This book is the outcome of a roundtable organized by us and held in Montevideo, Uruguay, on May 26â27, 2016. It is an ambitious project because of the breadth of its reach. There is increasing recognition, albeit with a long history of forays into this, from the time of Karl Polanyi (1944), through the writings of Mark Granovetter (1985), to the emergence of new institutional economics (see North 1990; Williamson 2000), that economics cannot be viewed in isolation. It is a discipline embedded in institutions, politics, and the law and, if we are to be more effective in terms of the impact of economic policy, we have to recognize this embeddedness and design our interventions with this in mind.1 Further, the perpetrators of corruption often work, hand in hand, with the functionaries of government, who, ironically, are supposed to enforce the law (see, for instance, Kugler et al. 2005). The World Bankâs most-recent World Development Report on Governance and the Law (World Bank 2017) is a recognition of the significance of these perspectives. And our roundtable assembled some of the finest minds that have contributed to this multidisciplinary venture to do a stocktaking of the best ideas and how they can be put to action on the ground. It was an engaging two days of discussion and debate.
The breadth, ambition, and excitement of the project, however, comes with a concomitant challengeâthat of organizing what we analyzed and discussed into a cogent statement. This book is an attempt at that. While we do not attempt one comprehensive statement or chapter that collects the entire proceedings, we worked with the authors and organized the book to make it as readable, consistent, and cogent as possible. It is organized so as to begin with some of the broadest questions, rooted in history and institutions to more focused micro-analytic topics, such as corruption and the law.
The book opens with Avinash Dixitâs chapter on âAnti-Corruption Institutions: Some History and Theory,â where he argues that, despite the importance of broad common principles of economics, each country needs to find its own way to improve governance. Indeed, the one lesson he can draw from history is that no universal solution exists. For instance, to prevent corruption, during the late Middle Ages, small city states in Italy decided to outsource the exercise of power to a âforeignâ city manager, the podestĂ , offering him an incentive compatible contractâbased on a security deposit and a management fee. In the twentieth century, small city states in East Asia, such as Singapore and Hong Kong, quickly became âclean,â thanks to a reform effort backed by a leadership that felt the need to react swiftly to some big corruption scandals. In the US, instead, the reduction in corruption was quite a long process, spanning over half a century (late nineteenthâearly twentieth century), and it was made possible by the alliance of business interests and the progressive movement, an alliance that was aided by the emergence of a free press.
The fact that each country should find its own way to grow out of corruption, however, does not mean that no general lessons can be learned from history. History indeed suggests that all successful transitions to good governance have required a change in norms such that, at the end of the process, a large majority of citizens found it in their best interest to abide by the rule of law. This could be the outcome of a coordination effort that transformed a Prisonerâs Dilemma type situation to a game where cooperation is feasible, and the emergence, for a number of different reasons, of a new focal point that allowed agents to move to a Pareto superior equilibriumâas in the classical Stag-Hunt Game.
A good example of a (bottom up) coordination solution that has the potential to improve governance in mafia-plagued Sicily is Addiopizzo, a movement of Sicilian businesses that challenged mafia rackets by agreeing publicly not to pay the pizzo (protection money extorted by the mafia). Such a pledge may increase substantially the cost for the mafia to retaliate against those who refuse to pay, as retaliation would be against the entire association and not the individual shop owner. Thus, Addiopizzo could help coordinate businesses so as to get to the good equilibrium where if others do not pay the pizzo, no one has an interest in unilaterally paying, and the mafiosi refrain from asking it.
The problem is that, when we start looking at coordination problems, then there is no such thing as a âgoodâ policy. In addition, fighting corruption by itself does not necessarily bring good governance. The reason, as Francis Fukuyama argues in his chapter on âCorruption as a Political Phenomenonâ, is that good governance also requires state capacity so that anti-corruption efforts may be fruitless absent state capacity and proper incentives. This may explain why the first generation of anti-corruption policies, aimed at reforming civil services in the Weberian tradition, failed: corrupt bureaucracies do not police themselves.
The failure of such a (top down) approach led the developmental community to focus on transparency and accountability measures aimed at mobilizing civil society. However, lacking collective action mechanisms that allow the society to move to a new equilibrium, the disruption of an existing system of clientelism or patronage may end up deterring investments. This, for instance, is the case when property rights are not clearly defined and contract enforcement is weak. This brings us back to the importance of state capacity above and beyond the control of corruption. China is a good example of a country that, thanks to a long lasting tradition of ample state capacity, has been able to grow fast despite relatively high levels of corruption.2
The link between corruption and organized crime is the focus of Susan Rose-Ackerman and Bonnie J. Palifkaâs chapter on âCorruption, Organized Crime, and Money Laundering.â The starting point of their analysis is that a culture of corruption creates opportunities for organized crime to flourish and to expand its control over both licit and illicit activities. This, in turn, makes it easier for organized crime to capture whole sectors, creating a vicious circle that can be difficult to break. In such situations, ambitious anti-corruption reforms may be challenging to implement, as those who are in charge of executing them (public officials, police, judges) may be controlled by the same organized crime they are expected to fight.
