Corruption describes a relationship between the state and the private sector. Sometimes state officials are the dominant actors; in other cases private actors are the most powerful forces. The relative bargaining power of these groups determines both the overall impact of corruption on society and the distribution of the gains between bribers and bribees.

Analysis of corruption is part of the ongoing and inconclusive debate about which form of government is most conducive to economic growth. Although wealthy countries do tend to be democracies, there is no simple statistical relationship between growth and democratic government (Huber, Rueschemeyer, and Stephens 1993; Przeworski and Limongi 1993). The reason for this is not difficult to fathom: “Democracy” is simply too general a term to capture the range of government forms that come under that rubric. Furthermore, a government structure that works well in one country may be dysfunctional in another context. Widespread, entrenched corruption is one form of dysfunction.

Is the establishment of democracy an anticorruption strategy? The desire for reelection constrains the greed of politicians. The protection of civil liberties and free speech, which generally accompanies democratic electoral processes, makes open and transparent government possible. In contrast, non-democratic states are especially susceptible to corrupt incentives because their rulers have the potential to organize government with few checks and balances. But this contrast is too sharp. One need look no further than Newark and Chicago in the United States to find well-established corrupt systems that compare quite well with autocratic systems.

A personnel system based on patronage and political loyalty undermines the efficient delivery of services and leads to the unfair administration of tax and regulatory laws. If corruption and self-dealing are imbedded in a government that is otherwise democratizing and downsizing, this can delegitimize political and economic reform. The goal is not to isolate public administration completely from politics – an impossible task in any event – but to find ways to mediate the relationship. Traditionally, a professional civil service is politically neutral, has security of tenure, is paid a decent salary, is recruited and promoted on merit, and does not have property or business interests that conflict with the fair performance of its duties (Adamolekun 1993). Some present-day reformers question aspects of this traditional model, but even they support the principle that civil servants should not be hired and fired for political reasons (Reid and Scott 1994; Scott 1996).

Countries emerging from a period of one-party or authoritarian rule face the challenge of creating a professional civil service. The executive branch needs to be politically accountable, but it also must perform day-to-day tasks with a minimum of corruption and favoritism. In Mexico, for example, as the long history of one-party dominance weakens, the national government is considering the establishment of a professional civil service (Guerro Amparán 1998). A democracy where parties alternate in power does not appear compatible with a public employment system based on political patronage.

Corruption is an emerging priority for the international community. The end of the Cold War has changed the balance of forces and removed any compelling need to support corrupt regimes for national security reasons. The widespread corruption and organized crime influence in the former Eastern bloc have made the problem difficult to ignore – as have similar problems in other parts of the world. The global move to privatize and deregulate requires a rethinking of the relationship between the market and the state – including a recognition of the new corrupt opportunities created by these efforts to strengthen the role of the private market.

Some observers question this new interest by international organizations. They view corruption as a domestic political problem that should be left to individual countries. To these critics, outsiders' reform efforts represent an unacceptable attempt to impose “Western” values. But many scholars from developing countries argue that this fashionable critique is based on a mischaracterization of local practices. They make it clear that traditions of gift giving do not translate into widespread acceptance of corrupt practices (Ayittey 1992). Citizen surveys and expressions of public outrage suggest that widespread tolerance of corruption is not common (Cooksey 1996; Geddes 1994: 25–26; Pasuk and Sungsidh 1994).

Some developed countries resist efforts to control corruption because they believe that payoffs in developing countries benefit their own domestic businesses. Westerners can hardly claim that their own cultures find corruption acceptable.

Public accountability is necessary for the control of corruption. Both autocracies and democracies can be deeply corrupt, and each can be held accountable in different ways. Elections can constrain politicians, but, as we have seen, they are an imperfect tool. Public accountability is possible even in countries without elections or with a dominant party that always wins the vote. These constraints may be more difficult for autocrats to accept than for elected officials, but even democratic officials resist reforms that expose them to public scrutiny and criticism. Corruption can be limited both by internal government structures and organizations that constrain malfeasance and by outside pressure from the public.

