Table of Contents

1. Introduction.............................................................................................. 2
1.1

Purpose..................................................................................................... 2

1.2

Case Study Background........................................................................... 2

2. Method........................................................................................................... 2
2.1

Corruption Perceptions index...................................................................2

2.2

GDP Per Capita......................................................................................... 3

2.3

Corruption Perceptions Index vs. GDP Per Capita...................................3

3. Literature Review......................................................................................... 4
3.1

How does corruption proliferate? Game theory....................................4

3.2 How does the welfare experienced by society change as it moves from
honest to corrupt?.............................................................................................. 6
4. Conclusion.................................................................................................... 7

What effect does public sector

corruption have on economic
development?
1. Introduction

1.1
Purpose
The purpose of this report is to highlight the effects that corruption has on an
economys development. For the purposes of this report, corruption will be
defined as the misuse of public power (by elected politician or appointed civil
servant) for private gain.
Further still, economic development will be defined as efforts that seek to
improve the economic well-being and quality of life for a community by creating
and/or retaining jobs and supporting or growing incomes and the tax base. This
report will be using Nigeria as a case study and basing its findings on empirical
data collected about the country as well as from a number of academic sources.
1.2

Case Study Background

Nigeria as an area has been occupied by numerous tribes and indigenous states
for thousands of years, but modern day Nigeria was founded after British
colonial powers took over the land in the 19th century. Nigeria became
independent from Great Britain in 1960 and was governed mainly by a
succession of military governments with brief attempts at democracy until
1999. In 1999 a permanent democracy was established with Olusegun Obasanjo
becoming the elected president. Many of the elections since then have been
blighted with allegations and reports of rigging, violence and fixing, however
the election held in April 2015 was held up for being remarkably transparent.
With the victor from said election, Muhammadu Buhari, being elected with the
mandate of addressing Nigerias problems with corruption.
Nigeria currently has a population of about 173.6 million (2013) making it the
most populous nation in Africa and the 7th most in the world. Nigeria is the
world's 23rd largest economy, worth more than $1 trillion in terms of
purchasing power parity and in 2014 it overtook South Africa to become Africa's
largest economy. It must also be noted that a large source of Nigerias wealth is
due to their abundant oil deposits and as such theyre also a founding member
of OPEC. However, the country is being blighted by inequality, about 60% of the
citizens live in absolute poverty with the benefits of Nigerias increasing wealth
failing to reach the poor of the nation who need it most.
Along with their rising reputation as an emerging market, Nigerias problem
with corruption is well documented. Oby Ezekwesili, former Vice President for
Africa of the World Bank, reported that as of 2012 an estimated $400 billion of
oil revenue has been stolen by those in government and their accomplices since
independence. For the facts stated above along with the wealth of information
available, Nigeria is deemed to be a suitable candidate to examine in depth
while answering the question posed by this reports title.

2. Method
2.1

Corruption Perceptions index

The first data set used is the Corruption Perceptions index, compiled every year
by Transparency international. The aim of this index is to quantify how corrupt
the world perceives the public sector of 175 nations including Nigeria. Their
methodology involves co-opting data from independent institutions specialising
in governance and business climate analysis as well as the opinion of experts
from around the world including those currently living and working in the
nations evaluated. From an empirical standpoint this data is flawed because no
matter precautions taken perception cant be quantified with precision
accuracy. However, corruption itself is very difficult to quantify, it involves the
illegal and unreported theft and transfer of public resources so data on how
much corruption is taking place is impossible to obtain simply by way of its
nature. The CPI allows an objectivity, independence and feasibility that other
measures cant provide and in light of this it has been deemed the best source
of data to use.
2.2

GDP Per Capita

The second data set used is GDP Per Capita, this has been used because Nigeria
has a very large population, and hence it makes sense to use a measure of
national output/income for comparison between nations that takes population
into account. GDP per capita is flawed in that it doesnt take into account other
important barometers of population welfare like happiness and general feelings
of security and confidence in the future. However, compared to measures such
as the human development index, it is among the simplest and most widely
recognised and available measures of wealth and development.
2.3

