to inspire anticorruption related to repression: draconic penalties and higher probabilities of detecting malfeasance. While this approach has its merits, it is doubtful whether it can be the guiding principle for the future. Data on prosecutions related to bribery and fraud reveal that they are common particularly in some more developed countries but extremely rare in some less-developed countries (United Nations 2006). Whether conviction rates in many crucial countries would ever reach levels where they can represent an effective deterrence can therefore be put in question. Furthermore, if the effects follow an economic law of decreasing marginal gains and increasing marginal costs, the likely outcome would be that criminals are less deterred by higher penalties while the pursuit of absolute integrity becomes more and more expensive, bringing about unpleasant side effects.

Introduction

As shown in previous chapters, the willingness to take bribes brings about disadvantages to the corrupt actors themselves. Public servants become useless to those who would like to entrust them with tasks that require integrity. They remain dubious to their corrupt counterparts who would steadily expect to be cheated. Neither task, legal or illegal, may be delegated to them. The willingness to take bribes backfires. I call this the principle of the invisible foot, helping good governance even in the absence of good intentions. But can the power of this principle survive? While the standard invisible hand of competition brings about good markets, does it destroy good governance? Would competition undermine the principle of the invisible foot? I argue that this is not the case. Ethical behavior survives market pressure for various reasons.

In November 1986, Masupha Ephraim Sole was appointed Chief Executive of the Lesotho Highlands Development Authority (LHDA), which was in charge of the Lesotho Water Highlands Project, a system of dams and tunnels that would provide water for South Africa and electricity for Lesotho. A large number of transnational corporations, among them the Canadian company Acres, which provided qualified professional staff to the LHDA, had engaged an intermediary, Mr. Bam.

What is bad about grand, political corruption? Similar to the problem of a corrupt bureaucrat, a government's head fails to credibly commit to honesty if being guided by corrupt goals. He thus disqualifies for attracting investors. The advantage from bribery turns against its actor because investors are stripped of guarantees that their property will be honored. Even those politicians who are primarily career-oriented may try to avoid this downside effect and prefer to commit to anticorruption instead.

Corruption has been defined as the misuse of public power for private benefit. But the term “misuse” is open to different interpretations. In Chapter 2, it involved the rules set up by a benevolent principal, which were trespassed by a self-serving agent. While this approach was appropriate for bureaucratic corruption, it appears misguided for political corruption. A self-serving principal, a government that disregards its duty of serving the public, might create an environment where laws do not prohibit its own self-enrichment or that of a ruling class. Corruption can even accompany and underlie the writing and enforcing of rules designed with the intention of furthering the principal's narrow interests.

In case the principal is not benevolent, a definition of corruption as a violation of rules would be misleading. This can be illustrated with a case study from Thailand. It is reported that strict rules prohibit ordinary citizens from taking away anything from the tropical forest in Thailand, even leaves and pebbles.

Introduction

How can we make corruption as arduous as possible? How can we increase the transaction costs of corrupt deals? These questions are at the core of this chapter, which will employ new institutional economic thinking for an analysis of the microeconomic determinants of corrupt transactions. In spite of a growing interest in the economics of corruption, the tools of New Institutional Economics have hardly been applied to this topic. Noteworthy early exceptions are Husted (1994), Lambsdorff (1999), Lambsdorff et al. (2004), della Porta and Vanucci (1999), Vanucci (2000), and Rose-Ackerman (1999: 91–110).

This chapter argues that an institutional viewpoint can enrich our understanding of corrupt agreements. Central to the analysis are transaction costs, including the costs of searching for partners, determining contract conditions, and enforcing contract terms. Transaction costs of corrupt agreements differ from those of legal deals, because there is a need for camouflage and because partners in such a deal end up with potentially damaging information about each other. For these reasons, corrupt agreements are more likely to employ middlemen or come about as a by-product of legal exchange and social structures.

Corruption has emerged high on the agenda of multinational development agencies, private firms, and policy-makers. This increased interest in the phenomenon of corruption has produced a multitude of policy prescriptions, reform initiatives, and conferences. The world is not short of ideas on how to tackle corruption. While good intentions abound, we currently know little about their likely success.

