Corruption, Democracy and Economic Growth: Does Conditionality Matter?

• Author: GHULAM SHABBIR

Abstract. This paper gives insight about the role of democracy in two competing hypotheses whether corruption ‘greases the wheels’ or ‘sands the wheels’ of bureaucracy. The study also examined whether conditional cooperation between corruption and democracy matters or not in this regard. The empirical results indicate that democracy plays an essential role in determining the corruption-growth relationship, as the coefficient of interaction term between corruption and democracy is negative and significant. The results support the hypothesis that corruption greases the wheels of administration and thereby promotes growth in countries having poor democratic norm, and second hypothesis holds in case of higher degree of democracy. The results of the study suggest that promotion of democratic norms is very essential to curb the corruption level and to boost the economic performance of the nation.

Because institutional development promotes the check and balance system in the country that enhances economic growth through increase in investment.

Keywords: Democracy, Corruption, Growth, Conditionality, Panel Data

1. INTRODUCTION

   The corruption influences socioeconomic and political factors directly as well as indirectly through institutional framework of the country. It adversely affects the performance of public officials, deforms the public policies and thereby leads to misallocation of resources. It has weakened the process of world development by affecting the execution of law and order, and thereby undermined the justice in various countries. It denied victims from a fair and impartial trial and led to violation of basic human rights. It has not only corroded the communities’ abilities required to tackle the issues of international crime and terrorism, but also hampered the pace of economic development. Therefore, it is the single greatest hindrance to socioeconomic development, and has given priority to anti-corruption initiatives in its strategies for improving the quality of governance (World Bank, 1997).

   The estimates of World Bank (2004) indicate that US$1 trillion is paid in bribes out of total US$30 trillion of world income. African Union estimated the cost of corruption in Africa around US$148 billion annually that is 25% of Africa’s GDP (Elbahnasawy and Revier, 2012).

   The performance of state institutions has significant role in country’s socioeconomic development and thereby prevention of corruption within society. According to Blackburn, Bose, and Haque (2005), “bureaucrats, public officials, politicians and legislators hold unique positions that emerge discretionary power”. Abuse of this power can cause and have long-lasting unpleasant effects on national socioeconomic structure and even in some cases government has to resign from its office. For example, collapse of Rajiv Gandhi’s government in India, Chuan Leekpai’s government in Thailand, Suharto and Abdur Rehman Wahid’s governments in Indonesia, General Sani Abacha’s administration in Nigeria and Pakistan Muslim League (N) and Pakistan People Party Governments in Pakistan.

   Asia is the most corrupt region in the world, where 25 to 40 percent politicians and 15 to 33 percent public servants are corrupt (Jain, 2001). Almost all developing nations are on the lower edge of the corruption scale (as per Transparency International surveys) and paid a high cost of corruption. For example, Pakistan has lost more than Rs.8.5 trillion (US$94 billion) in corruption, tax evasion and bad governance, and corruption level in Pakistan is increased by 400 percent (Transparency International Pakistan, 2012). The corruption scenario in Nigeria is also not different from other developing countries.

   In Nigeria, estimated looted money due to widespread corruption and entrenched inefficiency is about 1.067 trillion naira ($6.8 billion) and list of arrested dignitaries includes former minister of Works and Housing, Hassan Lawal; former speaker of the House of Representatives, Mr. Dimeji Bankole and Deputy Speaker Usman Nafada (Country Reports on Human Rights Practices, 2012). Indonesia has paid US$238.6 million in the form of corruption in 20111. Besides, people and enterprises use about 1% and 5% of their income on illegal payment, respectively.

   Dishonest behaviour of public official in the office is generally infectious and normally supported by the dishonest behaviour of other officials. Therefore, public sector corruption is considered the most harmful, persistent and difficult to fight. But, in spite of all these, social-scientists have evaluated the determinants and consequences of it, as society has to pay huge socioeconomic and ethical costs. The quantitative analysis of corruption has multiple implications. It not only solves the purpose of descriptive analysis, but it is also essential to understand the corruption mechanisms, and for the emergence of successful anti-corruption strategies.

   The corruption debate has focused on, whether it is deleterious or helpful to the economic activity. This implies that whether corruption acts as ‘grease-the-wheals-of-bureaucracy’ or ‘sand-the-wheals-of-bureaucracy’. First stream of debate suggests that bribes raise the level of investment and economic growth, acting as a trouble saving device or speed money. Leys (1970) argued that small side payments to public office bearers could help in reducing the bureaucratic hindrances and thereby encourage economic activity. The empirical research on bureaucratic efficiency has mixed findings. For example, Acemoglu and Verdier (1998) rationalize some forms of corruption in the enforcement of property rights but Ades and Di Tella (1997) empirical results failed to support the hypothesis “corruption greases-the-wheels-of-bureaucracy” in case of petty corruption.

   Mauro (1995) identified another channel through which corruption impacts growth that is the selection of projects carried out by the government. It documented that corruption significantly lowers investment in the economy even when allowance are paid to public officials. Knack and Keefer (1995) findings confirm the role of institutions that protect property rights because these are very essential to investment and hence growth.

   Second stream of debate asserts that corruption can be fatal to economic activity because it not only makes bureaucratic procedures sluggish, expensive, inefficient but also diverts resources to unproductive activities (Mauro, 1998; Myrdal, 1968; Shleifer and Vishny, 1993; Tanzi and Davoodi, 1997). In addition, corruption hampered the pace of economic growth even more in countries having weaker institutions such as democracy, political stability and governance. The corruption also hurts the growth through resource misallocation when decisions about public funds investment and private investment are made by the public office bearers. This misallocation is basically the result of the corrupt official decision-maker criteria ‘potential for bribery’.

   These office holders may compromise on human development through a worsening public health care and education programs (Reinikka and Svensson, 2005), and allocating public funds to certain areas (military spending) that have more capacity to generate illegal money as compared to their counterparts required to improve the living standards of national residents (Gupta, de Mello, and Sharan, 2001). In addition, corruption may escort to expensive concealment and detection of unlawful earnings, resulting in a deadweight loss of resources (Blackburn et al., 2006; Blackburn and Forgues-Puccio, 2010).

   In a nutshell, the basis of both ‘grease the wheels’ and ‘sand the wheel’ hypotheses lies in the interaction between corruption and institutional features. The exiting literature on corruption-growth relationship indicates that the role of institutions was not properly investigated with a very few exceptions, and especially in the context of Developing Eight (D-8) countries. The cultural norms are basically founded on religion and all religion including...