Corruption, Rent-Seeking, and Economic Development

Secrecy, Corruption, and Market Transparency

Shleifer and Vishny point to the close correlation between the secrecy of corruption and its negative effect on growth.¹ This conclusion seems straightforward in practice, but the two theorists also show that the loss of secrecy would expose corruption to market forces and would ultimately lead to the mutual elimination of participants in the corruption market. With information made public, one could easily identify who is corrupt, what the level of corruption is, and how it operates. Beyond enabling legal mechanisms to act more effectively, transparency would also undermine the conditions that allow corruption to thrive among market participants.

For a broader overview of how corruption is defined and studied across disciplines, scholars have long distinguished between petty corruption, grand corruption, and systemic corruption — distinctions that matter considerably when analyzing development outcomes.

Post-Communist Transitions and Corruption in Central and Eastern Europe

Perhaps all of the conclusions presented above are well illustrated by the Central and Eastern European economies. With the collapse of Communism in these countries at the end of the 1980s, the structure of their economies was broadly similar and remained so through the early 1990s, before capitalism firmly took hold and market reforms were properly implemented. Carrying forward the legacy of the Communist period, these economies inherited monopolies in most agrarian and industrial sectors.

Under Communism, the economy was centrally planned, which meant that there was no individual initiative and economic entities operated based on directives received from the center. In the transition to capitalism, those monopolistic entities that had previously controlled internal mechanisms within each sector were largely left intact during the initial period.

This meant that, in the first years of the post-Communist period, these countries were just as affected by corruption as they had been during the Communist era. Consistent with the analysis of Shleifer and Vishny, monopolistic industries and their complementary inputs produced significantly negative effects on development and growth in the early 1990s, resulting in GDP declines to levels far below those of the late 1980s — though some of these declines were also attributable to the broader restructuring of these economies.

The 1990s also marked an accelerated process of privatization for these countries and their formerly state-owned enterprises. The secrecy that typically surrounded these privatization processes — with some notable exceptions — affected growth across the region, primarily because many enterprises were divided among future oligarchs who were closely tied to the political elites of the time.

Rent-Seeking, Privatization, and the Rise of Oligarchs

While pressure from the EU, in anticipation of the eventual accession of Central and Eastern European countries, somewhat limited this effect in those nations, it had a serious impact on Russia and the Russian economy. The creation of the oligarch class, the limited scope of economic restructuring, and the resulting weak growth — growth that even today remains heavily dependent on natural resource prices — were direct consequences. This environment also deterred foreign investors, who became increasingly reluctant to commit capital to countries where acquisitions and purchases were not transparent processes.

The Russian experience is consistent with rent-seeking behavior as described in political economy literature, where well-connected actors capture privatized assets through political relationships rather than productive competition.

The correlation between corruption and growth at the national level is not always easy to discern. It seems reasonable to observe that poor countries generally tend to exhibit high levels of corruption; however, there are historical particularities — situations in which countries have maintained reasonably high levels of corruption while also enjoying significant growth rates and high investment levels.²

Corruption in Developing Economies: African and Systemic Perspectives

The most plausible explanation for this, also highlighted by Khan, is that in these cases corruption generally took the form of rent-seeking and moderated the relationship between public authorities and private investment, as opposed to corruption that functions as simple extortion — in which a public authority extracts payment without providing any tangible benefit in return.

In the rent-seeking scenario described by Khan, the public official receives a material gain in exchange for favoritism toward a private business entity. While clearly problematic in a functioning free market, in a developing market this type of mechanism can also provide incentives for the private investor to make their enterprise more productive and efficient — not only to generate a reasonable profit, but also to offset the cost of the corrupt arrangement they have entered into.

Meier and Rauch extend the discussion further into African economies, where the problems are systemic and corruption is just one of several factors with an obvious negative impact on development.³ They offer the counterpoint to what was previously discussed: in poor countries, systemic corruption becomes an additional drag on development rather than a negotiated arrangement with any productive dimension.

The reason for this is probably not strictly the act of corruption itself, but rather the very weak institutions present in many of these young African states and their underdeveloped market economies. In countries such as those of Western Europe — and, increasingly, the EU members from Central and Eastern Europe — acts of corruption, when they occur, are less likely to be felt at the market level because mature markets have the capacity to absorb such shocks and remain viable.

In Africa, this is clearly not the case. Acts of corruption serve primarily to consolidate the power of central bureaucrats and public-sector authorities. As that power grows, corruption becomes more endemic in a self-reinforcing spiral. Such a dynamic could not easily take hold in Europe, where market forces would generally prevent degeneration into a corruption spiral.

Conclusion: Corruption, Growth, and Development

All in all, it is difficult to draw a distinct link between corruption and development, especially since history has provided examples of growth occurring despite a reasonably corrupt environment. The correlation does exist between poor economies and corruption in the sense that such environments do tend to favor corrupt behavior.