By Jamil Nasir[*]
(This paper is an attempt aimed at improving our understanding of corruption by critically examining the economic perspectives on corruption. The relationships between corruption and development and corruption and poverty are discussed by highlighting the channels through which corruption negatively impacts development and deepens poverty. After discussing both ‘greasing the wheels hypothesis’ and ‘sanding the wheels hypothesis’, the most commonly used analytical framework i.e.the principal-agent framework is discussed and the point is made that the said analytical framework does not hold in countries like Pakistan where corruption is the rule rather than the exception. In such countries, corruption should be viewed as a collective action problem. Finally, the paper discusses a number of proposals, especially with reference to Pakistan, for controlling corruption. Most of the proposals discussed here are based on insights from economic literature. A multi-pronged strategy is, however, needed for tackling corruption. The paper concludes that leadership at the top matters as economic policy has got its limitations due to the ever-present incentives for corruption and its underlying assumption that all actions of rational human beings are based on self-interest. – Author)
In recent years, the problem of corruption has attracted a lot of attention at the national as well as global level. Corruption is not a new phenomenon. It has always existed. Kautiliya in Arthasastra wrote in fourth century B.C., “Just as it is impossible not to taste the honey (or the poison) that finds itself on the tip of the tongue, so it is impossible for a government servant not to eat up, at least a bit of the King’s revenue.” Disgust with corruption is also as old as the problem itself. For example, Dante, about seven centuries ago, placed the bribers in the deepest part of Hell. According to the teachings of Islam, the briber and bribed are both condemned for Hell. More recently, Pope Francis during his trip to Latin America said, “Corruption is the moth, the gangrene of the people. The corrupt deserve to be tied to the rock and cast into the sea”. Several definitions of corruption have been offered. Cultural differences basically matter as to what constitutes a corrupt act or practice. Professor Jagdish N. Bhagwati writes in one of his articles, “I just returned from India, where I was lecturing to the Indian Parliament in the same hall where US President Barack Obama had recently spoken. The country was racked by scandal. A gigantic, ministerial-level scam in the mobile –telephone sector had siphoned off many billions of dollars to a corrupt politician. But several of the MPs had also been taken aback on discovering that when Obama spoke to them, he read from an ‘invisible’ teleprompter. This had misled his audience into thinking that he was speaking extemporaneously, a skill that is highly regarded in India. Both episodes were seen as a form of corruption.”
What really do we mean by corruption? Several definitions of corruption have been offered. There are differences in the details and degrees of emphasis in the way that various authors perceive the problem of corruption. However, the disagreements are not severe as far as substance is concerned. As per the World Bank, corruption is the misuse of public office for private gain. “Corruption is an act in which the power of public office is used for personal gain in a manner that contravenes the rules of the game.” According to Toke S.Aidt, three conditions are necessary for corruption to take place and arise as implied by its definition. First, the public official should possess some discretionary power. Second, the discretionary power must allow extraction of existing rents and creation of rents that can be extracted. Third, political, economic, and legal institutions are weak which give the official an incentive to exploit his discretionary power.
“Corruption is an outcome — a reflection of a country’s legal, economic, cultural, and political institutions. Corruption can be a response to either beneficial or harmful rules.” How do economists perceive corruption? Economists generally focus on corruption in either of the two ways: (1) identifying structures of incentives that make corruption more likely or (2) assessing the impact of corruption on efficient economic outcomes. And with regard to the impact of corruption on efficient outcomes or development, especially in the less developed countries, economists are as divided as on other issues.
- Corruption and Development
2.1 Greasing the wheel hypothesis
In the 60s and 70s, some development economists advanced very interesting arguments to show that corruption was not necessarily bad for economic growth, especially in the developing countries where laws, procedures and regulations are opaque, lengthy, and cumbersome. So in order to circumvent such tedious regulations, which may not be required at all, corruption works as a lubricant. Corruption saves resources as it helps reduce time spent in queues. It helps attract better staff to civil service in the developing countries despite low salaries in the public sector. These economists argued that it could work as a screening device between an efficient and inefficient firm as an efficient firm is one that is good at getting the job done even if it is accomplished through corruption. Professor Nathaniel H. Leff wrote a provocative paper in the 1960s wherein he referred to corruption as an extra-legal institution used by individuals or groups to gain influence over the actions of the bureaucracy. He presented almost a romantic view on corruption. Leff wrote, “As such, the existence of corruption per se indicates only that these groups participate in the decision-making process to a greater extent than would otherwise be the case. Corruption refers to extra–legal influence on policy formulation and implementation. Since bribes are in the nature of tax levied on economic activity, these payments have not been legitimized by the correct political process, they are appropriated by the bureaucrat rather than the state, and they involve the subversion of the government’s economic policies—hence the stigma that attaches to them. The question for us to decide is whether the net effects caused by such payments and policy redirections are likely to favor or hinder economic development.”
He also argued that corruption reduces uncertainty and increases investment. His argument is that investors face a major ‘political unknown’ i.e. the behavior of the government. Political instability and personalized/irrational decision making adds to the risks faced by the investors. Corruption in a sense provides a safeguard to the investments of the entrepreneurs against such irrationality and personalized decision making. Corruption, according to Leff, works as a hedge against bad policies of the government. “Corruption also performs the valuable function of a hedge and a safeguard against the full losses of bad economic policy. Even when the government of an underdeveloped country is proceeding actively and intelligently to promote growth; there is no assurance that its policies are well-conceived to attain its goals. In fact, it may be taking a vigorous step in the wrong direction. Corruption can reduce the losses from such mistakes, for when the government is implementing one policy, the entrepreneurs, with their sabotage, are implementing another. Like all insurance, this involves a cost.”
Grease the wheel hypothesis is yet not completely dead. Some studies have lent empirical support to this hypothesis as well. Peter Eggar et al, based on data set of 73 developed and developing countries, suggest that corruption is a stimulus to FDI which confirms the position of Leff that corruption can be beneficial in circumventing regulatory and administrative restrictions. However, the argument that corruption helps surmount tedious bureaucratic procedures and thus helps development fell out of favor especially after 1990s, due to mounting empirical research that suggested otherwise. Now there is almost unanimous consensus among academia and researchers that corruption is a hindrance to the growth of a nation. Bribery can, at the most, work as a trouble saving device for an individual in a society where corruption is rampant.
