Monday, September 13, 2010

The economics of bribing and what to do about it

Been sometime before I blogged about one of my favorite topics - the dynamics of corruption! Here is an attempt to answer the most persistently frustrating of socio-economic problems - why do people pay bribes and how can we restrain such payments?

The story goes like this. Buyers of the myriad government services, like those of any other product in a market, face similar demand-supply curves. As evident from the figure, those buyers above A in the demand curve (numbering Q1) are willing to pay more than the price fixed for the service/product, P1. This willingness to pay at the margins opens up opportunities which middle-men and bribe-takers exploit.

Citizens (buyers) lying on the upper-side of the demand curve are willing to pay more than the government prescribed user fee of P1. Therefore the area of triangle ABP1 (shaded) constitutes the full rent market.

Here is an attempt to apply the principles of economics to address the problem of bribe payments. While these suggested solutions will not in anyway eliminate rent-seeking, they will align incentives for all stakeholders in a manner so as to certainly reduce the likelihood of rent-seeking behavior. The first approach addresses the demand-side (rent-givers) and the second manages the supply-side (rent-seekers).

One, Econ 101 teaches us that markets do a good job of price discovery and too low a price causes incentive distortions. For various reasons, the prices fixed by governments are most often too small, leaving rent-seekers with ample opportunity to exploit (as indicated in the graphic above). For example, electricity connection charges are very low and government machinery is invariably over-stretched. Buyers (with a much higher willingness to pay) are therefore incentivized to pay a rent-premium to access the connection faster and without any inconvenience.

The solution is to have a differential pricing mechanism (a two-price arrangement), with a higher priced premium service delivery channel that would seek to capture higher willingness to pay consumers. They would pay double or triple the amount (to be fixed based on the demand for the service and the ability of the system to deliver the premium service) to have the same service delivered at their door-step and within 24 hours. This hassle-free window would cater to those citizens with higher willingness to pay. It reduces the possibility of rent-seeking by institutionally capturing the higher amounts that people are willing to pay. See this and this.

Two, Econ 101 also tells us that markets provide competition which arbitrages away certain types of inefficiencies. So if one supplier provides widgets at $5, whereas the others are willing to sell it for $3, the former will be priced out of the market. Since government is the monopoly supplier of these products, direct external competition is impossible. The solution is therefore to have multiple channels (within government itself and also outsourced alternatives) to deliver the service so as to generate some level of competition.

Multiple channels within the same department - either at different locations or at different levels - provides citizens with a choice. The dynamics of this choice is often adequate to arbitrage away rent-seeking opportunities. Outsourcing (see this example) also helps avoid the critical citizen-government interface which is most often the origin of corrupt practices.

If the sale of all government services/products are subjected to this twin test, it would considerably lower the likelihood of rent-seeking behaviour - both eliminating it in some places or atleast minimizing the amounts extracted.


Jayan said...

Very correct. Instead of assuming that every one want cheap service, govt should realize that people want "efficient" service. People will pay for what they consider as value for money. For some waiting for 10 days for a service may be OK. Another person may want to do same day. It should be charged differently. Creating multiple channels is the way to go.

A good example is our passport service. We already have fast track mechanism for the needy. It could be extended to almost all services. Trouble with passport is that there can only one possible service provider . Common man could say, the rich pays more and hijack service. So for essential services some thing like e-seva is better. It just complements existing framework, hence works smoothly.

Sai Prasad said...

At the cost of being branded as one who lives in his glorious past, I am going to narrate one example of the same concept that I had tried while I was Municipal Commissioner in Guntur in 1995.

Birth and death certificates were issued to citizens on payment of Rs.2/- and the usual. We got the entire records computerised so that access and search was easier. A special 24 hour service was introduced for birth and death certificates on payment of Rs.30/-. I should say that the response was very good.

An obvious generalization that the we can make is that differential pricing to capture the rents is possible when we deliver a higher grade of service/goods.

sai Prasad said...

Multiple channels within the same department is a concept being tried widely these days. The UID project seeks to put in place different agencies to issue the cards.

In the power sector, we have attempted to do the same by removing the receipt of applications from the supply givers. The MV dept has outsources pollution testing to several agencies etc. This is a very promising approach and with good design, can provide solutions to several problems in public service delivery.

PrideOfMatchingham said...

With my reply very long including graphs etc, I have posted my own version and analysis of rent seeking behaviour which can be accessed at the following url.

gulzar said...

thanks for all the comments.

Mulliner, a few quick ones here. i agree with all your particular deviations from the general. the intention in the short post was to only highlight a general model with a simple straight line S-D curve.

however, the D curve can indeed slope downwards - if people cannot afford electricity connection (due to upfront charges or tariffs) they take illegal connections. those who cannot afford take it illegally (fake certificates!)...

one thing though, outsourcing is an excellent means of having price discovery and bringing transparency to a service delivery channel. consider the case of any utility service (electricity/water/UGD/gas etc). the corruption is at the delivery stage. if we can call tenders and fix unit rates for connections related works (this is over and above the connection cost itself, and invariably merges with the connection bribe), then people have the choice of going to any contractor who can give the connection without having to rely on the local govt functionary (lineman/tap inspector etc) to take connection, and all this at a pre-defined rate.

see this