Corruption Perceptions Index vs. GDP Per Capita

Deriving a correlation between corruption perceptions and national income on a

global scale can contribute towards explaining how the economic effects of
corruption related phenomena present in Nigeria might replicate themselves in
other countries. To this end the GDP per Capita and the CPI scores of 138
nations including Nigeria for the years 2011-2014 inclusive has been plotted
against their GDP per capita for the same years respectively. The result of this
is a scatter graph plotting 532 unique data points.

GDP Per Capita vs Corruption Perceptions Index for 133 countries 2011-2014
160000
140000
120000
100000
GDP Per Capita

80000
60000
f(x) = 717.94x - 14088.73
R = 0.54

40000
20000
0
0

10 20 30 40 50 60 70 80 90 100
Corruption Perceptions Index

Figure 2
As can be seen in Figure 2, there appears to be a positive correlation between
these two variables. This data generates an R statistic of 0.732 which indicates
meaningful correlation. This data also generates an R 2 statistic of 0.5359, which
tells us that about 53% of variation in national income can be explained by how
corrupt a nation is perceived to be. Of course there are many explanatory
variables that have an effect on national income, but this result suggests that
corruption perceptions and in turn absolute corruption have far reaching and
ranging effects on an economy.
In order to test how significant this datas correlation co-efficient is a T test is
performed to test the null hypothesis that there is no correlation between how
corrupt a nation is perceived to be and their national income. The necessary
critical value (t*) at 5% significance would be 1.645 while this data set
generates a t statistic of 24.736. In the case of this regression t> t* , therefore
the null hypothesis is rejected, and in its place we accept the alternative
hypothesis that there is indeed a correlation between how corrupt a nation is
perceived to be and their national income. This leads to the conclusion that the
correlation coefficient and R-statistic of this data is significant.
The conclusions that can be drawn from this isnt perfect because corruption
perception is not the same as absolute data on how much corruption is taking
place within a nation, but for reasons explained before, this data can be taken
as a close enough depiction of the global corruption landscape. For that reason,
it can be deemed appropriate to believe this correlation still exists to a similar
degree for absolute corruption and national income.

3. Literature Review
3.1

How does corruption proliferate? Game theory

Society

Individu
al

Honest

Corrupt

Honest

s , i

s , (
i

Corrupt

( )s , ()i

( )s ,
()i

Figure 2

= Denotes individual welfare

= Denotes

society welfare

= The welfare experienced by society when it is transparent

= The welfare experienced by society when it is corrupt

= The gains an individual makes from engaging in corruption

= Risk of getting caught, potential punishment if caught, moral cost

of being corrupt

= The cost of living in a corrupt society

= The cost of maintaining honesty/transparency in a corrupt society
Individual corrupt if they perceive: ( )i >

and/or (

>

The above matrix attempts to explain the decision making process a politician,
civil servant or public sector official might go through when faced with the
option of becoming corrupt. In this model the only rational welfare maximising
decision maker is the individual, while societys decision is simply an
aggregation of the decisions made by the individuals within said society. This

matrix essentially demonstrates how rational choice theory operates in regards

to corruption.
If society starts off honest, the individual is faced with the option of becoming
corrupt or maintaining the transparency standards of the society he is part of.
The choice the rational agent will make will largely depend on whether

()i > i

and the magnitude by which this is the case. This plays out in

different ways depending on who is committing the acts of corruption as well as

the mechanism by which corruption is taking place. In the example of a low
level government functionary depending on how they perceive the size of the
variables in the inequality,

