Corruption In Public Procurement And Social Welfare

Abstract

There are several reasons why a firm would want to pay a bribe to a high-level official when bidding for a large scale project. One reason is to induce the corrupt official and/or his agent to manipulate their evaluation of contract proposals in favor of the firm. In my analysis, I am examining the case where a firm competes to win a government contract. To win the award, the firm may choose to comply with a demand by the corrupt government official for a share of the value of the project to avoid being excluded from trade. The contribution of my paper is that it models the competition between the firm and the corrupt official as a contest where the corrupt official is expending costly efforts in trying to expropriate part of the value of the public project and the firm is also expending costly efforts in trying to protect its profits. Contests have been used to analyze lobbying, rent-seeking, advertising, litigation, arms races, and sports events. A contest is a game in which players exert costly effort in order to win a certain prize. The players' probabilities of winning the prize are determined by the use of a probabilistic choice function that depends on the efforts of adversaries. I incorporate the preferences of the corrupt official and the enforcement of property rights in my model where I am able to shed some light on the impact of these two important variables on social welfare. My results show that with complete information and no corruption, the economy will arrive at an equilibrium that is socially optimal in the sense that social welfare is maximized. In this case the public procurement project will be awarded to the firm that provides the competitive world quality at the competitive world price. In the case of complete information and corruption, my results show that corrupt officials' preferences towards corruption in countries with weak enforcement of property rights play an essential role in determining whether we will arrive at an equilibrium that is socially optimal. I argue that in such countries aligning the incentives of corrupt government officials with that of society is necessary in combating corruption and plays a more important role than strengthening the enforcement of property rights.