The Economic Organization of Corruption — PART – I

Jun 17, 2010 — Neil Boyle

1.     There are, at least two major forms of corruption in infrastructure projects: institutionalized corruption and organized crime. Institutionalized corruption is described as corruption of the opportunistic kind that generally has a bureaucratic component to it. Opportunities for private gain present themselves in bureaucracy and someone internally takes advantage of it. Institutionalized corruption can be repetitive, episodic or chronic. The organized crime version of corruption is not of the opportunistic variety that occurs within bureaucratic structures. It is of the crime and punishment kind involving a combination of outsiders as well as insiders.

2.     Both are restrained by competitive thick (large number exchange) markets where price signals are sufficient information sources. With thick-market competition, institutionalized corruption tends not to occur during the tendering process.  It occurs, however, after the award of the contract when the large number incentives of competitive tendering change to the small number incentives of project management or autonomous bilateral trading. With thin-market competition, institutionalized corruption does occur during tendering. In other situations, corruption must be taken into specific account, especially for the institutionalized version as organized crime is best handled by other institutions and other means. In quantity terms, most corruption is of the institutionalized episodic variety.  In value terms, most corruption is of the institutionalized chronic variety.

3.     When bounded rationality and uncertainty are combined and when opportunism and small number exchange are combined, corruption should be assumed to exist. To assume otherwise, is folly as the cost of ignoring adverse selection and moral hazard under these four conditions is higher than the cost of being wrong most of the time. Adverse selection would vanish if individuals candidly disclosed their true attributes (“the absence of opportunism”).  Moral hazard would “vanish if expost behavior were costlessly known to all parties (a strong variety of unbounded rationality).” (1996)  

4.     The first response to a hazard is to price it out.  The second response to whatever hazards remain is to tune up the incentive alignment. The third response to remaining hazards is to go beyond the exante incentive and deal with expost incentives, i.e., expost governance.

5.     These two into four conditions describe a major part of the components of the economic organization of corruption but not all of it. A large share of all of the administrative tasks that each party carries out under an infrastructure contract is internally organized according to administrative organization; hence bureaucracy of both parties plays a significant role in their contractual performance; and bureaucracy is the home and the source of much institutionalized corruption.

6.     Discussion and articulation of the four conditions with the decision makers involved in the transaction during each stage of the project cycle will tend to create a contractual relationship that induces a much needed degree of candidness that rarely exists. Candidness means that issues of corruption can be discussed objectively across a negotiating table without compromising the integrity of the government official or the private sector manager which otherwise often leads to more damage than sometimes can be contained.   

7.     Disabled bureaucracy is often mistaken for corruption. For example, unilateral decision making is often mistaken for untrammeled corruption when it is often ignorance that decisions should be taken in accordance with mutual consent.

8.     Much of the above sums-up to combating corruption as analogous to promoting good governance.  I believe this to be true from the perspective of economic organization which is the approach taken here.

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