( )i > i , may hold true and hence in order to

maximise personal welfare, it would be rational to engage in corruption. The

individuals welfare ( i

when transparent in a transparent society would

depend largely on the salary and remuneration their job brings. While the gains
they would make from corruption (

for example might be the acceptance of

speed money in order to fast track admin related requests which would
provide him extra income on top of the salary he already receives. On the other
hand the variable (

he may believe is quite small, due to him only

accepting negligible sums, and the chances of him being caught slim as long
as himself and those complicit maintain secrecy and discreteness. He may not
feel perturbed by the punishment he would likely face for accepting those
amounts. He may also not feel a weight on his conscience otherwise known as a
moral cost, due to the small sums hes gaining and due to not being able to
perceive any negative externalities as a result of his behaviour.
A large cause of corruption present in Nigerian governance is due to the lack of
transparency. Transparency the obligation of government to share information
with its citizens. One example of how lack of transparency requirements can
translate to corruption is in the area of public procurement. If it is not required
by law or procedure to make details of public procurement deals known to the
public or superiors, what stops a government official from receiving a bribe in
order to award the contract to a lesser qualified company? Or awarding the
contract to a family member/friend/business associate and over paying for the
scope of their work? As such, transparency requirements or the lack of is a very
important factor in how large the individual decision maker perceives (
compared to ( ).
This rational decision will play out over and over again with numerous
individuals, and if ()i > i , holds true for enough of them and theyll
chose to maximise their welfare by being corrupt, society will then move from
honest to corrupt.
Looking at the decision process undertaken when an honest individual is faced
with becoming corrupt in an already corrupt society, if this individual is welfare

maximising, then they would resort to corruption if

()i >(

i . The

individual who is honest in a corrupt society is likely worse off than the
individual who is honest in an honest society, due to the related costs that come
with maintaining such a moral stance, as denoted by ( . These costs involve
for example, being relatively poorer than ones peers who supplement their
income with the proceeds of corruption. These costs could also mean a
potentially lower salary, due to the theft of state funds leaving a smaller pot for
remuneration of public sector staff. Another cost might also be living with
defunct/deficient public infrastructure, brought upon by the inefficiencies of
corrupt government.
The shortcomings in Nigerias infrastructure as a result of corruption affects the
countrys working class the most (some of whom will be employed by the public
sector), with pro-poor public policies and schemes incompletely implemented or
not at all. Due to their wealth, the middle and upper classes will be better
equipped to insulate themselves against deficient infrastructure which in the
case of Nigeria has manifested itself in a poor public power supply, poor public
waste management, a corrupt police force, poor public healthcare service, large
scale health & safety breaches and so on. In this instance, the degree to which
this is true will affect how large the decision making individual perceives the
likely gains from corruption ( ).
On this basis it is believed that corruption has a self-perpetuating element.
People can be driven to corruption because the national infrastructure fails to
provide citizens with basic securities, as a result of corruption. Hence when
faced with the opportunity, those with any sort of power, from lowly public
functionaries to the president himself will engage in corruption, the proceeds of
which will help provide financial, health, educational, job and physical security
for themselves, their families, associates and their future generations.
A pertinent example of this can be found when looking the national power
supplier, the Power Holding Company of Nigeria. The PHCN doesnt have the
capacity to produce the energy needed to supply every area of Nigeria with
constant power, and actually severely under produces this quantity. In urban
areas, the power supply is erratic, often cutting out for days. In the suburbs,
villages, towns and rural areas, the supply may be non-existent. As such, those
who can afford it, it is very common to have home generators, which are used to
supply domestic power when the public supply cuts out. Constant power supply
elevates the quality of Nigerian family life tremendously, home cooling systems
can be reliably used, fridges and freezers can reliably preserve food, constant
access to the internet and information technology devices opens up a world of
opportunities, homes have a constant light supply amongst other benefits of
electricity that one can imagine. On this basis, accepting a bribe ( ()i
>(

i ) that will help pay for the installation of domestic generator, or the

fuel a generator needs, for example suddenly becomes an attractive option

when the huge difference it can make to life is brought into consideration.

3.2

How does the welfare experienced by society change as it moves

from honest to corrupt?