Limits on the power of politicians and political institutions combined with independent monitoring and enforcement can be potent anticorruption strategies. In a democracy, these limits include the separation of powers between the legislative and executive branches. An independent judicial and prosecutorial system and a federal structure can limit the power of political leaders. But the fragmentation of political power is not necessarily effective. Under some conditions, a system with multiple veto points is particularly subject to improper influence, and a federal system may simply give state and local political leaders leeway to enrich themselves at public expense. Independent sources of prosecutorial and judicial power are less problematic, although, of course, these institutions must themselves be largely free of corruption and patronage. Independence is necessary but not sufficient.

Ideas and moral commitments matter. Reforms sometimes occur simply because a charismatic and committed leader pushes them through. Strong leaders can inspire people to accept major reforms that lesser personalities could never achieve. But strong leadership is generally a necessary, not a sufficient cause of political change. Past practice creates inertia. It is often easiest to go on as before – especially because the beneficiaries of the status quo will struggle against change. Choices made at one point in time foreclose other choices in the future. However, although history imposes constraints, it seldom forces one particular outcome. The challenge is to identify structural factors, apart from charismatic leadership, that create favorable conditions for reform.

We now have sufficient experience with reform efforts throughout the world to permit some well-grounded structural speculations. The argument in this chapter assumes that developing countries and those in the transition from socialism can learn from the historical experience of developed countries as well as the more recent experience of other developing countries. Of course, the lessons will have to be filtered through the particular situation of each nation, but some of the underlying political and economic incentives seem quite universal.

There are two basic models of the reform process: one based on the exercise of political power and the other based on a contractual model of consensus. Those who expect to lose from reform can be outvoted and outmaneuvered, or they can be coopted or compensated to accept change (Grindle and Thomas 1991: 134).

Economics is a powerful tool for the analysis of corruption. Cultural differences and morality provide nuance and subtlety, but an economic approach is fundamental to understanding where corrupt incentives are the greatest and have the biggest impact. In an earlier book, Corruption: A Study in Political Economy (1978), I made this point for an audience of economists and technically trained political scientists. Twenty years later I hope to broaden my audience and deepen my analysis with a new book that focuses on the way corruption affects developing countries and those in transition from state socialism.

The growing interest in institutional issues among development economists encouraged me to make this effort. The study of corruption forces scholars and policy makers to focus on the tension between self-seeking behavior and public values. Those worried about the development failures common throughout the world must confront the problem of corruption and the weak and arbitrary state structures that feed it.

In 1995–1996 I was a Visiting Research Fellow at the World Bank in Washington, D.C. Since I previously had focused on public policy problems in the United States and Western Europe, a year at the World Bank was a transformative experience. I learned a tremendous amount, not just by reading whatever was at hand, but also by using the Bank's e-mail system to track down lunch partners with complementary interests. For a scholar used to sitting alone before a computer, the year in Washington was a welcome and energizing change.

Corruption is the misuse of public power for private gain. Agency–principal relationships in the public sector give rise to corrupt opportunities. This definition, however, simply assumes that a distinction exists between one's public and private roles. In many societies no such clear distinction exists. In the private sector, gift giving is pervasive and highly valued, and it seems natural to provide jobs and contracts to one's friends and relations. No one sees any reason not to carry over such practices into the public realm. In fact, the very idea of a sharp distinction between public and private life seems alien to many people.

Nevertheless, people in developing countries do make distinctions between appropriate and inappropriate behavior in terms of their own cultural norms. Formal surveys and informal discussions indicate frustration with corruption and suggest that expressions of toleration sometimes reflect both resignation and fear of reprisals against those who complain. Furthermore, even if gift giving and patronage are well accepted, they may impose hidden costs that are not well appreciated by ordinary citizens. Economics cannot answer cultural questions, but it can help one understand the implications of a society's choices. Societies can ask whether they have ended up with cultural habits that impose costs on the ability of the economy to grow and the government to function efficiently.

This chapter distinguishes between bribes, prices, tips, and gifts. The difficulty of distinguishing gifts from bribes has its roots in their fundamental similarity. In neither case will the legal system enforce a quid proquo.

Corrupt incentives exist because state officials have the power to allocate scarce benefits and impose onerous costs. Because scarcity lies at the heart of corrupt deals, basic insights derived from microeconomics can help structure efforts to reduce corruption. This chapter and the next focus on incentive-based reforms that reduce the benefits or increase the costs of malfeasance. This chapter considers the following reform options:

• program elimination,

• privatization,

• reform of public programs,

• administrative reform,

• the deterrent effect of anticorruption laws, and

• procurement systems.