2.2 Sanding the wheel hypothesis
An overwhelming body of literature suggests that corruption creates rather than controls inefficiencies. “ While corruption in a very narrow sense can be seen as a lubricator that may speed things up and help entrepreneurs getting on with wealth creation in specific instances, in a broader sense, corruption must be considered as an obstacle to development. This is so for a number of related reasons. One is the ‘fallacy of efficient corruption’: the cumbersome procedures that corruption is supposed to help overcome may be created and maintained precisely because of their corruption potential. There is fallacy of composition lurking: undisputed, but isolated, instances of efficiency-enhancing corruption at the microeconomic level cannot be taken as evidence that corruption can be efficiency-enhancing at the macroeconomic level.” How does corruption sand the wheels of economic growth and development? Literature has discussed numerous channels through which the negative impact of corruption is transmitted to development. James Wolfenson, ex-President of the World Bank in his address in 1996, known as the ‘cancer of corruption’ address, spelled out how corruption impacts development. He said, “Corruption diverts resources from the poor to the rich, increases the costs of running businesses, distorts public expenditures, and deters foreign investors. It is a major barrier to sound and equitable development.”
Corruption misallocates resources and talent and distorts technology choices. Empirical evidence suggests a negative relationship between corruption and public expenditure on education. The plausible explanation for this negative correlation is that governments find it easier to collect bribes on some expenditure items than others. Education may be an unattractive target for rent-seekers in the government, probably due to the reason that provision of public education generally does not require high-technology inputs to be provided by oligopolistic suppliers. Both economic theory and commonsense suggest that large rents and bribes will be available on goods produced by firms in the markets where the degree of competition is low. Moreover, the illegal nature of corruption and the need for secrecy imply that goods where the exact determination of value is difficult to assess will be the most sought after by corrupt officials and politicians.
Empirics also suggest that corruption is associated with high military spending, both as a share of GDP and total government spending. Sanjeev Gupta et al, based on data of about 120 countries for the period 1985-98, have confirmed association between corruption and high military spending. Both supply and demand side considerations are associated with high military spending. For example, on the supply-side, foreign suppliers may bribe officials of the countries importing arms and military spending. Governments are typically the sole providers of defence services and limited competition among suppliers encourages rent-seeking. In addition, general secrecy surrounds defence outlays and defence projects are relatively capital-intensive.
Corruption also adversely affects the provision of public goods. It is not only public education that suffers but empirics also suggest that corruption reduces spending on goods like medicines and textbooks. The empirical findings suggest that high levels of corruption have got negative consequences for a country’s child and infant mortality rates, percent of low-birth weight babies in total births, and dropout rates in primary schools. Findings further suggest that child mortality rates in countries with high corruption are about one-third higher than countries with low corruption; infant mortality rates and low birth weight babies are almost twice as high and dropout rates in schools are five times higher compared to less corrupt countries. Thus there exists a deep nexus between corruption and composition of public expenditure.
“The rationale behind a corruption-induced distortion of the public budget is that bribe-maximizing politicians and/or bureaucrats prefer to shift resources to areas with the best opportunities to be bribed. More specifically, they have an incentive to increase the share of public expenditure that is spent on high-technology goods produced in oligopolistic markets, which ensures that bribery is difficult to detect as prices are hardly comparable for innovative products and allows politicians and /or bureaucrats to collect more generous bribes since large profits are at stake.”
Nobody can deny the fact that public expenditure is a key instrument of development, especially human resource development, through social spending. Corruption alters public spending distribution among sectors. Corruption also distorts technology choices. One of the motivational factors for importing of capital–intensive technology by developing countries stems from the potential opportunities of corruption attached with such imports/deals. It may be pointed out here that most developing countries have an abundance of labor. Labor-intensive technology, therefore, generally makes the best fit for these countries as it is instrumental in creating more employment opportunities. The health sector presents another glaring example of distortion in technology choices. Big hospital infrastructures and sophisticated medical equipments are generally preferred to rural health clinics specializing in preventive care even in the poorest countries. Corruption appears to distort the structure of public expenditure in favour of defence, fuel and energy, culture, public services and order, at the expense of social sectors such as education, health and social protection.
Corruption distorts not only public spending, but it also misallocates talent in society. People, being rational human beings, join the fields of employment possessing maximum potential for rent seeking. For example, graduates from universities in case of Pakistan may prefer to become revenue officers, police inspectors or customs officials rather than setting up their own businesses or working as agriculturists. Public sector employment in Pakistan is a pertinent example of misallocation of talent. A majority of the graduates appearing in the examination for civil services in Pakistan in the 1990s and early 2000 came from medical and engineering backgrounds, who burnt the mid night oil to become ‘pen pushers’ despite having good qualifications in the fields of medicine and engineering. Although other factors such as security of service tenure, and passion for public service should not be ruled out as motivating factors, yet the fact remains that rent seeking by grabbing power remains one of the core reasons for joining the public sector in Pakistan.
Corruption hampers ability of the state to raise taxes and encourages informal businesses. The reasons are obvious. Due to corruption in the tax machinery and complex procedures/system of tax collection upon which corruption thrives, businesses avoid getting registered for tax purposes. Direct correlation between corruption and the informal sector of the economy is easy to understand. In countries where corruption levels are high, the informal sectors of the economy are also huge. Again, Pakistan is a pertinent example. According to various estimates, the informal sector of the economy constitutes 50-60% of our total GDP.
Further, corruption impacts decisions to start businesses because you need information on bribes to start and run the business in a corruption-ridden setup. Thus potential entrants to business face uncertainty as to what bribes to pay and when to pay. In this way, corruption acts as a barrier to entry of new firms into business. Additionally, it acts as a heavy drain on existing businesses as well. What happens is that whenever there is an upward increase in tax revenue targets, it is the existing tax paying businesses upon which the hammer falls as governments are unable to tax the businesses operating in the informal sector. It eventually harms economic growth. Moreover, impact of corruption is differential and discriminatory. It falls heavily on small businesses and disadvantaged sections of society. Corruption deepens the chasm between the poor and the rich, big businesses and small enterprises, the powerful and the powerless. Empirics suggest that corruption changes income distribution to the disadvantage of the poor in poor countries.