Being short of empirical evidence and profound experience, there is clearly no theory available that allows us to put the various approaches for reform into comparative perspective. How should bureaucrats be punished? How should administrative procedures be reformed? How far should parliamentarians be held accountable to the public? What piece of information should be made publicly available? Is transparency always helpful? Is it possible to reward honesty? Can corruption be effectively fought by focusing on technical and organizational issues? What role should be assigned to civil society? How far can we expect bureaucrats to follow their narrow self-interest as opposed to ethical considerations? How much of our resources should we spend for improving the judiciary? How should we deal with whistle-blowers?

A recent cohort of anticorruption activists requests high levels of integrity as part of a moral crusade against corruption. Standard policy recommendations embrace the “strengthening” of diverse legal foundations and procedural guidelines. They include the “promotion” of integrity in various sectors, or they relate to “capacity building” in the public administration. These and similar buzzwords repeatedly enter topical guidebooks by various donor agencies, consultancies, and multilateral institutions.

That corruption adversely affects economic development has become a commonplace assertion in academia and public discussion. Identifying the precise reasons for this impact is not straightforward, however. I show here that at the core of understanding the social consequences of corruption is the bureaucrats’ failure to commit to honesty once they are ready to take bribes. The downside of public servants’ willingness to take bribes is that these officials disqualify for professions where their commitment to honesty would be vital. This downside effect may certainly also hurt the reputation of honest colleagues in the public service without compensating them by income from bribery.

Corruption involves the malfunctioning of some (or all) areas of the public sector. Crucial to this malfunctioning is that individuals or whole units within these sectors serve themselves and not the public. Those who study the effects of corruption on welfare are confronted with a multitude of models. Since each has its specific benefits and deficiencies, the choice of an adequate model is complicated and crucial at the same time.

Crucial to an understanding of the effects of bureaucratic corruption is its relationship to bureaucratic discretion and distorting regulation. I claim that a sound assessment of the effects of corruption on public welfare remains inconclusive when regulations are considered exogenous to the analysis. This results because corruption and bad regulation are often two sides of the same coin. A principal–agent model is taken as a framework of analysis for the subsequent sections.

Introduction

Should corruption be facilitated or impeded? At the core of this book is the idea that we should make corruption as arduous as possible. The downside effects should be felt strongly by those willing to take bribes and embezzle public funds. But some theorists were busy arguing in favor of the opposite. They claimed that corruption should be facilitated because otherwise lobbying for preferential treatment would generate wasteful competition. I show that this conclusion is misguided – our effort must be directed toward increasing the transaction costs of corruption.

As we have argued in Chapter 4, some concept of public interest may be at the center of definitions of political corruption. Therefore, welfare economics can be a starting point for analyzing corruption because it allows for a distinction to be made between useful and wasteful political actions. An early approach in this vein has been presented by the traditional rent-seeking theory. This approach considers various forms of seeking preferential treatment in the realm of public decision-making, for example, through competitive lobbying and corruption.

In an attempt to determine the causes and consequences of corruption, academics have focused lately on cross-country analyses. These require assessments of the extent of corruption in various countries. Such assessments are sometimes compiled by agencies to determine country risks, and the data gathered are sold to investors. Other sources are surveys of elite businesspeople or the general public. While perceptions should never be confused with reality, the given consensus provides some confidence that the perceptions gathered are informative on actual levels of corruption. Most prominent in recent years has been the TI CPI.

Objective versus subjective data

Instead of using perceptions data, Goel and Nelson (1998), Fisman and Gatti (2002) and Glaeser and Saks (2006) employ objective data: the number of public officials convicted for abuse of public office in various states of the United States. They assume that high conviction rates are an indicator of actual high levels of corruption. Certainly, conviction rates may not well depict levels of corruption but rather the quality of the judiciary. But Glaeser and Saks (2006) defend the data on the grounds that they refer to central government prosecutor's charges and convictions, not those by the local judiciary. Glaeser and Saks (2006) report that conviction rates decrease with income and education. Goel and Nelson (1998) significantly relate conviction rates to the real per capita total expenditures of the local government, arguing that state intervention and public spending give rise to rent-seeking activities and thereby corruption.