Consequences of Corruption

The catastrophic effects of corruption on the national economy of a country and the public at large are well documented. According to the World Economic Forum’s “Global Agenda Council on Anti-Corruption & Transparency 2012—2014,” the cost of conducting business worldwide is increased by 10 percent due to corruption. Both the IMF and the World Bank have identified corruption in general and public sector corruption in particular as the greatest obstacles to social and economic development (Blackburn and Forgues-Puccio 2007). Along the same lines, according to USAID (2005),³¹ corruption not only undermines business success but also contributes to poverty, inequality, crime, and insecurity. The economic effects of corruption are likely to include a reduction in public revenue and an increase in public spending as well as an increase in income inequality because well- positioned persons can exploit government activities at a cost to the rest of the population (Tanzi 1998, 582-583). By diverting resources for critical services like education, clean water, and health care into the pockets of dishonest government officials, corruption reduces income levels, educational attainment,³² and rate of growth; perpetuates the cycle of poverty in many countries; and impedes progress (Eicher, Garcia-Penalosa, and Van Ypersele 2009; Hills, Fiske, and Mahmoud 2009). A basic reason for why corruption increases poverty is because it reduces the earning potential of the poor (Tanzi 1998, 583). Of course, while developmental economists emphasize the detrimental effects of bureaucratic corruption on growth, a challenging question to address is why certain political systems foster different levels of corruption

(Ali and Isse 2003, 449).

Regarding the interaction between corruption and political instability on the one hand and policy formation on the other, Fredriksson and Svensson (2003) found that corruption reduces the stringency of environmental regulations, but the effect disappears as political instability increases. Mauro (1996) argued and showed in his IMF paper that corruption lowers foreign investment because it has the same effect as a tax, and in fact operates as a tax; it also reduces the productivity of public investment and a country’s infrastructure; and it reduces expenditure for operation and maintenance. Anpkhin and Schulze (2009) used longitudinal data from 64 countries and found that a lack of trust in the ability of the state and market institutions to reliably and impartially enforce law and the rules of trade also hinders productivity and investment in innovation and entrepreneurship. Gyimah-Brempong (2002) investigated the effects of corruption on economic growth and income distribution using panel data from African countries and found that corruption is positively correlated with income inequality and also reduces economic growth directly and indirectly through lessened investment in physical capital. Using data from the World Income Inequality database, Ashiku (2011) supported other researchers by reporting that high and rising corruption widens the gap between the rich and the poor and increases the number of people in poverty by reducing economic growth. It also increases elite political polarization, induces political instability, and threatens the survival of democracy. Ashiku concluded that corruption enriches a small part of the population at a cost to the whole society and therefore leads to greater income inequality. Decreased income growth and increased inequality indicate that corruption has a greater adverse effect on the poor than the rich in developing countries.

Concerning the link between corruption and the global financial crisis, in his 2009 article in Forbes, Daniel Kaufmann³³ maintained that one of the causes of the latter was the element of state capture or just capture (i.e., high- level political corruption) in the systemic failures of oversight, regulation, and disclosure in the financial sector. Capture refers to cases in which powerful corporations or persons exploit “the regulatory, policy and legal institutions of the nation for their private benefit” through bribery of high-ranking officials or by lobbying (Kaufmann 2009). Political corruption has been neglected as researchers have focused on petty or administrative corruption, with a notable exception of Heywood (2015). As an example of capture, Kaufmann cited the failure of regulatory authorities to effectively monitor the operation of AIG’s “small” derivatives unit in London; this unit’s excessive risks caused the collapse of AIG globally and accelerated the 2008 global financial crisis. The importance of capture in the etiology of financial crises led Kaufmann (2009) to argue that the study of corruption ought to include acts that, strictly speaking, are legal but bend the rules of the game. Kaufmann in 2004 examined the level of corruption in a country based on how widespread capture was, creating an index of “legally corrupt” manifestations, in contrast to the CPI created by Transparency International. In 2003, using Kaufmann’s ranking, the United States came 53rd instead of 18th on the basis of Transparency International’s ratings. Kaufmann’s (2009) view that the study of corruption ought to include acts that may be legal but bend the rules is of relevance because in many cases the elite and wealthy can behave legally but unethically, twisting the rules for their own vested interest.