Some points raised by Professor Leff merit mention here. Professor Leff’s argument that corruption reduces uncertainty is perhaps not a solid argument. Corruption rather creates uncertainty. “Sometimes the bribe cannot deliver not because he wants to cheat, but because there is multiple veto power system in operation, which makes centralized collection of bribes in exchange of guaranteed favours very difficult. One high official in New Delhi is reported to have told a friend: ‘If you want me to move a file faster, I am not sure if I can help you, but if you want me to stop a file, I can do it immediately’. This ability to stop file at multiple points may result in increasing the inefficiency as well as the rates of bribes.” Thus in bureaucratic organizations bribery does not necessarily speed up the pace of the file as there are multiple veto powers due to the hierarchical order of bureaucracy. Sometimes it is argued that the countries called the Asian Tigers witnessed remarkable economic growth and development despite prevalence of corruption. The answer is what we call ‘centralization of bribery.’ In case bribery is centralized, it gives some level of certainty and its impact will be like that of lump-sum taxes. “It has been suggested, for example, that corruption in countries like South Korea may have been more in the form of lump-sum contributions by the major business leaders to the President’s campaign slush fund, without taxing economic activity at the margin.”
Corruption or bribery as it exists in developing countries like Pakistan cannot be thought of as a parallel to a tax or fee. Besides the point that bribes do not bring money to the government coffers as taxes do, bribes differ from taxes in other ways. “Bribes involve higher transaction costs than taxes because of the uncertainty and secrecy that necessarily accompany bribe payments. Corrupt contracts are not enforceable in courts. An official may renege on an arrangement with the bribe-payer or demand another bribe for the same service.” Thus the argument of Professor Leff that the impact of corruption is like that of a tax also does not hold.
- Corruption-Poverty Nexus
Professor Ricardo Hausmann recently wrote an article wherein he wrote that fighting corruption may not end poverty and that too much emphasis on corruption is a diversion from the real issues. He wrote “Consider the data. Probably the best measure of corruption is the World Bank’s control of corruption indicator, which has been published since 1996, over 180 countries. The CCI shows that while rich countries tend to be less corrupt than poor ones. Countries that are relatively less corrupt, for their level of development, such as Ghana, Costa Rica, or Denmark, do not grow any faster than others. Nor do countries that improve in their CCI score such as Zambia, Macedonia, Uruguay, or New Zealand, grow faster. By contrast, the World Bank’s ‘government effectiveness’ indicator suggests that countries that, given the income level, have relatively effective governments or improve their performance, do tend to grow faster.”
Professor Hausmann may be right as the effectiveness of a government is necessary to improve governance but it may also not be a mere matter of coincidence that the countries who sit at the top in terms of the corruption perception index (CPI) of Transparency International are the ones that are also badly mired in poverty. Exceptions are there but few and far between. Generally, a clear and consistent pattern is discernable between corruption and poverty. Corruption and poverty rise and fall together. The continent of Africa is a pertinent example. The African continent is considered the biggest growth disaster of the twentieth century. A number of African countries are characterized by high levels of corruption arising from rent-seeking activities like exploration of natural wealth (diamonds, oil etc). On the other hand, countries of Western Europe (especially Scandinavian countries) are the least corrupt as per CPI scores. The levels of poverty are low as well. Pakistan is also an obvious manifestation of corruption-poverty nexus where both poverty and corruption are persistently on the rise.
How does corruption aggravate poverty? There are number of channels of transmission. First of all, corruption negatively impacts economic growth. Dampening of growth means that the cake will not be sufficient to feed the increasing number of mouths. China is cited as an outstanding example of a decrease in poverty in the last few decades. Empirical literature on China shows that poverty reduction was mainly possible due to sustained growth rates.
Corruption also impacts economic growth by deepening income inequalities. It is an empirically well-established fact that the impact of corruption is not uniform on the individuals as well as businesses. The negative impact is disproportionately severe on the poor and marginalized sections of the society. Ultimately it is the poor who bear the brunt of corruption, irrespective of the magnitude of corruption – whether it is committed by a low-grade public functionary or a big business tycoon.
Corruption also breeds poverty through perpetuating distortions in the tax systems. For example, in Pakistan tax evasion is rampant due to corruption. Tax administration is poor and consciously or unconsciously favors the rich and the well-connected. Exemptions are high and tax base is low, that, in turn, results in low revenue and more income inequality. Low revenue means that the state will not have sufficient money to invest for the development of its people, and increasing income inequalities have negative implications for economic growth.
Corruption also affects targeting of social programs. If corruption is pervasive, leakages in such programs will be high. Moreover, corruption enhances operating costs of the government and reduces resources available for social spending. Budget for health and education sectors get squeezed. It is an open secret now that the major chunk of the funds allocated for development of infrastructure like roads, schools and hospital buildings is eaten into by corruption as commissions and kickbacks by engineers, contractors and construction companies. Resultantly, quality of the infrastructure is low and deterioration creeps within no time of their completion. Added to this, repair and maintenance is accorded low priority in the budget allocation compared with allocations for new projects which have vast potential for corruption.
- Sources of Corruption
What explains the pervasiveness of corruption in a society? Most of us in Pakistan think that deep-rooted corruption is due to some sort of moral decay in society. This thinking essentially implies that social norms and the value system determine the level of corruption in a society. The role of values and norms, as explanatory factors of corruption, in a society cannot be altogether ruled out. For example, in some cultures loyalties to clans, families and kinship networks often take precedence over public duties.
