Bribes, Lobbying, and Development

When faced with a regulatory constraint, firms can either comply, bribe the regulator to get around the rule, or lobby the government to relax it. We analyze this choice, and its consequences, in a simple dynamic model In equilibrium, when the level of development is low, firms are more inclined to bend the rule through bribery but they tend to switch to lobbying when the level of development is sufficiently high. Bribery, however, is associated with holdup problems, which discourage firms from investing. If the holdup problems are severe, firms will never invest enough to make lobbying worthwhile. The country may then be stuck in a poverty trap with bribery forever. The model can account for the common perception that bribery is relatively more common in poor countries, whereas lobbying is relatively more common in rich ones.