Corruption as adverse factor in economic development

In the last 10 years, the academic debate on the factors affecting economic development has widened to include issues such as the quality of institutions and public administration. Thus, to the traditionally acknowledged basic factors of macroeconomic and political stability – healthy public finances, a friendly environment for entrepreneurial initiative, investment in research, innovation and human resources – are now added considerations about improving administration through controlling corruption. According to the corruption index of Transparency International (TI) for 2002, Greece ranks in second-worst position among EU members after Italy. In a total of 102 countries, Greece ranked 44th, much lower than Costa Rica, Tunisia or Lithuania. The corruption index for the public sector is a composite one, comprising 15 different calculations by nine independent institutions and conducted among businesspeople, country analysts and residents. According to a 2003 study sponsored by the European Central Bank, Greece is in the fourth worst position in the EU as regards bureaucracy and the worst as regards the underground economy. The same study shows that only 73 percent of resources expended today would suffice to yield the same outcome in the public sector. In other words, 27 percent of public resources are lost to waste and corruption; over 10 billion euros annually. Corruption is someone’s power to demand and collect a sum as illegal reward for the provision of a public service. The World Bank’s official definition is «the use of power emanating in a public post to serve individual economic interests.» Regarding the causes, the relevant bibliography names the basic factors affecting the extent of corruption as public subsidies, price controls, restrictions on the trading of and license for the use of natural resources, salaries in the public sector, the inefficiency of the legal framework and state monopolies and oligopolies. In Greece, for instance, the low salaries in the public sector in combination with the large margins of discretionary powers wielded by public servants (due to the multiplicity and contradictory nature of laws), are a crucial factor in the extent of the country’s corruption. A direct result of corruption is reduced economic activity due to the higher costs of «kickbacks» which intensify uncertainty and hit private investment. This is equivalent to additional taxes on small enterprises, as they are more vulnerable to bureaucratic pressures. Another direct effect of corruption on economic development comes via foreign investment. Here too, the adverse factor is the extra cost in terms of money and time the investor has to pay, resulting either in a lower return on the investment or discouragement and ultimate abandonment of the plan. Greece is an EU laggard in foreign direct investment, where it represents only 0.76 percent of GDP, or half that of Portugal and just one-tenth that of Ireland. Graft also has indirect adverse effects on economic development. First, it makes for a distorted composition of public expenses; a reduction in corruption is noted in those categories where the opportunity for illegal financial rewards is less pronounced, such as education, and an increase is observed in public investment in «elephant» projects, where kickbacks are easier to obtain. The final result is under-investment in human resources (again, Greece is a laggard in spending on education in the EU) and over-investment in projects of doubtful social benefit, creating negative external costs for individual producers and amounting to a waste of social resources. Second, it causes distortion in the allocation of human resources. In a highly corrupt economy there is always the danger of the more productive individuals leaving jobs with high added value, tempted away by employment in non-productive sectors which however have a strong potential for kickbacks. Third, graft bends rule of law and the ability by authorities to protect personal property and exercise the right controls to improve market imperfections. (1) Yiannis Mourmouras is professor of Economics at the University of Macedonia in Thessaloniki.