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The Economics of Corruption

Does corruption really do any long-term, structural damage to the economy?

I was barely ten, but the memory is very clear. There was this news headline about how a huge mansion had come up in the middle of Bihar's poorest district, shortly after someone finished his tenure as Defence Minister. The amount (speculated upon) stuck in my mind: at a time when the only car in town, the HM Ambassador, used to cost Rs18,000, the mansion was estimated to have cost Rs20 crore.

Today, nobody remains: neither the Minister, nor his trademark white Ambassador and his mansion (I think). Bihar is now a better place, although I don't know much anymore about that particular district.

Politicians make incompetent investors
Politicians don't usually make good investors, especially politicians who have misused power to get money. Most people first make money, and then find power. That is why we are mostly talking about moneyed people (mis)using power, like bosses in corporate life. However, in the case of politicians, who get where they are because they are purveyors of power, there is then no controlling their greed, once they start to get their hands on the money.

It takes a long time, and a very sophisticated politician, who has been in power for very long, before he is able to bring his corrupt instincts under control. The rapaciousness of the earlier Congress governments, which reached their nadir under Indira Gandhi (ironically, the flag-bearer of Socialism) has been replaced by the gentler versions of Rajiv's and now Sonia's governance-focused governments. Believe me, things will get a lot better under Rahul.

That is why it takes time for a democracy to evolve; it is accompanied by the growth of 'political brands'. In the US, the Kennedys, the Bushes, the Clintons, etc have dominated US democracy, while in India, we have the Gandhis, the Scindias, the Karunanidhis, etc. Wherever a politician gets entrenched, corruption tends to fall: his thirst for money satiated, he starts to focus on governance. In UP and Tamil Nadu, we have seen this in fast forward. The second tenures of new powers are always lower on the corruption co-efficient, especially if they have lost power once.

Controlling corruption
There are two ways to bring down corruption: one, build checks and balances through evolution, or the growth of independent institutions like the media and the judiciary. This, however, has created its own set of strange bedfellows: with the media getting concentrated in the hands of a few, you have newer versions of corruption like 'paid news'. Two, as 'political brands' start to dominate the scene, they will slowly change focus from money and corruption to governance. It will be a long, slow, almost invisible process, but you will see it happen over a long time. That is why I wish Rahul would get married...

The most hysterical estimates on CWG expenditure put the numbers at $15 billion spent, and about $2 billion stolen. That is about 12 per cent, which is about 10 per cent in the hands of the politician, net after the middleman's share. As a percentage of GDP, it is about the same as the alleged mansion-in-the-middle-of-a-district-in-Bihar.

What happens to the money?
The point is, where does the money go? And does it really do any significant harm to the economy? Oh yes, these are emotive issues at the personal level, which is why they help sell a lot of newspapers. But does this do any real, long-term, structural harm?

This kind of money has to stay invisible, and that is its biggest priority. So it must be spent as soon as possible: either as consumption, or in real assets, or siphoned off abroad, where it lies, profitless, in some Swiss Bank, reducing the cost of international capital. All possibilities have a salubrious effect on their respective economies, which is why some pretty rich and otherwise sensible countries don't mind keeping 'dirty money' in their banks.

The rather large amount of black money lying in Indian real estate has helped keep leverage low, and arrested bubble collapses. A lot of this money is thanks to corruption. The lower leverage improves the debt quality of mortgage lenders like HDFC, besides reducing the cost of capital indirectly. Rentals are always below the cost of mortgage finance, making it easier for those who cannot afford housing. As the old saying goes, "Fools build houses, and the wise live in them."

Benami real estate ends up in the hands of drivers and personal staff (like the driver of the BJP politician who owns a flat in Adarsh Housing Society). Benami agricultural land, another favourite investment, is used for sugar cultivation in various North Indian states, creating jobs for landless labourers. In any case, benami holdings have a certain attrition rate as the politician gets older, dies or loses power, whichever is earlier. That is the key selling point of Swiss private bankers.

When this kind of money is spent on conspicuous consumption, the economy goes balle balle. India becomes great and shining, and the moolah is spread across the political class: workers, minions, tractor and jeep owners, paid voters, paid crowds, paid media -- in short, a Jawaharlal Nehru Scheme that pretty much covers the entire economy. The 2G scam is not very different. The money made is real, although just a fraction of the revenues lost by the government. The mistake the breathless media is making is in the valuation of the spectrum diverted for personal gain. These values are imputed based on current valuation of spectrum-in-short-supply. If supply were to expand suddenly by the release of extra spectrum into the open market, prices would drop substantially. But the acquisition values of the companies subsequently taken over do indicate accurately the kind of money that got made. This, we are agreed, adds up to $10 billion, five times more than the CWG loot.

Economic impact of corruption
So what economic impact does such corruption have? At one level, it delayed the consolidation of the Indian telecom market, creating competition where there would have been none. It allegedly gave some unfair advantage to RCom perhaps, but it doesn't seem to have been of much help. RCom will suffer more damage now to its financial credibility just when it goes into the 3G launch, than it could have ever hoped to gain from cornering spectrum, through fair means or foul.

Fragmenting markets and limiting monopoly power is a laudable objective for regulators generally; except in this case, it was being done by artificially supporting weak players, who sought unfair advantage through corrupt means. But really, how is it any different from the artificial support systems devised by previous governments for sick public sector units? Right now, in the same telecom sector, PSU telcos are running losses of an annualised amount, which equals what the 2G scam must have given away to the new private telcos...and this is per year. The economic impact of this, therefore, should be the same as the cost of keeping National Textile Corporation alive every year.

Corruption, therefore, is income like any other. It ranks abreast of government wastage, which is a far bigger number. At worst, it is like an indirect tax on the value of goods and services, reducing demand and economic activity in some parts of the economy. It does, however, show up as savings and consequently, investment (into real estate, primarily), so we don't really know whether the net economic effect is really negative.

It increases the Gini co-efficient (the indicator of income inequality), which is politically and socially undesirable. Worse, it is linked to power and hence is a payoff for the pursuit of power. If we show greater tolerance to the number of affairs that a film star has, it is simply because it is seen as driven by 'democratic' choice rather than ill-gotten gains. But the former is stealing, and the latter is adultery -- both rank the same in St. Peter's diary!