Published online by Cambridge University Press: 05 January 2012
While theoretical arguments distinguish regulatory policies from the institutional mechanisms of their implementation, empirical accounts often conflate the official regulatory policies of the government with the unofficial regulatory burden emanating from corruption and red tape. Building on the literature that emphasizes a separate and non-trivial effect of regulatory enforcement, this article identifies bureaucratic discretion as an important institutional factor that conditions the effects of regulatory policy on the business environment. An analysis of cross-sectional data covering 119 economies demonstrates that, under high levels of bureaucratic discretion, state regulatory involvement has no effect on the business environment. Low levels of bureaucratic discretion, however, accentuate the link between light regulatory burden and a business-friendly economic environment.
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2 For a discussion of different approaches to the regulatory state, see Moran, Michael, ‘Review Article: Understanding the Regulatory State’, British Journal of Political Science, 32 (2002), 391–413CrossRefGoogle Scholar. The literature often distinguishes three types of regulations: economic (price and entry), social (environment, social cohesion, health, occupational safety), and bureaucratic (red tape, government information collection). These regulations have different purposes but in practice are closely interrelated. For instance, the government may restrict entry into the chemical sector to better enforce environmental regulations, or it may impose price controls on the telecommunication industry in pursuit of its goals of social cohesion. Unlike other works that explicitly distinguish between these types, this analysis applies to all regulatory hurdles, irrespective of their purpose.
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6 Dellepiane-Avellaneda, ‘Review Article: Good Governance, Institutions and Economic Development: Beyond the Conventional Wisdom’, offers a thorough critique along these lines.
7 The concept of ‘business environment’ is central to the neo-liberal political economy that tends to see government regulations and taxation as imposing costs on businesses. This approach associates low taxes and few regulations with a business-friendly environment. Examples of empirical indicators inspired by the neo-liberal approach include the Heritage Foundation Index, the World Bank Governance Indicators, and Business Environment Risk Intelligence. The transaction costs economics and varieties-of-capitalism approach challenge this perspective, arguing that well-designed regulations may underpin firms’ co-ordination strategies and hence promote investment and growth. Hall, Peter A. and Gingerich, Daniel W., ‘Varieties of Capitalism and Institutional Complementarities in the Political Economy: An Empirical Analysis’, British Journal of Political Science, 39 (2009), 449–482CrossRefGoogle Scholar, provide empirical evidence to support this argument. Acknowledging conceptual bias of the neo-liberal perspective, I consider infrastructure, macroeconomic stability, health, education, skill levels, technological readiness and innovation as part of the operational definition of ‘business environment’.
8 A number of game-theoretic and empirical studies analyse bureaucratic discretion as a crucial factor in policy implementation, e.g., Kydland, Finn E. and Prescott, Edward C., ‘Rules Rather Than Discretion – Inconsistency of Optimal Plans’, Journal of Political Economy, 85 (1977), 473–491CrossRefGoogle Scholar; Epstein, David and O'Halloran, Sharyn, ‘Divided Government and the Design of Administrative Procedures: A Formal Model and Empirical Test’, Journal of Politics, 58 (1996), 373–397CrossRefGoogle Scholar; Bendor, Jonathan and Meirowitz, Adam, ‘Spatial Models of Delegation’, American Political Science Review, 98 (2004), 293–310CrossRefGoogle Scholar; Frye, Timothy, ‘Credible Commitment and Property Rights: Evidence from Russia’, American Political Science Review, 98 (2004), 453–466CrossRefGoogle Scholar; Gordon, Sanford C. and Hafer, Catherine, ‘Flexing Muscle: Corporate Political Expenditures as Signals to the Bureaucracy’, American Political Science Review, 99 (2005), 245–261CrossRefGoogle Scholar.
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30 Yet, we should credit the studies exploring the effects of political institutions on bureaucratic incentives for providing a clear set of theoretical expectations about sources of bureaucratic discretion. Huber and Shipan, Deliberate Discretion; Brehm, John O. and Gates, Scott, ‘Working, Shirking, and Sabotage: Bureaucratic Response to a Democratic Public’ (Ann Arbor: University of Michigan Press, 1999)Google Scholar; and Epstein and O'Halloran, ‘Divided Government and the Design of Administrative Procedures’, among other works, point to institutional sources of constraints on bureaucratic behaviour (e.g. veto players, federalism, separation of powers, institutional capacity). Additionally, political variables, such as the level of policy conflict, alter political incentives for constraining bureaucracy. Authoritarian regimes show even greater divergence in the sources of bureaucratic constraint. Elite cohesion, clientelism, regionalism, political repression, type of elite recruitment and many other features that may serve as a source of bureaucratic constraint vary across military dictatorships, one-party rule or bureaucratic-authoritarian regimes. Bureaucratic preferences and behaviour are likely to vary depending on the specific institutional and political sources of constraint. The theoretical argument of this article, however, makes no assumptions about sources of discretionary power and, hence, should apply to the analysis of different institutional and political environments. It would be interesting to explore how the types of bureaucratic constraint affect the nature of discretion and the resulting policy outcomes, though I leave this to future research.
32 The fact that in the first case the official regulatory regime is five times as costly as in the former case might be irrelevant from the point of view of myopic business, but might prove consequential for the long-term prospects of business–state relations.
34 McChesney, Money for Nothing; Shleifer and Vishny, ‘Corruption’.
35 The way it is formulated here, the argument is an extension of the ‘corruption with theft’ analytical framework proposed by Shleifer and Vishny. Corruption in this formulation allows the agency to pocket the entire amount of the bribe and not collect the official compliance fees, taxes or other transfers due to the state coffers. The proposed argument can be extended, however, to a ‘corruption without theft’ situation by breaking down the cost of compliance into the official costs to be collected for the agency coffers and the processing cost, which includes time, queuing and external clerical service fees.
36 Federal Law No. 222-Fz of 29 December 1995, ‘On a Simplified System of Taxation, Accounting and Reporting for the Entities of Small Business’.
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39 I conceptualize bribery and compliance as mutually exclusive strategies. Bribery allows firms to forgo the cost of compliance altogether. When a firm chooses to bribe, it pays no regulatory cost. To simplify the presentation, I assume that on any given issue, the firm either bribes or complies. This does not mean that the firms cannot pursue a mixed strategy over a range of issues.
40 A third strategy, in fact, exists. The total profit constraint means that if the cost of regulatory compliance exceeds a firm's revenue minus the cost of production, and other strategies are not available, the firm might be forced to go under. Operating illegally, the firm runs the risk of being prosecuted; thus, private protection mechanisms, including mafia-type organizations, are going to ensure firms’ continuing operation in the illegal sector. The firm's activity per se is not illegal – it might continue producing legal products and providing legal services. What makes the firm's operations illegal is that it exits regular regulatory relations with the state, such as paying taxes, obtaining permits and licences, and submitting its practices and products to state regulation. Such a strategy, however, goes beyond the scope of this investigation. For an analysis of entrance into the unofficial economy, see Hibbs, Douglas A. and Piculescu, Violeta, ‘Tax Toleration and Tax Compliance: How Government Affects the Propensity of Firms to Enter the Unofficial Economy’, American Journal of Political Science, 54 (2010), 18–33CrossRefGoogle Scholar.
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42 The bribe should simultaneously satisfy IF(bribe) > IF(comply), so that b < cr + pf.
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54 Models 1 and 2 are not sensitive to the inclusion of the Rule of Law control. The direction and statistical significance of the remaining coefficients does not change with the exclusion of this variable.
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