A pertinent example highlighting the importance of social norms and value system in shaping the developmental outcomes is that of Italy. In Southern Italy, the level of trust among people is low, enforcement of the rule of law is weak, social capital (networks, norms of reciprocity and trust) is weak, meritocracy is lacking and the level of corruption is high. Professor Edward Banefield in his book ‘The moral basis of a backward society’ while writing about a village in Southern Italy says: “In a society of amoral familists, the law will be disregarded when there is no reason to fear punishment. Therefore individuals will not enter into agreements which depend upon legal processes for their enforcement unless it is likely that the law will be enforced and unless the cost of securing enforcement will not be so great as to make the undertaking unprofitable.” He further writes, “In a society of amoral familists, there will be few checks on officials, for checking on officials will be the business of other officials only.” On the other hand, Northern Italy is much better in terms of variables like adherence to the rule of law and meritocracy. Social capital is comparatively strong and corruption is low in this part of Italy.
The relationship between norms and corruption can also be approached from another perspective. The cultural approach to corruption emphasizes that corruption stems from cultural norms and corruption levels will be high in societies where people are more attached to their clans and extended families. “Aspects of a society’s culture may also affect the propensity for and toleration of the people for corrupt conduct. The cultural differences impact how particular societies view competition, material wealth, equity and fairness, and attitude towards change, among others. Reforms are difficult to introduce in societies where there is strong belief that traditions will continue to endure.” In this perspective, we can rightly hypothesize that clannish culture is one of the major sources of corruption in case of Pakistan. For example, our model of bureaucracy is Max Weberian which is based on the principles of meritocracy, hierarchy, formal rules /regulations and legal-rational authority. In this model bureaucratic decisions are to be made strictly in accordance with laid down rules and procedures but in a traditional society like ours, decisions are always susceptible to extraneous influence of informal networks of extended family, clan, or tribe.
Due to such extraneous influences, rule of law is the first casualty. Informal connections and networks thus become hindrances in strict adherence to the principle of rule of law. Mr. Francis Fukuyama describes partimonialism i.e. human propensity to favor family and friends, as the main stumbling block to the principle of supremacy of law and effective accountability of the government. Bureaucratic norms demand that a public office holder should be impersonal but cultural norms believe in personalized relationships, hence a dichotomy exists between the model of bureaucracy adopted by us and the way we apply this model in real life situations. A public office holder, as a rational human, can make prismatic decisions as adherence to the principles of Max Weberian bureaucracy may not help him in real life. So he bends the rules and procedures to favor informal relationships and so-called connections which in turn help him in his placement at the slots with maximum potential of rent-seeking.
Culture is one of the sources of corruption but it is not the only source. Literature on corruption emphasizes the colonial experience as another source of corruption. For example, Professor Acemoglu et al have hypothesized that extractive institutions were set up in countries where the colonizers did not settle in large numbers due to an inhospitable environment. The institutions planted by the colonizers were inherited by newborn nations on their independence. The argument suggests that corruption is more widespread in such countries compared with the countries where the colonizers settled in large numbers and established rule of law.
Literature has also explored the relationship between corruption and colonial experience from another angle. This line of argument stresses the identity of the colonizer and in particular the legal system transplanted from the colonizer to the colonies. According to this line of argument, French and Socialist legal origins are more prone to corruption as compared to English tradition of law as they regulate more and over-regulation leads to corruption. It also merits mention here that besides the distinction of common law versus civil law, legal culture matters a lot. “Legal systems differ not just in the formulations and original intents of law but also in the prevailing expectations and practices that govern how they are enforced—what might be termed legal culture. In Britain and some of its former colonies, scholars have noted an almost obsessive focus on the procedural aspects of law. Procedures, to them, are not merely procedures, but sacred rituals.”
Religious traditions have also been presented as a plausible explanation for corruption or lack of it. It is argued that religion conditions cultural attitudes towards social hierarchy. “ Where more hierarchical religions—Catholicism, Eastern Orthodoxy, Islam— dominate, challenges to the office-holders might be rarer than in cultures shaped by more egalitarian or individualistic religions, such as Protestantism. Religions may also influence how individuals view their loyalties to family as opposed to other citizens. A second pathway by which religion could affect corruption levels is via the historical pattern of influence that developed in different settings between church and state. In religious traditions such as Protestantism, which arose in some versions as dissenting sects opposed to the state-sponsored religion, institutions of the church may play a role in monitoring and denouncing abuses by state officials. In other traditions –such as Islam—where church and state authorities are closely intertwined, such role may be absent.”
But the ‘norms-determine-all’ thesis does not convey the whole picture. Had norms been the main determinant of the level of corruption in a country, then how did Singapore manage to largely eradicate corruption in a decade or so and how did England abolish ‘old corruption’ of sinecures, sale and purchase of public offices and bribes. Certainly, it was made possible through wide-ranging political, economic and civil service reforms. “Eighteenth century Britain displayed patterns of corruption similar to those of developing countries today. Reforms enacted in the late 18th and early 19th centuries eliminated most of the patterns. Before the 19th century, public office in Britain was for many officials a source of private profit first and foremost, even if the letter of law indicated otherwise, and in spite of the fact that this was often condemned.” Norms do not change that fast but incentives and policies can. That is why economists emphasize the need for appropriate incentives and organizations for controlling corruption.
Monopoly and discretionary powers are also some potent sources of corruption. Public functionaries are given some powers of discretion to interpret and implement. A driving license can be issued only by a traffic police office. First information report of a crime can be registered only in your local police station and a case can be arbitrated only by a judge having relevant jurisdiction. So lack of competition and undue monopoly power breed corruption and generate opportunities for rent-seeking. Professor Pranab Bardhan is perhaps right when he says that: “In fact in India when the bureaucrats are given the discretion to judge the ‘case by case’, it ends up as ‘suitcase by suitcase’. Sometimes some people think that corruption is a way of bypassing mindless regulations.” Opportunities for economic rent, huge discretionary powers and weak accountability are other potent sources of corruption in a society. In an overregulated economy, the public office holders responsible for granting licenses and quotas etc. have discretionary powers in their hands. By virtue of discretionary powers, such an economy has huge potential for rent seeking. Resultantly such a system gives rise to what Professor Jagdish Bhagwati has referred to “My- brother-in-law- phenomenon” where permits, quotas and licenses are doled out to relatives and friends on the considerations other than merit. “The fact that in some cases the regulations are nontransparent or are not publicly available and that an authorization can be obtained only from a specific office or individual—-that is, there is no competition in the granting of these authorizations—gives the bureaucrats a great amount of power and a good opportunity to extract bribes.”