Program Elimination

The most straightforward way to limit corruption is to eliminate corruption-laden programs. If the state has no authority to restrict exports or license businesses, this eliminates a source of bribes. If a subsidy program is eliminated, the bribes that accompanied it will disappear as well. If price controls are lifted, market prices will express scarcity values. In general, reforms that increase the competitiveness of the economy will help reduce corrupt incentives (Ades and Di Telia 1995,1997b: 514).

Some public programs work so poorly that they function principally as bribe-generating machines for officials. Structures that allow officials unfettered discretion are particularly likely sources of payoffs, especially if citizens and firms have no recourse. In such cases program elimination is sometimes better than more subtle reform strategies. For example, the licenses and permissions needed to set up businesses and continue them in operation may have no sound policy justification.

All states, whether benevolent or repressive, control the distribution of valuable benefits and the imposition of onerous costs. The distribution of these benefits and costs is generally under the control of public officials who possess discretionary power. Private individuals and firms who want favorable treatment may be willing to pay to obtain it. Payments are corrupt if they are illegally made to public agents with the goal of obtaining a benefit or avoiding a cost. Corruption is a symptom that something has gone wrong in the management of the state. Institutions designed to govern the interrelationships between the citizen and the state are used instead for personal enrichment and the provision of benefits to the corrupt. The price mechanism, so often a source of economic efficiency and a contributor to growth, can, in the form of bribery, undermine the legitimacy and effectiveness of government.

This chapter isolates the most important situations where widespread corruption can determine who obtains the benefits and bears the costs of government action.

• The government may be charged with allocating a scarce benefit to individuals and firms using legal criteria other than willingness to pay. Bribes clear the market.

• Officials in the public sector may have little incentive to do their jobs well, given official pay scales and the level of internal monitoring. They may impose delays and other roadblocks. Bribes act as incentive bonuses.

• Those engaged in legal pursuits seek to reduce the costs imposed on them by government in the form of taxes, customs duties, regulations. Bribes lower costs. […]

Poverty, poor health, low life expectancy, and an unequal distribution of income and wealth are endemic throughout the world. Many countries have very low or negative growth rates. Even some countries that are well endowed with natural resources have poor growth records and low per capita incomes. Others, especially in the former Soviet bloc, have weak economic records in spite of a well-educated labor force.

Yet a paradox exists. International lending organizations, such as the World Bank, often have difficulty locating acceptable projects. How can this be so when the need is obviously so great? One root of the problem is dysfunctional public and private institutions. Poorly functioning governments mean that outside assistance will not be used effectively. Low-income countries and those with weak growth records are often in difficulty because they are unable to use their human and material resources effectively. They need institutional reform, but such reform is difficult. Constructing dams, highways, and port facilities is technically straightforward. Reforming government and nurturing a strong private sector are more subtle and difficult tasks that cannot be reduced to an engineering blueprint.

The tension between the capacities of developing countries and the requirements of international aid and lending organizations arises from sources as multitudinous as the histories and cultures of the countries involved. To critics, the international organizations do not appreciate local customs and institutions and fail to adapt their programs to fit individual country's special circumstances.

“Grand corruption” occurs at the highest levels of government and involves major government projects and programs (Moody-Stewart 1997). Governments frequently transfer large financial benefits to private firms through procurement contracts and the award of concessions. Bribes transfer monopoly rents to private investors with a share to the corrupted officials. Privatization processes are vulnerable to corrupt insider deals.

Payments to Obtain Major Contracts and Concessions

Corrupt payments to win major contracts and concessions are generally the preserve of large businesses and high-level officials. The important cases represent a substantial expenditure of funds and have a major impact on the government budget and the country's growth prospects. These deals are by definition the preserve of top officials and frequently involve multinational corporations operating alone or jointly with local partners.

If the government is a buyer or a contractor, there are several reasons to pay off officials. First, a firm may pay to be included in the list of prequalified bidders and to restrict the length of the list. Second, it may pay for inside information. Third, bribes may induce officials to structure the bidding specifications so that the corrupt firm is the only qualified supplier. Fourth, a firm may pay to be selected as the winning contractor.

Finally, once a firm wins the contract, it may pay to get inflated prices or to skimp on quality.

Corruption in contracting occurs in every country – even those at the high end of the honesty index such as the Scandinavian countries, Singapore, and New Zealand.