Abstract
This paper studies an occupational choice in which risk-neutral private agents have the option of either working in costless but low-yielding activity or undertaking a costly but potentially more rewarding venture, namely, entrepreneurship. Loans must be acquired from financial intermediaries, and licences must be obtained from public officials for entrepreneurship. This paper has integrated two new ingredients into the traditional occupational choice framework: financial market imperfection due to asymmetric information between entrepreneurs and financial intermediaries, and public-sector imperfection due to rent-seeking induced uncertainty on bribe demand. The paper shows how corruption has different effects depending on how it is practised. Under disorganized corruption, bribe payments are uncertain, and capital market imperfections surface; under organized corruption, these features are removed. This implies that organized corruption is likely to be the lesser of the two evils in terms of deterring entrepreneurial activity, even if bribe demands are higher in this case.
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Notes
I use this definition as the paper focuses on public sector corruption. In particular, I intend to model the malfeasance of bureaucrats, which is the petty corruption (or bureaucratic corruption) but not grand corruption (or political corruption). If no bureaucrat distributes rents in the first place, there will be no corruption. However, it is important to clarify that corruption is also rampant in the private sector as discussed by many others (e.g. Bardhan 2006; Hogdson and Jiang 2007; Murphy et al. 1993). Entrepreneurs may initiate illicit activities, such as lobbying or bribing bureaucrats which induces unproductive entrepreneurship hurting firm productivity (e.g. Baumol 1996; Collins et al. 2016).
It is possible to obtain the opposite result if governmental goods are substitutes for each other, or if the same governmental good is provided by more than one bureaucrat (e.g. Drugov 2010). In this case, competition between bureaucrats without collusion could drive down the level of bribes relative to the monopoly outcome in the presence of collusion. However, as noted by others (e.g. Bliss and Di Tella 1997; Bose 2004), the conditions for ensuring a competitive equilibrium, such as zero search costs for individuals in their acquisition of information about bribe payments, and zero capacity constraints on bureaucrats in their supply of governmental goods, are fairly stringent and not obviously satisfied in practice. Drugov (2010) also shows that competition may not be good for detecting corrupt bureaucrats, whereas monopoly achieves a better ex post licence allocation, particularly for goods with high costs.
This paper discusses productive entrepreneurship in the classification of Baumol (1996). Unproductive entrepreneurship implies the fact that entrepreneurs are corrupt. To generate profit, the corrupt entrepreneurs are actively searching for opportunities for rent-seeking instead of conducting productive activities. Collins et al. (2016) find that corruption is negatively associated with productive entrepreneurship, whereas it is likely to be positively correlated with unproductive entrepreneurship. However, unproductive entrepreneurship is beyond the scope of this paper.
Naude (2011) argues that entrepreneurship is not a binding constraint on economic development in poor countries, but it is necessary for economic growth.
The assumption mainly serves the purpose of simplifying notation. In addition, the aim of this paper is to reveal how different corrupt practices may affect entrepreneurial activities differently and hence affect economic growth at the aggregate level under a bad business environment. The primary idea is to provide some recommendations against specific forms of misgovernance, first considering that corruption cannot be eliminated completely, at least in the short run. The highest entrepreneurship and fastest growth are undoubtedly achieved without the present of corruption. It is possible to assume that a proportion of bureaucrats are in-corruptible and the main results stay the same.
This paper does not consider the allocation of the alternative citizenships initially. This abstraction serves to simplify and focus the analysis. It may be thought of as reflecting an allocation process that is either purely random or based on differences in individual attributes.
