The Economics of Corruption: A Study of its rationale and measures Charles Albert Kamtoh Ndongmo University of York Economics and Related Studies December 2014 Abstract Our study aims at considering two aspects of the problem of corruption that are its rationale and measures. The starting point is the presentation of a concise back- ground on the topic as Chapter I highlight definitions, causes, main effects, categorisa- tion and the measures of corruption. From the causes of corruption it is the case that our understanding of this prob- lem is limited by the assumption of the mechanism through which those causes come together to affect corruption. The way in which incentives predispose individuals to side with corruption has only been assumed in the literature. Hence, Chapter II will look into the rationale of corrupt behaviour and its implications. Using a modify version of a model developed by Macrae (1982), we build a cor- ruption game illustrating a simple game of bureaucratic corruption between farmers and government officials. We argue that not only corruption is the rationale calculus of agents maximising their income but also that the rationale following which we reach the corruption equilibrium or the honesty one could explain the pervasiveness of either corruption or honesty. At last Chapter III focuses on the measures of corruption. Perception indexes are widely used as the result of their prevalence and the lack of better alternatives. Howev- er, many studies show a disparity between the perception of corruption and its actual incidence (see Mocan 2008, Olken 2009, Donchev and Ujhelyi 2011, Fisman and Miguel 2007). We propose an alternative by putting together an index of the incidence of cor- ruption accounting for its perception using data from the incidence of corruption as reported by the national agency responsible for the fight against corruption in Kenya. Our study suggests that not only our index account better for yearly change in the prevalence of corruption but perception indexes can be used to account for the inability to detect some form of corruption. 3 | P a g e Table of Contents Abstract………………………………………………………………………………………………………….3 List of contents……………………………………………………………………………………………….4 List of equations…………………………………………………………………………………………….6 List of tables……………………………………………………………………………………………………7 List of figures………………………………………………………………………………………………….8 Acknowledgements………………………………………………………………………………………..9 Author’s declaration. ……………………………………………………………………………………10 Chapter I. General Introduction ....................................................................... 12 Section 1. Definition of corruption ............................................................................................... 15 Section 2. Causes and context of corruption ................................................................................. 19 Section 3. Main effects of corruption ........................................................................................... 24 Section 4. Categorisation of corruption ........................................................................................ 28 Section 5. Measuring corruption ................................................................................................... 37 1. Major indicators of corruption: ..........................................................................37 2. Perception of corruption vs. incidence of corruption: .......................................38 Chapter II. The rationale of corrupt behaviour and its implications ................. 42 Section 1. Introduction .................................................................................................................. 43 Section 2. Literature on corruption games with a focus on competitive bribery games 45 Section 3. A review of Macrae model .......................................................................................... 53 1. Macrae Game theory approach to Corruption ...................................................53 2. The equilibrium .................................................................................................56 Section 4. Our model .................................................................................................................... 60 1. Definition and context .......................................................................................60 2. The model ..........................................................................................................61 3. Implications of the model ..................................................................................69 Section 5. Analysis ....................................................................................................................... 73 1. The Nash equilibrium corrupt-corrupt ...............................................................73 4 | P a g e 2. The Nash equilibrium honest-honest ................................................................. 76 3. The effect of the incidence of corruption on its profitability ............................. 77 Section 6. Summary of the Findings and Policy implications……………………………….81 1. Summary of the Findings .................................................................................. 81 2. Policy implications ............................................................................................ 83 Chapter III. Incidence and perception of Corruption: Case of Kenya .................86 Section 1. Introduction…………………………………………………………………………………………87 Section 2. Perception indexes of corruption and data on its actual incidence………..89 1. The origin of the problem .................................................................................. 89 2. Review of the literature on the comparison of perception indexes and the actual incidence of corruption .............................................................................................. 92 3. The importance of our study: Looking at the data on the prevalence of corruption in Cameroon ............................................................................................ 96 Section 3. The Dataset on corruption………………………………………………………………….102 1. Presentation of the data.................................................................................... 102 2. Advantages and disadvantages of our dataset ................................................. 104 3. Identifying the events that could have affected the prevalence of corruption in Kenya ....................................................................................................................... 106 Section 4. The transformation of the data……………………………………………………………112 1. The Model ....................................................................................................... 114 2. Presentation of the dataset before transformations .......................................... 122 3. Presentation of the transformation process ...................................................... 125 4. Results of the transformation of the data ......................................................... 128 Section 5. Analysis…………………………………………………………………………………………….130 1. Description of the trend of the indexes of societal corruption ......................... 130 2. Distinctive features .......................................................................................... 134 3. Incidence and perception of corruption looking at the key fact of the history of Kenya ....................................................................................................................... 137 4. Summary of the findings ................................................................................. 139 Section 6. Conclusion and limits of the analysis…………………………………………………141 Chapter IV. General Conclusion .......................................................................144 Appendices……………………………………………………………………………………………………148 Glossary………………………………………………………………………………………………………173 Bibliography…………………………………………………………………………………………………175 5 | P a g e 6 | P a g e List of Equations: Equation II-1…………………………………………………………………………………………………………………53 Equation II-2…………………………………………………………………………………………………………………54 Equation II-3…………………………………………………………………………………………………………………54 Equation II-4…………………………………………………………………………………………………………………55 Equation II-5…………………………………………………………………………………………………………………55 Equation II-6…………………………………………………………………………………………………………………56 Equation II-7…………………………………………………………………………………………………………………64 Equation II-8…………………………………………………………………………………………………………………65 Equation II-9…………………………………………………………………………………………………………………67 Equation II-10……………………………………………………………………………………………………………….68 Equation II-11……………………………………………………………………………………………………………….69 Equation II-12……………………………………………………………………………………………………………….69 Equation II-13……………………………………………………………………………………………………………….69 Equation II-14……………………………………………………………………………………………………………….71 Equation II-15……………………………………………………………………………………………………………….71 Equation II-16……………………………………………………………………………………………………………….71 Equation II-17……………………………………………………………………………………………………………….74 Equation II-18……………………………………………………………………………………………………………….76 Equation III-1………………………………………………………………………………………………………………114 Equation III-2………………………………………………………………………………………………………………115 Equation III-3………………………………………………………………………………………………………………115 Equation III-4………………………………………………………………………………………………………………116 Equation III-5………………………………………………………………………………………………………………117 Equation III-6………………………………………………………………………………………………………………119 Equation III-7………………………………………………………………………………………………………………121