Corruption, growth, and increasing returns to production specialization

This paper builds an endogenous growth model in which a government implements entry regulations and bureaucrats are corrupt, with both governing firms' entry. We show that in the presence of increasing returns to production specialization, high corruption and high growth can coexist. This explains why some developing countries are stuck with high levels of corruption and low levels of growth, while others are not. Moreover, in the face of either stricter anti-corruption enforcement or deregulation by promoting market competition, corruption may exhibit an intensive margin response in the sense that the number of bribe-paying firms decreases, but each individual firm bribes more for a production license.