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Rule of law and democracy precluded by political corruption, a study of new democracies

Abstract We are puzzled by the large number of democratizing countries that struggle with the establishment of rule of law. I address the complex relationship that links political corruption, rule of law, and liberal democracy within an increased number of façade democracies in the world. I clarify the meanings of these interconnected concepts, and identify the causal relation between politicians with conflicts of interest and lack of rule of law. I conceptually differentiate rule of law from simple absence of corruption, explain their causal relation, and test the sequential relationship between the two. Given the endogeneity issues, I use several instrumental variables to capture only the effect of corrupt agents on the institutional outcomes. I find that after accounting for the endogenous relationship, corruption has a systematic negative effect on the level of rule of law.

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This article addresses two scholarly debates. First, it responds to a body of work

that envisions ‘good institutions’ as the path to the establishment of rule of law and

consolidation of democracy (Acemoglu, Johnson, and Robinson 2002, 2005; Diamond

2008; Fukuyama 2011; Hellman, Jones, and Kaufman 2000; North 1981, 1990;

O’Donnell 1998a, 1998b, 2001, 2004; Olson 1996; Putnam 1994; Wallis 1989; Weingast

1997). This article shows the difficulty to reach these ‘good institutions’ in contemporary

new democracies, due to political corruption. I argue that there is a causal negative

relationship between politicians’ conflicts of interest and lack of rule of law. Before we can

think of good institutions as the solution, we have to see if they are an initial viable fix, or

if we have to look more in depth at agents and the informal relationships that precede

and shape institutions.

Second, it addresses the conceptual problem in the governance literature that

places ‘corruption’ and ‘lack of rule of law’ under the same subcategory of governance,

‘respect for citizens and the state institutions,’ while the distinction between the

measurement of the two ‘is not clear cut,’ (Kaufmann, Kraay, and Matruzzi 2007, 2010,

2011). The governance scholarly work tends to treat these concepts interchangeably,

defining corruption as mere absence of rule of law, and vice versa. I argue and show that

there is a conceptual and relational distinction between the two. While political

corruption refers to a breach of trust from an official, rule of law represents the capacity

of the system to prevent this behavior through predictability of enforcement. However, if

the system is not able to create this predictability, it does not result that officials will abuse

power. Conversely, if officials are corrupt this may not shake the power of the system to

punish illicit behavior overall. Using two-stage least squares analyses with instrumental

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variables this article addresses the endogeneity problem and isolates the causal negative

effect of political corruption on rule of law in new democracies.

At the beginning of 21st century, we are starting to adjust our expectations that

except for a handful of democracies of the Western sort (Northern and Western Europe,

North America, Australia, New Zealand), we may not encounter mature or fully

consolidated democracies for quite a while. The optimism that democracy and freedom

was winning ground (at the end of 20th century) left room for disappointment in a wide

range of flawed democratic, slowly democratizing, or simply non-democratic regimes.

With all the hype, the vast majority of countries have not reached democratic rule of law and

constitutional democracy. The assumption here is that they are desirable ends. Democratic

rule of law is the political system that channels the highest number of societal demands

and protects civil liberties and human rights.

This article argues that corrupt politicians with conflicts of interest lay at the core

of the inability to move from procedural democracy to normative democracy, where all

actors accept democracy as the only game in town. Politicians (read a sizable number of

politicians) thrive on state money acquired through illegal acquisition of public contracts or

land. Winning elections is the primary motivation. Campaigns are very expensive in the

global market integrated economies, and politicians need large sums of money to pay for

their advertisements. Given the illicit character of acquiring funds, in order to protect

their freedom, they interfere with the judicial process and only superficially reform the

enforcement system. Winning elections has high stakes–i.e. freedom–in new democracies.

Rule of law evolved over centuries, and its establishment in new democracies

through surface reform proves to be an illusion. The task to create rule of law

enforcement is nowadays in the hands of politicians, the agents of change. The scholarly

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response has been to suggest a lack of ‘political will,’ (Brinkerhoff 2000; Daniels and

Trebilcock 2004; Kaufman 1998; Pzeworski and Maravall 2003; Riley 1998; Tisne and

Smilov 2004), though it has been rather general. This article proposes to focus on a more

specific type of will, that is, conflicts of interest. First, politicians not only have to secure

money for campaigns and want to increase their wealth, but also have to defend their

freedom. However, this comes in stark contrast with the need to respond to the electorate.