Economic/structural policies and role of institutions are also emphasized in literature as determinants of corruption. “The institutional theories can be decomposed into two broad groups. The first set of theories argues that institutional quality (and thus corruption) is shaped by economic factors. In short, institutions develop in response to a country’s income level and differential needs. A related view—the human capital theory— argues that growth in human capital cause institutional development. For example, education and human capital is needed for courts and other formal institutions to operate efficiently, and government abuses are more likely to go unnoticed and unchallenged when the electorate is not literate. These theories suggest looking at per capita income and education as causes of corruption.” Complexity of taxation laws and procedures, spending decisions without rigorous cost-benefit analysis, provision of goods and services at below-market prices, poor quality of bureaucracy, low level of public sector wages, weak accountability and penalty systems, non-transparent rules, regulations, and procedures are some of the factors contributing towards corruption in a country.
- Corruption – an agency problem or collective action problem
5.1 Corruption as an agency problem
Economists generally view corruption as an ‘agency problem’. What is the agency problem? In the corporate world, shareholders are the real owners of a corporation but they are scattered and it is difficult to make them part of each and every decision of the corporation. So the shareholders (principals) appoint a CEO (an agent) to run the day- to- day affairs of the corporation against certain pre-defined remuneration and perks. The shareholders are interested in profit maximization whereas a self-interested CEO runs the corporation to maximize his benefit rather than the wealth of the shareholders, hence the principal-agent conflict. In order to mitigate the agency problem, strict disclosure of the accounts, transparency, and audits by independent agencies, etc. are emphasized. Further, in a bid to align the interests of the agent with those of the principals, mechanisms like profit sharing, efficiency wages, and fear of firing, etc. are also adopted.
Likewise, people elect a government that works through civil servants. In a mature democracy the government wants to allocate publicly provided goods to maximize social welfare but those responsible for distribution of such goods want to maximize their own benefit, hence there is a conflict of goals. But in the case of the public sector, the situation is tricky compared to private corporations or firms. If the culture of corruption is deep-rooted or social behaviours do not castigate the corrupt, then public representatives, who may not be clean, may get elected as representatives of the principals (people of Pakistan). Further, as people are soft on corruption in such a culture and democracy is generally fragile (people do not wield real power), therefore, the members of the elected government may not have any incentive for being clean. In this context, they appoint/post civil servants who are instrumental in furthering their personal goals instead of advancing the welfare of the principals. As the citizens of the country do not enjoy real power due to the fragile nature of democracy, elected representatives and civil servants i.e. agents are least interested in improving governance and controlling corruption in such an environment.
According to Anna Persson et al, the principal-agent theory is based on two key assumptions. First, a goal conflict exists between the so-called principals, who are assumed to safeguard public interest, and the agents (who are assumed to have preference in favour of corrupt transactions). Second, agents have more information than the principals, which results in information asymmetry between them. They argue that regardless of how the principal-agent relationship is modeled, the underlying assumption is that the problem of corruption lies exclusively with the agent. “The principal-agent thus always rests on assumption that principal will take on the role of controlling corruption. By implication, if the supposed principal is also corrupt and does not act in the interest of the public good, the principal-agent framework becomes useless as an analytical tool since there will simply be no actors willing to monitor and punish corrupt behavior.”
5.2 Corruption as a collective action problem
In countries like Pakistan where corruption is endemic, the principal-agent framework does not hold as both principals as well agents seem to be mired in corruption. The collective action theories thus challenge the underlying assumption of the principal-agent framework that all societies hold at least one group of people who are willing to work as principals and ready to enforce monitoring and punishment regimes to control corruption. Despite being convinced that all the actors will gain from control of corruption the trust that most other actors will refrain from corrupt practices may not be there. So, they have no reason to refrain from paying or demanding bribes. Jawaharlal Nehru is reported to have said, “Merely shouting from the house tops that everybody is corrupt creates an atmosphere of corruption. People feel that they are in a climate of corruption and they get corrupted themselves.” Perhaps his words are apt in the case of entire South Asia. Everyone is complaining about corruption but the gap between rhetoric and reality is increasing with each passing day. A report of Transparency International on South Asian region mentions, “Hardly a speech is delivered in South Asia without mention of the need to fight corruption in the region. Yet despite the lofty promises, corruption is on the rise.”
In such an environment, the collective action theory guides us that a big push is required to reduce corruption in society. “Empirical findings based on the experiences of successful transitions from thoroughly corrupt to significantly less corrupt systems of rule in Sweden, Denmark, the United Nations—and more recently, Hong Kong and Singapore—support the argument that a big push involving all major political, economic, and social institutions is indeed necessary. In these countries, wherever individuals looked after the massive reforms had taken place, they realized that there was what Juan J.Linz and Alfred Stephen would call a new game in the town. This ‘game in town’ was characterized by the combination of both formal and informal mechanisms of control in the form of, on the one hand, formal monitoring and sanctioning mechanisms and , on the other, reciprocity and trust. Thus, the new rules of the game reached far beyond the existence of formal monitoring and sanctioning mechanisms to include also shared expectations holding that most other people could in fact be trusted to be honest. In particular, countries that have successfully transferred from corrupt to less corrupt systems of rule seem to share the characteristic that actors at the very top of the system –that is, high-level public officials—have served as role models. In both Hong Kong and Singapore, corruption was successfully fought from ‘above’, implying that the members of the ruling elite themselves set an example by changing their behaviour beyond the rhetorical level.”
- Controlling Corruption- How to get out of the rut?
It is easy to condemn corruption but to control it is the difficult part. The moralists who believe that norms and value systems are the real determinants of corruption ask for ethic enhancement in society. They are of the view that without fundamental changes in the values and norms of honesty in public life, no big dent can be achieved as far as control of corruption is concerned. Then there are cynics who believe that we have reached a point of no return and that corruption is so pervasive and well entrenched in the country that nothing much can be done to control it. But economists are not so disillusioned and believe that corruption can be controlled by changing incentive systems and bringing in structural and economic changes. Robust evidence exists to show that corruption responds to the standard economic incentive theory. A number of proposals have been discussed in literature on the subject to control corruption. The summary is as follows:
6.1 Strengthen right to information
Openness, access to information and transparency promote meritocracy and rule of law, which are sine qua non for development and control of corruption while a culture of secrecy negates the very concept of development. Access to information can play a vital role in reducing the endemic graft via improving accountability mechanisms. For example, in Uganda, on average, only 30% of expenditure per pupil actually reached schools between 1991 and 1995 due to corrupt local government officials. Publicizing the information on amount and timing of disbursement of funds proved to be a powerful tool and leakages were considerably reduced.
