Steven P. Lanza

English

Research Papers in Economics

4 The Connecticut Economy Winter 2004 4
By Steven P. Lanza
Adam Smith, a patriarch of economics and author
of its bible, The Wealth of Nations, expressed what
has become a credo of free market faith: the public
interest is often best served by allowing individuals
to pursue their own self interests.  Lately it seems
some Connecticut politicians have been following
Smith’s doctrine to a fault.  But the consequences
are unlikely to have advanced the common interests
of the state’s citizens.  Indeed, the evidence suggests
that the moral failings of political leaders carry sig-
nificant economic costs.
Political Corruption
Public officials are supposed to be trustees of the
commonweal, not political buccaneers seeking
their own private gain.  But sometimes, in what
economists call a “principal-agent problem,” those
trustees forsake that obligation and misuse the
power delegated to them in ways that advance
their personal interests rather than those of the
public.
The problem isn’t just limited to chief execu-
tives—mayors, governors and presidents—accept-
ing gifts or kickbacks.  Legislators, too, can sell
their votes to special interests in exchange for cam-
paign contributions or other special favors.  All
such practices are morally reprehensible, often ille-
gal, and they erode the public’s faith in political
institutions.  But what are the economic conse-
quences?
Grease or Grime?
Not everyone agrees that even a little graft is a
bad thing.  In the 1970s, political scientist Samuel
P. Huntington wrote that “...in terms of economic
growth, the only thing worse than a society with a
rigid, over-centralized, dishonest bureaucracy is
one with a rigid, overcentralized and honest
bureaucracy.”  In this view, political bribes and
kickbacks can help cut through bureaucratic red
tape and improve government efficiency.  What’s
more, if the size of the bribe reflects the value of
the “favor” to the briber, government’s attention
will naturally turn first toward those projects with
the greatest net benefits.  Those net benefits, of
course, may accrue to a select few rather than the
general public.
But the costs of corruption can be significant.
First, political corruption increases the cost of
doing business by at least the amount of the bribe
paid to secure favorable treatment.  Institution-
alized bribery also introduces a new set of transac-
tion costs—the costs of negotiating, monitoring
and enforcing illicit agreements and avoiding
detection by those not a party to the agreement.
And since corruption involves the arbitrary use of
discretionary power, uncertainty—that great bogey-
man of business confidence—rises, and the busi-
ness environment becomes less secure.
Second, political corruption undercuts free mar-
kets and hampers efficiency.  Firms with political
connections can be less cost-conscious, since they
are shielded from competition.  Third, corruption
distorts the allocation of resources toward projects
that can generate (illicit) payoffs.  Besides the
undesirable efficiency consequences arising from
this distortion, the effect is likely to aggravate
social inequalities, because the poor and powerless
suffer, by definition, a comparative disadvantage in
securing special favors.  
Quantifying the Evidence
If an economic case can be made both for and
against political graft, the relative efficiency of cor-
ruption ultimately becomes an empirical issue.
Which economies demonstrate the best economic
performance, those with a track record of clean
government or those with a history of dirty politi-
cal dealings?
While there is no single all-purpose measure of
economic performance, when it comes to gauging
the health of a local or regional economy job
growth is often a popular choice.  Maximizing an
economy’s ability to generate new jobs is certainly
high on the political agenda, since voters seem
more likely to re-elect officeholders who oversee
net job creation.
Quantifying political corruption is difficult partly
because the perpetrators work so hard to evade
detection.  But Thomas Schlesinger and Kenneth
Meier have argued that the number of federal con-
victions of public officials for crimes involving cor-
ruption is a good proxy for the level of political
The Economics of Ethics: 
The Cost of Political Corruption 
02468 1 0 1 2
Vermont
New Hampshire
Nebraska
North Dakota
Kansas
Oregon
Iowa
Minnesota
Wisconsin
South Dakota
Idaho
Utah
Arkansas
Washington
Oklahoma
Maine
Montana
Colorado
Wyoming
Missouri
Connecticut
Michigan
Massachusetts
Delaware
Texas
Indiana
Nevada
Pennsylvania
Alaska
New Jersey
New Mexico
Kentucky
Illinois
Ohio
North Carolina
West Virginia
Alabama
Arizona
Rhode Island
New York
Mississippi
Tennessee
South Carolina
California
Louisiana
Georgia
Maryland
Florida
Virginia
Federal misconduct convictions per 100 elected officals, 1986-95 
Source: The Connecticut Economy based on data from Thomas Schlesinger and Kenneth J. Meier, “The Targeting
of Political Corruption in the United States,” in Arnold Heidenheimer and Michael Johnston, Political Corruption,
3rd ed. (New Brunswick, NJ: Transaction Publishers), 2002, pp.627-644.
How States
Rank in
Political
Corruption5 The Connecticut Economy Winter 2004
corruption across states.  The accompanying bar
graph presents Schlesinger and Meier’s state-by-
state conviction data for the period 1986 – 1996,
for 49 states (omitting Hawaii).  The average
across states was 2.12 convictions per 100 elected
officials over the period.  Connecticut posted a
comparatively clean record of just 1.08 convictions.  