At the intersection of these interests lies the level of reform in a country, which stops short

of creating enforcement mechanisms to apply the maybe existing good legal body. Free

and somewhat fair elections are established in new democracies, but the legal state is not

enforced.

Theoretical considerations

After great scholars of democratization have explained the failure and success of the

democratic establishment, linking it with a set of preconditions, strong civil society,

international timing, snowball effect, previous authoritarian regime, type of transition, or

economic indicators (Almond and Verba 1963; Dahl 197; Huntington 1984, 1991; Linz

1990; Lipset 1959; Moore 1966; O’Donnell 1979; O’Donnell, Schmitter, and Whitehead,

eds. 1986; Przeworski 1991; Schmitter and Karl 1991), we notice that today, new

democracies are stuck in a stage of incomplete transformation. People in these polities

may be considered citizens in regards to their political rights, but not their civil liberties

(Zakaria 1997), because these systems lack enforcements and application of the

procedural elements of democracy; they lack rule of law, which is the legally based rule of

the democratic state (O’Donnell 1998a, 1998b, 2004). While constitutional liberalism can

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lead to democracy, it is not clear that democracy will lead to constitutional liberalism

(Zakaria 1997). This move from the procedural to the normative stage implies that all

actors (both elites and masses) respect democracy as the only rule of the game (Dahl 1971;

Diamond 1997; Lipset 1981; O’Donnell 1992, 1994; Przeworski 1991; Putnam 1993;

Stepan and Linz 1996). Given this disconnect, disappointed scholars advise for the

establishment of ‘good institutions.’ However, this proves to be more difficult than

expected. In studying the incentive structures of good formal institutions (Elster 1993;

Elster, Offe, and Preuss 1998; Weaver and Rockman 1993), we may miss the effects of

networks of relationships. The patterns of informal interactions (Mungiu-Pippidi 2003,

2006) create a different set of incentives.

Research has hypothesized that rule of law would be fostered by the business

community’s demands for property rights. However, the findings show that these

attempts have failed, because uncertainty about the legal system results in asset stripping

(Hellman 1998; Hellman and Kaufmann 2001; Hoff and Stiglitz 2002; Shleifer and

Vishny 1998). Recent findings show that business associations may challenge corrupt

bureaucracies and contribute to more effective and predictable regulatory systems

(Duvanova 2013). Foreign pressure also fell short of establishing rule of law (Carothers

2006; Emmert 2008; Nicolaides 2003), while civil society failed to overcome the collective

action problem (Weingast 1997).

Political will was hypothesized to be an obstacle to the establishment of rule of

law. I narrow down this mysterious ‘will’ explanation and I hypothesize a concrete

interest that politicians weight against reform; that is, because they misappropriate public

funds for private gain illegally, and they want to stay free despite illicit behavior, they will

not reform the enforcement mechanisms. This is a time of institution building when elites

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have extra power to design the much needed enforcement mechanisms. In this context

political corruption precedes rule of law establishment, hence before discussing how

democracy or rule of law cures corruption, we need to acknowledge the correct sequential

causal direction.

One other theoretical clarification refers to the sometimes miscategorization of

corruption as mere lack of rule of law in the governance literature. Despite the obvious

correlation between the two concepts, these are hardly interchangeable. The governance

definition places both rule of law and corruption under the same sub-theoretical

definition, “the respect of the citizens and the state for the institutions that govern

economic and social interactions among them” (Kaufman, Kray and Mastruzzi 2010).1

This blurred line should be clarified conceptually, and we need to find better measures for

both, or fix the endogeneity issues in future studies.

Political corruption refers to the breach of trust from an official, an individual,

while rule of law refers to the capacity of the system to prevent this behavior from

happening through correct predictable application of laws and enforcement of penalty. In

lieu of this ability, the result is not necessarily that public officials abuse their powers,

while, the other way around, when officials abuse their entrusted power this does not

translate into an inability of the system to enforce and prevent criminal behavior per se.

