Is corruption the flip side of rapid economic growth?

After the Robber Barons

Is corruption the flip side of rapid economic growth? History appears to answer this provocative question with a heretical yes.

The exemplary instance is the Gilded Age in the United States, the era of the robber barons. It was a period of rapid growth, rampant corruption, rising wealth and income inequality.

Recently, Ashutosh Varshney, a political science professor at Brown University, has drawn the striking comparison between that age and contemporary India, which too features dizzyingly rapid growth, a new class of superrich entrepreneurs, a clutch of crooked politicians and a seemingly unceasing carousel of corruption scandals.

Historical analogy is tricky, but it is certainly true that India today broadly resembles the earlier American experience, both in the rapidity of economic growth and the structural transformation from an agrarian to a modern economy, and the accumulation of staggering fortunes, often through illicit means, with the attendant widening gaps between rich and poor.

One could equally point to other large emerging economies, such as Brazil, Russia or China (with India, the BRICs), which all have experienced this combination of rapid growth, rising inequality and corruption.

What is the explanation? In all of these cases, the causal mechanism is the same: Unregulated capitalism generates both rapid growth and burgeoning inequality.

In the absence of legal channels for influencing policy, such as the lobbying and campaign contributions in the United States, such attempts manifest themselves as corruption. That was true of the American Gilded Age, and it is true of the BRICs now.

Is it fair to say, then, that corruption and inequality are natural byproducts of the early stages of market-based capitalism? A superficial survey of history, from Bismarck’s Germany to Japan after World War II to East Asia in the 1970s and 1980s, seems to bear this out. Indeed, this might come to be accepted as a social-science theory, like the Kuznets curve, which shows that inequality first rises and then falls with the level of development. It could, in fact, be part of the explanation for this phenomenon.

The American experience also suggests a corollary proposition. Excessive corruption and inequality, by corroding the political process, threaten to delegitimize capitalism and the market system and so create pressures for reform and the redistribution of wealth that then temper the incentive-driven impetus to capitalist growth, which caused the inequality in the first place.

The necessity for redistribution and social policy thus becomes a mechanism for the system to correct itself. In the United States, it took the better part of the half-century preceding World War II for this to occur. The worst excesses of capitalism were reined in only when a middle class backlash led to legislative change, regulatory reform and anti-corruption rules.

In China, such a process has yet to begin, and is not likely to unless the regime perceives an existential threat. In India and in other poor democracies, by contrast, the pressures for redistributive and social policies are irresistible.