The change in welfare is experienced by society as it moves from honesty to

transparency, as depicted in the model in the Figure 2 is ( s -

s ) So

examining the economic effects of corruption will help show the degree to
which this function is negative.
One manifestation of a corrupt society is that it can deter foreign direct
investment, in fact, merely the perception of corruption can deter investment.
Corruption causes market distortions and failure, as demonstrated in the area
of public procurement. In an honest society, the firm offering the highest quality
end product, or perhaps the cheapest product might expect to win the contract.
However, in a corrupt society, this might not be the case if a rival firm bribes
the public contract awarders, or if personnel from the rival firm have familial
ties with the public contract awarders. This can make investment prospects that
would otherwise be viable, riskier, due to the market distortions corruption
introduces. The experience of these distortions will be further exacerbated if a
foreign investor decides to maintain honesty in their dealings within a corrupt
society ( ).
AD = C + G + I + (X M)
Investment is widely agreed to be a variable of aggregate demand, so if
corruption deters foreign investment, then AD will be negatively affected.
Primarily from a smaller figure for absolute investment than would be had if the
country were deemed honest/ethical. By missing out on Foreign direct
investment, Nigerias economy missies out on the secondary effects to
consumption, through the multiplier effect, as well missing out on the
government revenue from the taxing of the investment profits. Further still,
companies that have just received investment are likely to increase their
employment as they seek to expand their operations. The unemployment rate in
Nigeria as of Q3 2015 is 9.9%, this is quite high and by this reasoning, could be
remedied partially by the alleviation of corruption making Nigeria a more viable
option for investors. A business report conducted by EY stated that the opinions
of investors towards west Africa are rather polarizing. With those who have
already invested, rather excited by the economic growth that area of the world
is experiencing. With those who havent invested seeing Africa as the least
attractive investment prospect. It is perhaps the investment funds of the latter
group of people that could help increase employment in Nigeria along with
bringing other economic benefits.
Corruption in relation to Nigerias oil industry has oft been discussed by the
press, academics and politicians and is a big example of how corruption leads to
a less than optimal outcome for the economy. Firstly, The Nigerian National
Petroleum Corporation (NNPC) is the oil corporation through which the federal
government of Nigeria regulates and participates in the country's petroleum
industry. Corruption has led to the brazen embezzlement theft of state oil
revenues and provisions by politicians and people working for the public
company. For example, between 2007 and 2009 alone KPMG auditors found
that, the NNPC over-deducted 28.5 billion (96,610,904.14 as of 30/12/2015)

in subsidy claims. It has not been able to account for the sum ever since.
Secondly, the operations of foreign drilling and refinement companies such as
Shell and Exxon has led to some appalling outcomes for the people of Nigeria.
The infrastructure that these foreign firms use has often been described as
inadequate, leading to oil spills, air pollution amongst other environmental
abuses. It has long been suspected that politicians have turned a blind eye to
these abuses after being given bribes and kickbacks foreign firms. These
environmental abuses have decreased the quality of the air supply in affected
areas, destroyed nearby farming land, killed ecosystems and destroyed nearby
lakes and rivers. For many people this has meant a loss of their livelihoods,
continued long term health problems and destruction of immediate sources of
food. The remedy for this would be for politicians to demand that the oil
companies, upgrade their infrastructure and equipment, so that their operations
are far less damaging for the surrounding environment. Further still, these
companies should be demanded to pay for and oversee the necessary clean-up
operations and compensation for those negatively affected by their operations.
This is unlikely when the politicians and regulators who are have the ability to
impose reactionary sanctions are being paid off for their inaction. In fact, in
2010 Wikileaks uncovered cable communications that seemed to suggest that
Shell were infiltrating the government, by seconding staff to public office, as
well as sending staff to work and run for public office. In order to monitor
movements and deliberations that would affect the companys business as well
as advocating for Shells interests in the country.
Corruption in Nigeria has also lead to much reported economic inequality, with
60% of the population living on less than $2 a day. As mentioned before,
corruption leads to pro-poor public policies and schemes being incompletely
implemented or not at all, further still as made plausible by the infiltration of
Shell in the Nigerian government, corruption can also lead to the
implementation of policy favourable for corporations but inherently Anti-poor.
Corruption involves the theft of public funds and resources, it also involves
public officials and politicians eschewing the public interest and rather acting in
their own. When this takes place at a large scale, there arent enough funds
neither is there the political will to commission the building of a school, or to
pay salaries for enough doctors and nurses to service a local area, or to
establish a safe and reliable public transport system for example. The examples
just given will affect the poorest in society the most, when the government cant
provide safe or reliable transport, they cant afford to. When the provision of
public education isnt adequate, the poor cant afford to seek private education.
When there is little to no public provision of healthcare, the poor cant afford
private treatment. As one can imagine, the lack of pro poor policy
implementation keeps the poor uneducated, it keeps them unhealthy, it excludes
them from financial/job opportunities based on distance, it makes them more
susceptible to crime, it means their homes are poorly powered etc. All of which
considerably inhibit upward social mobility.

