Published on Let's Talk Development

How corruption hurts innovation in smaller firms

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Firms invest in innovations if they expect future benefits from these investments. Patents and quality certificates are means for firms to claim such exclusive gains. However, in order to obtain quality certificates and patents for innovations firms have to apply to the accredited national institutions. If national officials ask for bribes in exchange of dealing favorably with applications, then the costs of engaging in innovation rise and possibly stop firms from innovating. 
Using firm data for 48 developing and emerging countries, I investigate what corruption means for firms’ innovation efforts. I find evidence of the following 3 facts:  
1. Corruption reduces opportunities for smaller firms to engage in innovation
Corruption has negative impacts on firms’ ownership of quality certificates. In particular, corruption contributes to excluding small firms, that often show greater agility to introduce novel ideas, from innovation.
The fact that corruption is a barrier to firms’ innovation performance is a strong motivation to fight corruption. The stronger impacts of corruption on smaller firms provide additional reason for policy action. Offering opportunities for smaller firms matters to improve welfare and economic performance in developing and emerging economies. These economies show striking performance gaps with “islands of excellence” of highly innovative firms in a sea of firms of weak innovation capacities.
2. Creating objective criteria to award public services avoids negative impacts from corruption
Conversely, corruption does not affect firms’ ownership of patents. The criteria to award patents are often more objective compared to those for quality certificates. In consequence, it is more difficult for corruption-prone officials to obtain bribes for patents.
These results point to the importance of creating, where possible, objective criteria based on which firms receive innovation-related government services, including permits, subsidies and grants. Such criteria restrain corruption-prone officials’ opportunities to ask for bribes. Firms that refuse to pay bribes can demonstrate easily that they are entitled to receive government services. Diversifying the delivery of public services can also help. By reducing monopolies in the delivery of specific public services opportunities for corrupt officials to seek bribes are weakened.
3. Public institutions that support more reliable business environments foster innovation
Public institutions, including the legal system, competition agencies and other regulatory bodies, can improve conditions for innovation if they create more reliable business environments. Success in creating trust in business environments expands the likelihood of firm quality certificate ownership on top of the gains from reducing corruption. The reason is that in these environments firms collaborate more, exchange more knowledge and set up more efficient decentralized management arrangement. These factors enhance innovation.  
More on the paper

Paunov, C. (2016), Corruption’s Asymmetric Impacts on Firm Innovation, Journal of Development Economics, Volume 118, January 2016, Pages 216–231.

The findings expressed in this note and in the research paper are those of the author and do not necessarily represent the views of the OECD or its member countries.


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