Lack of access to information has serious implications for economic development of the country. The tug of war between the proponents of the right to know and those who want to maintain the culture of secrecy actually reflects a struggle over existing political and economic privileges. The opponents of the right to information want to cling to the political and economic structures that are elitist in nature. They are the advocates of the status quo as they are the beneficiary of the current system that provides plenty of opportunities for rent-seeking. The proponents of the right to information, on the other hand, are actually advocating a system based on meritocracy, rule of law and accountability. Easy access to information means more accountability, less corruption and strong democracy. Broadly speaking, access to information and transparency are important from three angles.
First, the right to information is fundamental to the functioning of democracy. The essence of democracy is ‘informed consent’ which essentially requires information about government policies and practices and, in addition, how public representatives and office holders allocate tax money and spend it. Information about the working of public institutions and departments is a must for ensuring good governance. How does an institution work and deliver public services? How does it recruit its employees i.e. through an open merit-based process or on the basis of nepotism and political connections? How does it handle the grievances of its clients? How much budget is allocated for an institution and how is it spent? Whether the budget allocated is mainly spent on the salaries of its employees or value is added to public money? These are the minimum questions that each public institution should be bound to answer for the sake of good governance. It will, however, not be possible if the organizations are characterized by a culture of secrecy. Secondly, access to information is also important from the human rights perspective approach. The proponents of this perspective argue, and rightly so, that realization of all the fundamental rights is contingent upon the right to information. They further argue that the right to information is also important for achieving social and economic justice in Pakistan.
Thirdly, access to information and transparency is important to overcome what the economists call agency problem. The real owners i.e. principals of the country are its people and the public representatives and bureaucrats are the agents who perform their functions on behalf of the principals. But conflict may arise between the interests of the principals and the agents. In order to ensure that the agents perform their duties in accordance with the mandate given to them by the people, it is required that they have full access to the decisions and actions taken by their agents.
Secrecy and withholding of information provide opportunities of rent seeking for information-holders. For example, a government may plan to construct a road or a port in an area and only insiders know about this project. If the insiders pass on such information to their friends, relatives or political colleagues it generates rents both for the holders of information and the outsiders to whom information has been leaked. This can be done by, for instance, purchasing adjoining land. Millions can be earned within no time through appreciation in the prices of land once the project is undertaken. Thus transparency and access to information helps overcome “asymmetries of information,” a concept mainly developed by Professor Joseph Stiglitz of Columbia University.
What are the stumbling blocks to the access to information in Pakistan? There are a host of factors that can be held responsible for non-realization of people’s right to information access. Pervasive corruption, tolerance of a corrupt culture, low trust in society, weak voice and powerlessness of the people, culture of nepotism, infant democracy, weak accountability, lack of rule of law, culture of ‘yes sir’ in public offices, and above all lack of comprehensive legislation on the right to information. After the 18th Amendment and insertion of Article 19-A in the constitution, right to information is now an undeniable fundamental right.
The provisions of the Freedom of information Ordinance 2002 also need to be revisited, especially with reference to implementation issues. Institutions also need to be made capable of storing information and processing access requests promptly. A constant vigilance on the part of the media, civil society and other watchdog groups to ensure that the commitments related to the access to information are followed, once access to information legislation is in place, is also required. Legal institutions also need to be sensitized to uphold access to information law.
6.2 Introduce effective whistle blowing legislation
Whistle blowing is emerging as an effective tool to fight against corruption. Countries around the globe are developing legal regimes that encourage good faith whistle blowing against corruption and protect whistleblowers from retribution. Article 33 of the UN Convention against Corruption mandates that “each party shall consider incorporating into its domestic legal system appropriate measures to provide protection against unjustified treatment for any persons, who report in good faith and on reasonable grounds to the competent authorities any facts concerning offences established in accordance with this Convention.”
The first persons who notice the acts of corruption, mismanagement or patronage are generally those who either work inside the organization or are directly associated with such an organization. Employees of an organization are better placed to raise their concerns against corruption but, at the same time, they have a lot to lose by disclosing such acts if they do not have legal protection. The fear of retribution becomes a big hurdle in their disclosure. If the law gives whistleblowers confidence and security, corruption can be confronted from inside organizations as well. Unfortunately, the inside and proactive approach has not properly been experimented in our country. Lack of an inside component in the anti-corruption strategy, in a sense, denies organizations opportunities to deal with the problem of corruption before it causes real damage.
6.3 Adopt a holistic anti-corruption strategy
Evidence suggests that conventional anti-corruption strategies have been adopted so far. Actually, our approach towards the problem of corruption has been reactive i.e. anti-corruption strategy comes into action after an act of corruption has been committed. The entire strategy is enforcement-focused. Prevention of corruption does not figure in the anti-corruption strategy. Internal controls for tackling corruption are either totally lacking in organizations or they are practically ineffective.
Conventionally, our anti-corruption strategy is based on three pillars. The first pillar is that of parliamentary oversight. The oversight through parliamentary committees is considered the top most check against corruption and wrongdoings of the executive in democratic countries. Various ministries and departments are answerable before Parliamentary committees. Unfortunately, our track record of democracy is not that bright and parliamentary oversight is still to mature as an effective check against corruption by developing the norms of self-accountability. For example, the Public Accounts committee (PAC) is one such parliamentary body that can exercise an effective check on corruption. PAC, however, has no enforcement or implementation powers. Its directives are merely recommendations and may not be implemented by the executive in their letter and spirit.