4. Conclusion
From the correlation struck upon in section 2 and the findings discussed in
section 3 it can be concluded

s > s , and by a considerable amount too.

The Nash equilibrium of the game depicted in Figure 2 if

( )i > i

holds

true for every welfare maximising public servant, then individuals become
corrupt and so does society. This equilibrium depicts a concept known as
rational irrationality, where at the individual level the decision of an economic
agent is quite understandable, however when this individual decision is
replicated and aggregated across the economy/society, what is achieved is a
sub-optimal outcome.
Due to the nature of corruption and the challenges of quantifying economic
well-being in general a lot of the discussion in this report has subjective and
non-technical in nature. However, beyond the ability to apply a definite and
accurate number to the economic costs of corruption, it is clear that corruption
is considerably hindering development in Nigeria, yet as a result of other
factors the country is growing in spite of this. It must also be noted that a lot of
this growth is not equal, with the top quartile enjoying much of the benefits, but
evidence showing that this wealth is struggling to trickle down to the bottom
50%. The findings discussed section 3 make the clear positive correlation
between perceptions of transparency and national income quite plausible, and
further buttresses the conclusion of this report, provided that perceptions of
corruption (as measure by transparency international) are indeed indicative of
absolute corruption levels.

Loss and waste of natural resource revenue

http://fortune.com/2014/08/07/corruption-economic-benefits/
http://www.kentlaw.edu/perritt/courses/seminar/beth-sietsema-Seminar
%20Paper-real-final.htm
http://www.transparency.org/what-is-corruption/#define
http://www.bdlive.co.za/africa/africannews/2014/04/11/as-nigeria-grows-so-doesinequality-among-rich-and-poor
http://ethics.harvard.edu/blog/preferences-types-corruption
Rational irrationality: http://www.newyorker.com/magazine/2009/10/05/rationalirrationality
Methodological individualism

http://www.bribenigeria.com/the-scope-of-corruption-in-nigerian-oil-is-trulyhorrifying/
http://www.businessinsider.com/the-scope-of-corruption-in-nigerian-oil-is-trulyhorrifying-2012-10?IR=T

http://www.theguardian.com/environment/2014/aug/04/shell-nigeria-oilpollution-clean-up-amnesty
http://america.aljazeera.com/articles/2015/11/3/amnesty-shell-has-not-cleanednigeria-oil-spills.html
http://www.theguardian.com/business/2010/dec/08/wikileaks-cables-shellnigeria-spying
http://www.dw.com/en/wikileaks-exposes-shells-infiltration-of-nigeriasgovernment/a-6322658
http://www.shelltosea.com/content/wikileaks-shell-%E2%80%9Cinfiltrated
%E2%80%9D-nigerian-government

What takes place in this game is a scenario called rational irrationality where
behaviour that, on the individual level, is perfectly reasonable but, when
aggregated at a greater (economic, political, social) level, produces a suboptimal outcome.