Note that if private agents are risk averse (or risk loving), this may affect their decisions in choosing occupations. Cultural norms like individualism and fear of failure may also affect entrepreneurial activities. Thanks to one of the referees for pointing this out. The study of Pinillos and Reyes (2011) finds that individualism may affect entrepreneurship differently conditional on economic development. That countries have a higher degree of individualism may not necessarily imply higher entrepreneurial activities. Linan et al. (2016) further conclude that national culture and personal values jointly affect entrepreneurial activities. In particular, positive individualist values such as achievement, pleasure, self-direction, or an exciting and stimulating lifestyle, are likely to trigger entrepreneurial engagement. Morgan and Sisak (2016) argue that fear of failure negatively affects an individual’s decision about engaging in entrepreneurship and may produce various effects on the subsequent investment plan conditional on the individual’s aspiration level. In this paper, on the other hand, private agents are assumed to be risk-neutral, and the choices between subsistence production and entrepreneurship purely depend on the individual’s technical capabilities, a factor which is exogenous.
The assumption of neither capital outlay nor effort in subsistence production can be relaxed without altering the results of the analysis. This assumption serves merely as a normalization to save notation.
Note that private individuals do not know the exact type of bureaucrats in advance, though they know bureaucrats are corrupt given the assumption of the general environment.
The enforcement of illegal agreements between private and public agents is an issue worth pursuing (e.g. Dzhumashev 2014; Kessler 2000; Mauro 2004), but it is not the one this paper explicitly addresses. This paper focuses on the question of how corruption might influence occupational choice and how the extent to which it might do so depends on how corruption is practised. One possible effect of corruption is to create uncertainty about the returns from entrepreneurship, as in Blackburn and Forgues-Puccio (2009) and Dzhumashev (2016). Consequently, it creates capital market imperfections due to information asymmetry between lenders and borrowers, which has not been explicitly modelled in the industrial organization of corruption literature.
In some other studies (e.g. Andvig and Moene 1990; Dzhumashev 2016; Mauro 2004), it is assumed that the costs of corruption are low if the incidence of corruption is high. This form may fit better with “hyper-presidentialism” political corruption than with the petty corruption discussed in this paper. In particular, anti-corruption campaigns have swept the globe in recent years, even in countries with noisome reputations for corruption like China and India. For example, a massive anti-corruption campaign has been under way in China since 2013 under the current leadership of President Jinping Xi.
π ∈ (0, 1) is for mathematical modelling purposes only, which ensures that the probability of successfully avoiding prosecution (p) is a fraction. π does not have an economic meaning.
x serves the purpose of mathematical modelling only, and does not have an economic meaning. x is always positive under the parameter restriction χ − X > 0. For reasons that will become clear shortly, I also assume that χ + X < 1.
The variance of x is X2/3, which increases in X.
The parameter restriction χ + X < 1 ensures that b > 0 for all x.
Note that the assumption of δ ∈ (0, 1) is not compulsory for the analysis. It is possible to set δ = 1 without altering the results which will become clear soon.
The other measure is given by δ, the enforcement parameter. However, this source of capital market imperfection is unimportant for the analysis as it vanishes in the general equilibrium. For this reason, this paper focuses on k, which does matter for the results.
Note that the direct effect of ϕ(1 − χ) is reinforced by an indirect effect through its impact on \( \left(\frac{\overset{\sim }{x}-\chi +X}{2X}\right)k \).
Tonoyan et al. (2010) argue that it is a common problem for entrepreneurs when overlapping corrupt bureaucrats exist as it is difficult to understand who to go to and if beneficial treatment is guaranteed. This reflects the typical corruption-induced uncertainty. In an organized corruption network, this problem is eliminated due to coordinated rent-seeking by bureaucrats.
As in the proceeding, the solution to the maximization problem of the joint monopoly implies an optimal bribe that satisfies this criterion.
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Acknowledgements
I would like to thank Professor Keith Blackburn for his insightful comments on the earlier version of this paper. Moreover, I am grateful to the editor and two anonymous referees for numerous valuable suggestions. All remaining errors are mine.
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Wang, Y. Uncertainty, entrepreneurship, and the organization of corruption. Small Bus Econ 58, 121–139 (2022). https://doi.org/10.1007/s11187-020-00402-3
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DOI: https://doi.org/10.1007/s11187-020-00402-3
Keywords
- Corruption regimes
- Bureaucratic corruption–induced uncertainty
- Productive entrepreneurial activity
- Financial market imperfection