Corruption and product market competition: An empirical investigation

We analyze the relationship between product market competition and corruption. The existing literature typically views corruption as extortion of "pre-existing" rents. This perspective suggests that competition usually reduces corruption, although generally the sign of this relationship is ambiguous. Shleifer and Vishny (1993), however, show that cost-reducing corruption is promoted by product market competition. That is, the effect of competition on corruption depends of the nature of corruption. Unlike the existing empirical studies that employ cross-country data and general measures of corruption, we test the competition-corruption relationship using firm-level information. Our approach overcomes significant estimation difficulties that result from relying on cross-country data; for instance, we include country fixed effects, and we deal with potential endogeneities by instrumenting competition with US capital-labor ratios for the appropriate industries. Contrary to the existing empirical work, we show that stronger product market competition is associated mostly with greater corruption of the cost-reducing variety. (C) 2013 Elsevier B.V. All rights reserved.