Starting from this premise, Rose-Ackerman and Palifka suggest that the fight against organized crime should focus on smart policies aimed at reducing organized crimeâs rents and thus its ability to control enforcement agencies. Among the interventions that can create such a virtuous cycle, the authors call attention to anti-money laundering policies. In their view, this is perhaps the most effective way to tax illicit activities and thus to reduce the power of organized crime. Of course, the success of anti-money laundering depends on international cooperation and this may be the area where multilateral institutions, like the World Bank, have an edge over other players (and a consequent responsibility) in contributing to the governance agenda, both national and international.
Anti-money laundering activities may act as an effective tax on illicit activities. Such a tax, by reducing the rents that criminal groups can secure, diminishes their ability to âbuyâ enforcement agencies. Extending such a logic, one may wonder whether other reforms that reduce rents, such as those promoting economic and political liberalization, are also likely to decrease corruption and foster a virtuous cycle of economic dynamism and increase in state capacity. Pranab Bardhan in his chapter on âReflections on Corruption in the Context of Political and Economic Liberalizationâ challenges such a blanket extension and hints at more complex dynamics between liberalization and governance that may lead to possible unforeseen consequences.
For instance, economic liberalization usually starts in the product market. When this is the case, then (relative) rents in primary factor markets and, more generally, in the non-tradable sectors necessarily increase. Since those are the sectors more subject to political allocations, corruption opportunities may thus also increase. The case is even worse when economic liberalization entails a privatization process that too often ends up transferring resources from state monopolies to crony oligarchs. This not only creates new opportunities for grand corruption but it also changes the nature of corruption from bribing, that is, bending the rules to lobbying, to changing the rules. Such a phenomenon could be reinforced by political liberalization, especially when electoral competition is costly. If politicians need money to be elected and sectors subject to regulations have the resources, the likelihood of state capture by powerful individuals or lobbies necessarily increases.
In addition, Bardhan suggests that political competitions, by disenfranchising certain sector of societies (e.g., lower castes in India) that cannot rely on a well-established network of relations to obtain favors, may foster outright corruption. Of course, this does not make the system necessarily worse, but it substitutes tacit quid pro quo agreements, which could have even complied with the letter of the law, with bribe payments. Moreover, since powerful groups may be able to shape legislation in their own favor, what is accepted practice or legal in one country may be illegal in others. For instance, lobbiesâ contributions to Political Action Committees are legal in the US but not elsewhere. Finally, the fact that âlegalâ corruption, as it is often called, may not be any better than the âillegalâ one, and that only illegal payments are usually captured in corruption measures,3 implies that it is very difficult to compare corruption measures across countries.
This brings us to Diego Gambettaâs provocative chapter on âWhy Is Italy Disproportionally Corrupt?: A Conjectureâ. If control of corruption and development go hand in hand, one ends up wondering how such a developed country can be so corrupt, and, conversely, how such a corrupt country can be so developed. Leaving aside that poor governance and poor contract enforcement mechanisms may have indeed contributed to Italyâs poor economic performance in the new millennium, Gambettaâs story hints at the complex dynamics of sharing compromising information.4
The logic is as follows. One of the reasons widespread corruption hinders investment and growth is that, in corrupt societies, the rule of law cannot be trusted to enforce contracts. This, in turn, implies that, in such societies, agents should rely on personal relations and networks; among such networks, the strongest are those whose members are partners in some form of crime. When this is the case, every member can blackmail, and be blackmailed by, everybody else. This creates trust and, as strange as it may sound, the more pervasive such networks are, the larger is the scope for economic activity. The next question that arises is: how many âpartners in crimeâ should exist in Italy to explain the level of economic development? Probably many more than one may suspect. This may partly reflect weak moral norms but, according to Gambetta, to a great extent it reflects the myriad of existing laws and regulation. They often contradict one another so that, in Italy, breaking some law, knowingly but often unknowingly, is the rule rather than the exception. The next essential piece of the Italian puzzle is the presence of an overburdened and âmostly incorruptibleâ judiciary that, because of being overburdened, only starts an investigation if a crime is reported, but because of being incorruptible always does it if presented with evidence. This means that criminal behaviors are not prosecuted unless someone breaks the omertĂ . However, any potential reporter of crime has probably also broken some rule or law, and, would therefore be concerned about retaliation, and so will be unlikely to violate omertĂ to start with. That is how Italy could âsquare the puzzling circle of corruption cum development:â in the bel paese the widespread violation of some law may end up being the ultimate source of trust.5
The fact that the relation between institutions and economic development is complex is also the focus of Timothy Besley and Hannes Muellerâs chapter on âCohesive Institutions and the Distribution of Political Rents: Theory and Evidence.â Besley and Muellerâs starting point is that we should unbundle institutions and explicitly distinguish between those that regulate access to, and those that regulate the use of, power. Their view is that the international community has...