1 “In light of such inter-­‐relationships, it is not very surprising that our six composite

measures of governance [Worldwide Governance Indicators – a.n.] are strongly positively

correlated across countries. These inter-­‐relationships also mean that the task of assigning

individual variables measuring various aspects of governance to our six broad categories is

not clear-­‐cut” Kaufman, Kray and Mastruzzi (2010)

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Political corruption is one type of rule of law dysfunction, while lack of rule of law signifies

a much larger set of issues ranging from unprotected freedoms and rights, discrimination,

lack of impartiality, to an inefficient criminal justice system and bureaucracy. These may

be symptoms of lack of education, lack of resources, lack of practice, or deficient legal

codes, among others. I here argue that political corruption, as a type of behavior, affects

the establishment of rule of law, as a set of formal predictable institutions. While we may

accept that the type of behavior equals the set of incentives created by the existing

institutions, this is inapplicable in the process of state building and reforming when the

agents’ choices (that follow informal patterns) precede the type of formal institutions.

A sizeable body of literature finds that corruption is both negatively and positively

correlated with economic indicators (e.g. growth, development, inequality). However, by

comparison, the negative relationship between corruption and rule of law and corruption

and democracy is less explored. Research mostly looks at how democracy, deep

democratization, or rule of law would cure corruption (Giglioli 1996; Goldsmith 1999;

Johnston 2013, Moran 2001; Rose-Ackerman 1999; Schwartz 1999; Sandholtz and

Koetzle 2000; Van Rijckeghem and Weder 2001), but does not explain how to reach

these stages in the presence of political corruption. One study shows that democratic

legitimacy is affected by corruption (Anderson and Tverdova 2003), but does not go

through the mechanical link between corrupt politicians with conflicts of interest and the

lack of enforcement mechanisms. Other scholarly work looks at how inclusion in

democracies is hurt by corruption (Warren 2004), but does not address the implications

for rule of law establishment in new democracies. Political liberalization may in fact lead

to more corruption (Harris-White and White 1996) and party competition may

encourage unscrupulous politicians to win through vote buying and illegal party finance

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(Della Porta and Vannucci 1999; Johnston 1997; Little and Posada-Carbo 1996);

however, these studies do not go further to show these represent the main obstacles to the

establishment of rule of law. This article complements this research by showing that there

is a causal negative effect of corruption on the rule of law establishment and democratic

consolidation.

Corruption comprises a wide variety of behavior, from bribery, to embezzlement,

nepotism, and clientelism all found under the category of “abuse of public office for

private gain” (Pope 2006, p. 45). A corrupt official is one who “deviates from the formal

duties of a public role because of private-regarding (personal, close family, private clique)

pecuniary or status gains” (Klitgaard 1998, p. 23). The trend has been to enlarge its

meaning and to focus on a ‘relationship-centered’ definition, “the abuse of entrusted

power” (Sampford et al. 2006). Corruption is conceptually divided into ‘petty’ (acts

involving a small amount of money, granting minor favors, employment of relatives in

minor positions), and ‘grand’ corruption or political corruption, which is typical to senior

officials (heads of state, government ministers, top civil servants, military and security

leaders, members of parliament, judges, supreme and high court judges, governors and

local country members).

This article has only a focused goal, to show the link between political (grand)

corruption and rule of law, and through it, to liberal democracy. Its aim is not to solve the

conceptualization and determinants of corruption or to categorize it. In essence, this

article refers only to the misappropriation of public funds for private gain, but given that

hard measures for this behavior are difficult to find, and that I use corruption perception

indexes widely defined, I will test for grand corruption–the more encompassing version.

This involves extracting bribes (commissions and fees) for licenses, guarantees and loans,

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public projects or contracts, market protection, monopolies, preferential taxes, and

environmental protection or labor laws (TI and U4 Anti-corruption Resource Center).

There is concern that corruption means different things in various settings. The practice

for a beneficiary to offer a gift or tip for a public service is common in certain cultures

(Azfar et al. 2001, p. 44). It can be interpreted as a gift if the timing of the transaction is

not related to the tip (Rose-Ackerman 1999, pp. 91-111).

The other two concepts discussed here are democratization and rule of law.

Democratization may be divided into four main phases: the fall of the authoritarian

regime, transition, consolidation, and maturing of the political order. The consolidation

stage, of interest here, involves the move from the procedural to the normative stage of

democracy. Besides having established formal democratic institutions, during this stage,

the actors (elites and masses) respect the rules of the game despite poor performance

(Dahl 1971; Diamond 1997; Lipset 1981; O’Donnell 1992; Przeworski 1991; Putnam

1994; Stepan and Linz 1996). This definition used for democracy combines elements

from O’Donnell’s and Linz and Stepan’s definitions. O’Donnell envisions consolidated

democracies as having two procedural (belonging to the regime) elements, i.e. free and

fair elections and inclusive and universalistic wager; and two characteristics of the state, a

legal system that enacts and protects the rights and freedoms of citizens, and that prevents

anyone from being above the law (O’ Donnell 2007). This study adds a fifth element, the

arena of civil society, based on freedom of association and communication (Linz and

Stepan 1996). Four characteristics–separation of powers, predictability of the legal system,

independence and impartiality of judiciary, and equal protection of civil rights and

liberties–define the rule of law here.