Among the advantages these analysts claim for
this measure is that it passes the smell test:
Vermont, Minnesota, and Wisconsin place relative-
ly low on the list, while Maryland, Louisiana and
Rhode Island rank relatively high.  Plus, the mea-
sure appears to be statistically unrelated to the
number of federal prosecutors and judges or the
length of court backlogs. So high conviction rates
are more likely to reflect corrupt activity than pros-
ecutorial zeal.
If corruption was the only determinant of eco-
nomic performance, we could compare the two
and see how variations in the number of convic-
tions affected the change in jobs.  But there are
many other possible influences on job growth,
such as taxes, wages, education, GSP per capita
and population change.  So to determine the effect
of corruption on performance, we must control for
the influence of these other factors, something that
multivariate regression allows us to do.
Crime Doesn’t Pay
The accompanying table shows the results of a
regression of job changes on corruption and the
other possible causal factors.  As expected, there is
an inverse and statistically significant relationship
between corruption and jobs.  For each additional
conviction per 100 elected officials, job growth
declines by 1.1 percentage points (the 49-state
average was a 22% increase in jobs over the 1986-
95 period).  A $100 increase in per-capita state
taxes cuts job growth by 0.5 percentage points.
And by expanding the pool of potential workers, a
one-percentage point increase in population pro-
duces a 0.8-point increase in the number of new
jobs.
The remaining variables—wages, education, and
per-capita GSP—had some surprising effects on job
growth.  Higher wages are not associated with a
significant decrease in jobs, and increases in edu-
cational attainment are not linked to a significant
increase in jobs.  Higher GSP per worker, which
would seem to produce a stronger market for
goods and services,
turns out to be associ-
ated with reduced job
growth, perhaps
because high income
areas often have higher
rents and tighter regu-
lations on business.
Since each of these
explanatory variables is
measured in different
units, it could be diffi-
cult to determine
which has the strongest
influence on changes in
job growth.  But a simple statistical technique
allows us to express each variable in a common
unit so that the resulting standardized coefficients,
shown in the table, measure the relative magnitude
of the effects from each.  These standardized coef-
ficients suggest that population growth is as strong
a positive influence on jobs as the total negative
influence from taxes, GSP and corruption com-
bined.  That’s not to say corruption is a trifling
matter.  Among the negative factors in job growth,
the effect of corruption was 30% greater than that
of taxes, implying that honest government may be
even more important than a favorable tax environ-
ment in sustaining strong economic performance.
Airing the Linen
To his credit, Adam Smith was not a slavish dis-
ciple of his own teachings.  In an often overlooked
volume, The Theory of the Moral Sentiments, Smith
maintained that a peaceable and productive life in
civil society isn’t possible without moral con-
straints that place socially appropriate limits on
individual action.  Smith realized that the law, too,
constrains our actions in ways that help to make
markets and other social institutions work.
The question for Connecticut now is how to best
improve the ethical and legal environment and
avoid a repeat of recent scandals.  The suggestions
include tougher restrictions on, and penalties for,
giving gifts to elected officials, and extending the
statute of limitations on criminal violations.  Here’s
another possibility.
If the problem actually is of the “principal-agent”
variety, with elected officials secretly pursuing their
own interests, not those of their constituents, we
might try bringing these activities into the open,
letting the public be the arbiter of what’s accept-
able conduct.  Requiring elected officials to regular-
ly make their personal finances public, for exam-
ple, would offer voters an early warning sign of
potentially unethical or criminal behavior.
Toughening the ethics laws would no doubt help,
but it’s likely that wayward public officials would
be penalized by public disapproval far sooner and
more effectively under a regime of full disclosure
than under a system that relies on investigators to
uncover misconduct and on prosecutors to enforce
the law.  
    Variable
  Corruption
     
      Taxes
  
   Education
    
     Wages
  
  Population
Per Capita GSP
-0.20
-0.15
 0.02
-0.05
 0.79
-0.38
                                                       Description       
 One additional conviction per 100 elected officials reduces job growth by 1.1 percentage points.   
 A $100 increase in per-capita state taxes cuts job growth by 0.5 percentage points.       
 An increase in education produces no statistically significant increase in jobs.       
 An increase in wages produces no statistically significant decrease in jobs.       
 A one-percentage point increase in population produces a 0.8 percentage point increase in jobs    
 A $1000 increase in per-capita GSP lowers job growth by 1.0 percentage point.       
Standardized
  Coefficient
Factors That Explain Job Growth Across States
Source: The Connecticut Economy based on data from Schlesinger and Meier,and from the U.S. Bureaus of Labor Statistics, Census, and Economic Analysis.

The Economics of Ethics: The Cost of Political Corruption

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