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Thresholds, Growth, Governance and Rent Seeking: Theory and Evidence

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Title: Thresholds, Growth, Governance and Rent Seeking: Theory and Evidence


1
Thresholds, Growth, Governance and Rent Seeking
Theory and Evidence
  • Toke S. Aidt,
  • University of Cambridge
  • Jayasri Dutta,
  • University of Birmingham
  • Vania Sena,
  • Aston University.

2
Background
  • Good governance is important for development
    and economic growth.
  • Corruption (rent seeking) is bad for economic
    growth
  • A big push may be needed.

3
Quality of Political Institutions
-
Growth
Rent seeking
-
4
Purpose
  • Theoretically, we show that
  • Economic growth can reduce rent seeking.
  • Economic growth and rent seeking jointly
    determined by political institutions.
  • Possibility of multiple equilibria.
  • Empirically, we estimate
  • A simple threshold model that allows for
    different growth/corruption regimes.

5
The Model
  • Continuum of individuals t1,2,.
  • Two sectors
  • Formal sector with wages wtat
  • Informal sector with wages ?iwt where ?i is the
  • talent of individual i in the informal sector.
  • Talent is distributed according to F(?i).
  • ct is private consumption and yt is a
  • public good which is only consumed by
  • individuals employed in the formal sector.
  • Preferences

6
  • Entrance fee to the formal sector is ft.
  • Individual i works in the formal sector if
  • Productivity growth is gt.

7
  • Society governed by a ruler (or a politician)
  • The official task of the ruler is to provide
    public
  • goods financed through the entrance fee
  • Total fee income is
  • Rulers seek rents

8
Institutions
  • Mechanism through which citizens provide
  • incentives by threatening to replace rulers
  • that seek rents too greedily.

Replacement
time
t
t1
Performance standard
Policy implementation
9
Quality of Institutions
  • Two types of institutional failures
  • p-failure performing rulers are reappointed
  • with probability p
  • q-failure underperforming rulers are
  • reappointed with probability q
  • Only individuals in the formal sector have
  • political voice (can vote).

10
PROPOSITION 1 Economic growth reduces rent
seeking.
Intuition Incentives to postpone rent
seeking because larger rents become available in
the future.
PROPOSITION 2 The size of the formal sector is
increasing in the growth rate.
Intuition High growth gt better incentives
gt lower entrance fees and more public goods gt
formal sector more attractive.
11
What determines growth?
  • Learning-by-doing externalities with
  • non-diminishing returns in the formal sector
  • (Arrow, 1962 and others).
  • Protection of property rights increases
    incentive
  • to innovate.
  • Rulers and individuals do NOT internalize the
  • impact of their choices on the growth rate.

12
Self-reinforcing growth and rent seeking
  • Equilibrium defined as
  • Self-reinforcing mechanism
  • Higher growth gt less rent seeking gt
  • lower entrance fee gt more individuals in
  • formal sector gt learning-by-doing gt
  • higher growth.

13
g
45 degrees
gmax
C
B
A
g
g
gmax
g
g
14
Main Points
  • Reverse causality growth is bad for rent
    seeking
  • Joint determination growth and rent seeking
    jointly determined.
  • Multiple equilibria a possibility.

15
Empirical Analysis
  • Growth (short-run) and rent seeking (corruption)
    are endogenous.
  • Threshold effects (multiple regimes).
  • Threshold conditional on quality of institutions.

16
Data and Specification
  • Cross section of 68 countries in the late 1990s.
  • g growth rates
  • c corruption perception index (transparency
    international)
  • q quality of institutions (voice and
    accountability from governance matters database).

17
A Three Stage ProcedureCaner and Hansen (2004)
  • Estimate reduced form model (for corruption).
  • Estimate threshold conditional on quality of
    institutions.
  • Estimate regime specific parameters by splitting
    the sample in two via 2SLS.
  • Instruments
  • Legal origin, area and VA.
  • Age of democracy and VA.

18
Results
  • Two regimes
  • Regime 1 High growth, low corruption with good
    institutions
  • Regime 2 Low growth, high corruption with bad
    institutions.
  • Deep Instruments
  • Negative impact of corruption on growth in regime
    1.
  • Little or perhaps positive impact of corruption
    on growth in regime 2.

19
Dependent variable growth rate
Instruments Distance from Equator Area and
VA. J-test for OVER-id pass. F-test for
Relevance pass.
20
Dependent variable growth rate
Instruments Distance from Equator Area and
VA. J-test for OVER-id pass. F-test for
Relevance pass.
21
Dependent variable growth rate
Instruments Legal Origin, Area and VA J-test for
OVER-id pass. F-test for Relevance pass.
22
Dependent variable growth rate
Instruments Legal Origin, Area and VA J-test for
OVER-id pass. F-test for Relevance pass.
23
Results, cont.
  • Constitutional rules instruments
  • Negative impact of corruption on growth in regime
    1.
  • No impact on corruption on growth in regime 2.

24
Conclusions
  • Reverse causality growth is bad for rent
    seeking.
  • Joint determination of growth and rent seeking.
  • Multiple equilibria a possibility.
  • Preliminary empirical results suggesting that
    thresholds exist and that the link between
    (exogenous) rent seeking and growth depends on
    the quality of institutions.

25
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26
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27
Background
  • Theoretical literature rent seeking is bad for
    growth
  • Block productivity enhancing innovations (Krusell
    and Rios-Rull, 1996)
  • Misallocation of talent (Acemoglu Verdier,
    1998)
  • Empirical literature
  • Weak, negative correlation between growth and
    corruption (Mauro, 1995)
  • Political institutions that allow rent seeking
    are negatively related to growth (Knack and
    Keefer, 1995).

28
Political Incentives and Growth
  • Ruler does not seek reappointment
  • Ruler seeks reappointment
  • Incentive compatibility
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