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Political will is defined as the equilibrium between predictability of punishment for

a politician’s illicit affairs and her constituency’s demand for reform. Politicians are

assumed to be rational actors who prefer to be re-elected, to obtain rents for political

survival (given that elections are pricy), and to not be punished. The payoffs (to not

reform) of a corrupt politician are higher than the payoffs of a non-corrupt politician (to

reform), and that may be why the preferences of the first group prevail.

So, where is the causal link between grand corruption, lack of rule of law, and

unprotected civil liberties? Modern parties rely on small contributions from a rather weak

membership base. Donations from large sponsors are capped, and more often than not

international donations are out of reach. Given that success in elections depends on large

sums of money for ads (and material benefits to lure voters), in many new democracies,

this money is acquired through illegal granting of state contracts to politicians directly or

indirectly through their friendly business partners. More than a few layers of society are

involved and are affected by this trail of money. In the first place, politicians

misappropriate public funds; second, in order to protect themselves they intervene in the

judicial process and make only superficial reforms; and third, because of perpetual lack of

rule of law, citizens’ liberties and rights are not protected.

Corrupt politicians pressure political appointees from state institutions to grant

public procurement contracts or to facilitate cheap sales of state land and assets to their

personal businesses or their family or friends’ companies. The recipients of the contract

reward the influential politician with a generous commission. This side payment serves as

party/campaign finance or enrichment (sometimes as large as half the contract–up to

millions of dollars). The process is facilitated by the fact that most new democracies have

political bureaucracies that have not completed civil service reforms, or if they did, these

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reforms are not implemented. This network of influence may be inherited from the

previous authoritarian regime (when the line between the political and economic elites

was rather blurred or almost nonexistent in Communist regimes of the Soviet sort). Some

business opportunists came to wealth by exploiting the unregulated economies after the

fall of the authoritarian regime, and joined the ranks of ‘influential’ networks in this

lucrative affair. Not being corrupt can result in more damage than being so.

Because these practices create a structural conflict of interest (i.e. politicians want

the rents while the are pressured to respond to constituencies) they will chose to protect

themselves. The stakes are high and any further reform would lead to their

imprisonment. They deliberately avoid targeted reforms such as, independent, well-

funded, powerful anti-corruption agencies; supervisory bodies to enforce public wealth

declarations; civil service reform; electoral law reform; whistleblower protection; lobbying

laws; public procurement distribution supervision and transparency; and unjustified

wealth confiscation provisions. In this process rule of law establishment is delayed.

While the media and civil society may uncover these activities, and investigations

and prosecutions may follow, most of the people involved in the exposed illicit

transactions never receive punishment. The cases of corruption get dropped, or resolve

without punishment and due justification. Politicians and their business partners

intervene in the judiciary process in order to avoid punishment. They pressure the police,

prosecutors, judges, and supreme-court judges to drop their cases or suspend their

sentences without consequences. This endangers the predictability of enforcement and

hurts two pillars of rule of law, separation of powers and independence of judiciary.

The relevance of this negative causal link between political corruption and rule of

law is that it consequently affects the consolidation stage of democracy. Because the

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agents of change do not establish rule of law, the citizens’ freedoms and rights remain

unprotected by the unreformed legal system. This comes in contrast to mature

democracies that for the most part guarantee the predictable protection of civil liberties.

This does not absolve advanced democracies from their dysfunctions and problems, such

as inequality, biased regulatory systems, or racial discrimination. Albeit unfair from a

distributional point of view, at the individual level, while the taxpayer pays for the

distribution of rents in a non-equitable fashion, this happens within a system of rule of law

evolved over centuries. This is important from a predictable outcome point of view. The

average citizen is able to know, with a margin of error, what the result of state and

bureaucratic interactions will be, while this is arbitrary in new democracies. In new

democracies there is not enough integrity and impartiality from the public and judiciary

sector on a daily basis.