Audits by the auditor general office and checks against maladministration of public functionaries by the institution of ombudsman are the second pillar of the anti-corruption strategy. The audit staff of the auditor general office conducts audit of the ministries and other public sector departments every year. The efficacy of the audit by the auditor general office has however been questioned on several grounds. Audit is generally transaction- based and coverage is low. Focus is on minor issues and vital concerns like corruption are missed out. Allegations of collusion between the auditor and the auditee are common. Audit observations may not stand the test of judicial scrutiny. General perception prevails that a tiny percentage of money dribbled away through corruption is recovered through the process of audit.
Specialized agencies like FIA, NAB or provincial anti-corruption agencies constitute the third pillar of the anti-corruption strategy. These anti-corruption watchdogs have generally lacked credibility in the eyes of the public. The accusations of political victimization have been hurled at them time and again. They are perceived no less corrupt than the institutions they are supposed to oversee. Further, efficacy of these institutions is hampered due to multiple mandates, lack of resources, political interference, poor capacity to investigate and prosecute especially white-collar crimes, and lack of autonomy. The three pillars of anti-corruption strategy however have one thing common i.e. they are all reactive in nature as the anti-corruption strategy comes into play after corruption has been committed.
The anti-corruption strategy needs to be multi-pronged which should essentially embody elements like improving economic governance, deregulation, simplification of procedures, e-governance, civil service reforms, a strengthened auditor general office with major focus on systems/performance audit and tackling corruption, a strong, autonomous, professionally competent and politically non-partisan accountability agency to investigate and prosecute corruption, and a public information campaign against corruption.
6.4 Take care of the supply-side of corruption as well
Corruption is perceived to be associated only with the public sector as we generally focus on the recipients and not the givers of bribes. Whenever our discussion turns to corruption, a flurry of images of public sector functionaries, who abuse their offices for private gains, conjures in our minds. On the other hand, the caricature of a bribe-giver that enters into our imagination is that of an innocent individual who indulges in the act of bribery, perforce, to get his job done (that may not always be the case). Such a perception emanates from the fact that almost all discourse on corruption including anti-corruption strategies and legislation has mainly focused on the demand side of the corruption phenomenon.
The supply side of the corruption equation is not given due importance in our narrative on corruption. Corruption is an economic phenomenon and needs to be confronted as such. A well-integrated anti-corruption strategy should incorporate tools and measures that are essential to contain corruption from the demand (i.e. public sector) as well as the supply side (i.e. private sector) as both the recipient and the giver of bribes are beneficiaries in the deals that eventually defraud the public.
A majority of the countries, including Pakistan, have placed their reliance on the demand-side approach of tackling corruption. The demand-side anti-corruption measures that have generally been adopted as anti-corruption strategies include establishing anti-corruption agencies, reduction of discretionary powers of public sector officials, audit of public expenditures, simplification of laws and procedures and even outright privatization of public sector service delivery departments.
Still, procedures and laws are cumbersome, anti-corruption watchdogs lack credibility, discretionary powers are enormous, and accountability mechanisms are weak. But the point is that in view of the enormity of the problem, private sector should not be left out of any anti-corruption strategy. Rather, the private sector needs to be fully engaged in the drive against corruption. Bribing public officials for winning contracts, lobbying for tax exemption or favorable tax treatment for a particular sector of the economy, or bribing for bending the rules / procedures, create distortions in the economy and reduce its overall efficiency. If a competitor pays bribes, other businesses operating in the same sector may find it difficult to continue doing their business honestly. Corruption/bribery may be used as a business strategy by shoddy businesses to the detriment of clean businesses. Corrupt businesses are always bent upon perpetuating corruption to get a competitive advantage over their competitors as they can earn enormous fortunes by investing in bribery.
The UK Bribery Act 2011 may provide some meaningful insights in our case for tackling corruption from the supply side. For the first time, the companies may face prosecution if they fail to prevent its staff or agents, based anywhere in the world, from offering bribes. Giving bribes is thus a corporate offence according to this new legislation. Even commonplace payments (called speed money in our country) made by companies or their agents to foreign officials as lubricants to speed up business decisions is a cognizable offence and persons involved are liable to prosecution. According to Section 7 of the Act, all those persons who could be connected to an organization and are capable of committing bribery on behalf of the organization, can be held accountable under the law.
Bribery of foreign public officials is a distinct crime under the Act. Further, the commercial organization can be collectively held responsible for not putting in place anti-bribery procedures and mechanisms. A commercial organization can be guilty of offence if the bribery is committed by any of its employees, an agent, a subsidiary, or a third party connected to the organization. Thus, everybody connected to the act of bribery is responsible for the act of bribery and may attract prosecution if found guilty.
The UK Bribery Act has certain important lessons to offer. First of all, we need to examine all the legislation relating to corruption with a view that overlapping and outmoded laws are weeded out. All the archaic laws and regulations that have become dysfunctional and promote corruption need to be scraped. There should be only one comprehensive anti-bribery law as the UK has done by promulgating the Bribery Act. It will go a long way in sharpening our focus on the corruption issue. Second, corporate organizations should be required by law to put in place a comprehensive and consistent anti-bribery policy. Third, anti-bribery legislation should also cover the middlemen and agents who are instrumental in perpetuating corruption. Fourth, serious bribery and corruption cases should essentially be dealt through criminal process rather than through civil process or plea-bargaining.
Improving corporate governance through better standards of accountability and transparency, encouraging the engagement of civil society, encouraging a coalition of honest businesses against corruption, facilitating adoption of voluntary standards/practices of clean business by the firms, and above all revisiting anti-corruption legislation and strategies to include supply-side measures to tackling corruption, may be some of the important ingredients of a supply- side anti-corruption strategy.
6.5 Concentrate more on e-governance
The role of IT cannot be downplayed in facilitating access to information. It is argued that technology will sooner or later give rise to a completely transparent society. Undoubtedly, IT plays a very vital role as far as transparency and access to information is concerned. But the technology per se will not ensure transparency unless the people in general and the government in particular show strong resolve and commitment in this regard. In the last decade, we have been touting a lot about the role of IT in good governance and efficient public service delivery but unfortunately our achievement on this account is bad.
