A Search-Theoretic Model of Bureaucracy and Corruption

We analyze bureaucracy and corruption in a market with decentralized exchange and <93>lemons.<94> Exchange is modelled as a sequence of bilateral, random matches. Agents have private information about the quality of goods they produce and can supplement trade with socially inefficient bribes. Bureaucracy is modelled as a group of agents similar to private agents, but who enjoy centralized production and consumption. Transaction patterns between the bureaucracy and the private sector are fully endogenous. Our main finding is that centralized production and consumption in the bureaucracy also gives rise to low power incentives for the individual bureaucrats. As a result, we find conditions under which private agents bribe bureaucrats, while they do not bribe each other. An equilibrium with corruption and an equilibrium without corruption can co-exist. We discuss some welfare implications of the model.