Corruption, Fiscal Policy, and Growth: A Unified Approach

In this paper, we study the effects of bureaucratic corruption on fiscal policy and the subsequent impact on economic growth. Here corruption takes three forms: (i) it reduces the tax revenue raised from households, (ii) it inflates the volume of government spending, and (iii) it reduces the productivity of ‘effective’ government expenditure. The analysis distinguishes between the case where fiscal choices are determined exogenously to ensure a balanced budget and the case where the government optimally sets its policy instruments. Our policy experiments reveal that for both cases, corruption affects fiscal policy and growth in similar ways, in particular, through higher income tax and inflation rates, and a lower level of government spending. The findings from our unified framework could rationalise the diverse empirical evidence on the impact of corruption on economic growth in the literature.