Conduct a simple test. Visit the official websites of various public sector departments/institutions and you will be astonished to find that most of these institutions have not developed their websites at all. Those, which have developed them, do not provide information even of a rudimentary nature about the institution. Some of the institutions have not updated the websites since years. Further, the information such websites contain is generally of no value as you only find the name /photo of the head of the institutions and senior officials working in the organization.
6.6 Deregulate, reduce monopoly and introduce competition
If the provision of service is over-regulated, then people will try to jump the queue and in doing so they will not hesitate in bribing the official or agent who facilitates them. Professor Gary S. Becker wrote in one of his articles, “The only way to reduce corruption permanently is to drastically cut back government’s role in economy. High priority should go to eliminating the thousand s of petty, nuisance regulations and laws on the books in most countries which do more harm than good, and that also encourage bribery and other efforts to unfairly influence government officials—corruption of public officials is an inevitable by-product of big government,”
But Becker’s argument does not stand the validity test when applied to the least corrupt countries of the world like Canada, Netherlands, Finland, and Sweden – the countries who have some of the largest public sectors. However, the economic insight that reducing monopoly and inducing competition reduce corruption cannot be brushed aside altogether.
6.7 Change the composition of public spending
As mentioned earlier, corruption is generally associated with gigantic projects and military spending. So, the policy implication is that policies aimed at reducing corruption will tend to change the composition of public spending towards more productive and non-military outlays. For example, in our case more public funds need to go to public education, healthcare with focus on rural health centers, roads in rural areas linking farms to markets etc instead of building big bridges and roads.
6.8 Improve public sector wages and quality of bureaucracy
Macaulay in his account of Robert Clive’s attempts to reduce corruption in British East India Company writes, “Clive saw clearly that it was absurd to give men power, and to require them to live in penury. He justly concluded that no reform could be effectual which should not be coupled with a plan for liberally remunerating the civil servants of the company.” In imperial China, the district magistrates, under the Ch’ing Dynasty, were paid an extra allowance called Yang-lien Yin i.e. money to nourish honesty. The evidence that increased wages of the civil servants reduce corruption is mixed. Professors Becker and Stigler have shown that by paying a wage above the official’s opportunity wages, it may be ensured that the public official will not indulge in corruption under certain conditions.
“To date, little evidence exists that devoting additional resources to the existing legal and financial government monitoring institutions will reduce corruption. Hong Kong and Singapore are the most cited exceptions. In both countries, the reduction in corruption went hand in hand with the establishment and strengthening of an independent anti-corruption agency with widespread powers. In Singapore, civil servants’ pay relative to private sector increased substantially; public officials were routinely rotated to make it harder for corrupt official to develop strong ties to certain clients; rewards were given to those who refused bribes and turned in the client; and importantly, rules and procedures were simplified and often published, permits and approvals were scrapped, and fees (including import duties )were lowered or removed.”
The point here is that merely increase in the salary of civil servants is not sufficient. Increase in wages matter but certain other conditions also need to be fulfilled. Capacity and autonomy are two important measures of the quality of bureaucracy. “Increases in civil service salaries are not a sufficient policy response; structural reforms are also needed. Countries with more independent and professional civil servants tend to have higher quality bureaucracies and less corruption—a well-functioning and competent judicial system is a necessary condition for establishing the rule of law. Organized crime levels are lower in countries with independent judiciaries.”
6.9 Demonetize all existing currency
Meghand Desai, an economist by profession, says that removal of black money in the domestic economy can be an important step towards tackling corruption. His proposal is all existing currency should be demonetized and it should be replaced with newly printed currency having no similarity to the old currency. All bank deposits get automatically converted while, for currency outside the banking system zero-coupon bonds should be issued by the government. Such bonds should be marketable after a certain time interval and their price will thus reflect the discount and would be a type of tax on black money determined by market forces.
6.10 Treat harassment bribes as legal
Mr. Kaushik Basu, who has worked as Chief Economic Advisor of India gave a simple but novel proposal to contain corruption. Mr. Basu has divided bribes into two basic types i.e. harassment bribes and non-harassment bribes. Harassment bribes are those bribes that people pay to get what they are legally entitled to get. What Basu suggests is that in such cases the act of giving the bribe be declared a legitimate legal activity. For example, according to Mr. Basu, a person entitled to a refund from the income tax authorities, if compelled to pay bribery to get the refund cheque issued, is victim of harassment bribery. The giver of harassment bribe is not happy over the payment of bribe money for obtaining his genuine rights but he remains silent as the law of the land treats him guilty as well.
The argument runs that if the law is amended to the effect that the bribe giver is not considered guilty of crime and all punishment of the act of bribery is heaped on the bribe taker, the bribe giver will have incentive to disclose the act of bribery. The change in law on these lines will deter the bribe takers from indulging in bribe and incidence of bribery will be reduced. However, the downside of the proposal is that false charges of bribery may be leveled against the public servants to blackmail them. But Mr. Basu suggests that this loophole can be plugged by increasing the punishment for blackmail and false accusations.
- Concluding Remarks
Tackling corruption when it is a rule rather than an exception in society is not an easy task. Economic literature provides us useful insights for tackling the problem of corruption. But economic theory has its limits due to the ever-present incentives of corruption. In this context, what matters the most is the leadership. Only honest and dedicated leaders who have unflinching commitment to the cause of eradicating corruption can develop and implement the necessary policies. It is the top leadership which should set an example as cultural patterns flow from the top. Moreover, action against corruption should be credible in the eyes of the people. For example, ‘fry some big fish’ is the strategy which has been adopted in some countries but due to a lack of credibility, the entire exercise ends in a fiasco as anti-corruption agencies, if not fully independent from government control, are used to discredit political opponents or buy their loyalties. “Frying the big fish” can prove to be a good strategy if the prosecuting agency is believed to be credible and independent, and the government shows its commitment by catching its own culprits first. For an anti-corruption strategy to be effective, it has to be sustainable and credible. Short-lived campaigns and repeated amnesties to offenders do not pay. Such campaigns and amnesties only send wrong signals. New rules of the game need to be evolved. Perceptions about corruption will remain deep-rooted, even if some success is achieved by the anti-corruption agencies, unless the general public is convinced that the dynamics have changed.
[*] The author is a graduate from Columbia University. Email: email@example.com
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