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Corruption, Default and Optimal Credit in Welfare Programs

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  • BIBHAS SAHA

    (Indira Gandhi Institute of Development Research)

  • TRIVIKRAMAN THAMPY
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    Abstract

    In this paper we present a dynamic model of subsidized credit provision to examine how asymmetric information exacerbates ineciency caused by corruption. Though designed to empower the underprivileged, the fate of such credit programs largely depends on the eciency of the credit delivery system. Corruption often erodes this eciency. Nevertheless, when a corrupt loan ocial and a borrower interact with symmetric information, credit terms can be so designed that corruption will aect only the size of the surplus, but not repayment. With private information on the borrower's productivity this result changes. The corrupt loan ocial may induce the low productivity borrower to default, mainly because of high revelation costs. The government can improve the repayment rate, but will have to under-provide the rst period loan. On the other hand it can permit default by the low productivity borrower, and maintain a higher credit level. The second option may sometimes be preferred. This inecient outcome is caused by two factors - informational ratchet eects and countervailing incentives, which are commonly present in many agency relationships.

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    Bibliographic Info

    Paper provided by East Asian Bureau of Economic Research in its series Microeconomics Working Papers with number 22392.

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    Date of creation: Jan 2004
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    Handle: RePEc:eab:microe:22392

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    Related research

    Keywords: corruption; Information rent; Countervailing incentives;

    References

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    1. Marjit, Sugata & Mukherjee, Vivekananda & Mukherjee, Arijit, 2000. "Harassment, corruption and tax policy," European Journal of Political Economy, Elsevier, vol. 16(1), pages 75-94, March.
    2. Maggi G. & Rodriguez-Clare A., 1995. "On Countervailing Incentives," Journal of Economic Theory, Elsevier, vol. 66(1), pages 238-263, June.
    3. Chaudhuri, Sarbajit & Gupta, Manash Ranjan, 1996. "Delayed formal credit, bribing and the informal credit market in agriculture: A theoretical analysis," Journal of Development Economics, Elsevier, vol. 51(2), pages 433-449, December.
    4. Jean Hindriks, Michael Keen and Abhinay Muthoo, . "Corruption, Extortion and Evasion," Economics Discussion Papers 470, University of Essex, Department of Economics.
    5. Saha, Bibhas, 2001. "Red tape, incentive bribe and the provision of subsidy," Journal of Development Economics, Elsevier, vol. 65(1), pages 113-133, June.
    6. Isaac Ehrlich & Francis T. Lui, 1999. "Bureaucratic Corruption and Endogenous Economic Growth," Journal of Political Economy, University of Chicago Press, vol. 107(S6), pages S270-S293, December.
    7. Choi, Jay Pil & Thum, Marcel, 2003. "The dynamics of corruption with the ratchet effect," Journal of Public Economics, Elsevier, vol. 87(3-4), pages 427-443, March.
    8. Banerjee, A.V., 1997. "A Theory of Misgovernance," Working papers 97-4, Massachusetts Institute of Technology (MIT), Department of Economics.
    9. Erwin Tiongson & Hamid Reza Davoodi & Sanjeev Gupta, 2000. "Corruption and the Provision of Health Care and Education Services," IMF Working Papers 00/116, International Monetary Fund.
    10. Lui, Francis T, 1985. "An Equilibrium Queuing Model of Bribery," Journal of Political Economy, University of Chicago Press, vol. 93(4), pages 760-81, August.
    11. Saha, Bibhas, 2003. "Harassment, corruption and tax policy: a comment on Marjit, Mukherjee and Mukherjee [Eur. J. Political Economy 16 (2000) 75-94]," European Journal of Political Economy, Elsevier, vol. 19(4), pages 893-897, November.
    12. Mishra, Ajit, 2002. "Hierarchies, incentives and collusion in a model of enforcement," Journal of Economic Behavior & Organization, Elsevier, vol. 47(2), pages 165-178, February.
    13. Banerjee, Abhijit V, 1997. "A Theory of Misgovernance," The Quarterly Journal of Economics, MIT Press, vol. 112(4), pages 1289-1332, November.
    14. Lewis, Tracy R. & Sappington, David E. M., 1989. "Countervailing incentives in agency problems," Journal of Economic Theory, Elsevier, vol. 49(2), pages 294-313, December.
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    Cited by:
    1. Saha, Bibhas & Thampy, Trivikraman, 2006. "Extractive bribe and default in subsidized credit programs," Journal of Economic Behavior & Organization, Elsevier, vol. 60(2), pages 182-204, June.

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