How are the two systems different? In established democracies, campaign finance

can be secured by donations from private actors in exchange for preferential regulation

(restricting market entry, favoring cartels, legitimizing various price-fixing strategies),

which allows firms to fund political coalitions in order to earn economic rents (Stigler

1975). This practice took an outrageous form in new democracies, the state capture,

producing highly concentrated gains to a few influential firms at a substantial social cost

(Hellman, Jones, and Kaufmann 2000; Hellman and Kaufmann 2001; Hellman 1998;

Kaufmann et al. 2000.) This practice is different from the illegal granting of substantial

procurement contracts to large companies that siphon a portion of the gains back to the

political enabler. The reforms that these politicians (with conflicts of interest) preclude,

such as supervisory bodies, anti-corruption agencies, whistleblower protection,

transparency of party finance and supervision of public procurement, are a substantively

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different class of reforms than the ones obtained in state capture (which are of an

economic nature) such as restricting market entry, price fixing, and competition.

This article does not make the case that a predictable unfair system is better than

an unpredictable unfair system. In the end, that is what some authoritarian regimes are.

It argues that predictable democratic rule of law is better than unpredictable application

of laws, and constitutional liberalism should eventually, through its capacity to channel

demands overcome its problems of redistribution.

In light of these theoretical considerations, the hypothesis of this study is that

corrupt politicians prevent the establishment of rule of law for fear of punishment if reformed and efficient

enforcement mechanisms are applied. Many layers of society are guilty of this dysfunction, but

politicians are the agents of change and carry the weight to execute the changes that

would create these predictable enforcement mechanisms. The testable hypothesis is, thus,

political corruption negatively affects the level of rule of law.

Data and Methods

The universe of cases is represented by all intermediate categories of democratizing and

hybrid regimes (any regime that is not a historically developed democracy of the Western

sort, or an authoritarian regime, e.g. China).2 I use the Economist Intelligence Unit

2 Due to space limitations, I only reproduce here cross-national time-series analyses.

However, this article is part of a larger set of findings, among which, analyses of hard cases

of corruption and judicial interference, collected during fieldwork in several new

democracies.

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(EIU) to identify the countries that fall in these categories. EIU quantifies democracy

based of five critical categories, i.e. electoral process, civil liberties, functioning of

government, political participation, and political culture. It divides the world in four

categories, full democracies (e.g. US, UK), flawed democracies (e.g. Hungary, Israel),

hybrid regimes (e.g. Albania, Russia), and authoritarian regimes (e.g. Iran). I selected the

countries in the two middle categories, and some of those labeled full democracies (that

were not part of the first historical wave of democracy), such as Spain, Portugal, and

Greece, amounting to 100 countries analyzed over 16 years (1996-2011) for all years with

available data. Though the index is dynamic and countries experience improvements or

backlashes over time, most changes occur within the same category. The panel data is

analyzed by using cross-national time-series analyses, including two-stage least-squares

models, and several cross-national tests for 2011 with alternative measures for robustness

checks.

Rule of law presents the same challenges to measure as democracy. I use the

Worldwide Governance Indicators (one of the most employed measures for governance).

The first models use the rule of law and voice and accountability measures as dependent

variables, but not control of corruption due to high multicolinearity and the issues of

definition discussed above. The measures are in standard normal units ranging -2.5 to 2.5

on a continuous scale (here rule of law from -2.23 to 2, and voice and accountability from

-2.04 to 1.54). Given that this article argues for a consequential relationship that starts

with political corruption, and goes through delayed rule of law reforms to the negative

effect on citizens’ liberties, I also use the Freedom House civil liberties score, which

measures “freedom of expressions and beliefs, associational and organizational rights, rule

of law, and personal autonomy without interference from the state.” The original scale

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has been reversed for ease of interpretation; a score of 1 indicates a country where the

civil liberties are guaranteed and respected the most, and 7, the least.

I conduct robustness checks with two of the Rule of law index measures from the

World Justice Project. This article draws its rule of law definition, mentioned above, from

this index. The first indicator, Limited government power, measures that the authority is

distributed in a manner that ensures no single organ of government has the practical

ability to exercise unchecked power. The second measure, Fundamental rights, assumes that

under the rule of law, fundamental rights must be effectively protected and governments

must guarantee the rights embodied in the Universal Declarations of Human Rights. I

use the 2012 values with the maximum number of cases. Most explanatory factors that

vary with time are lagged by one year in case of endogeneity concerns.

Since these measures, due to conceptualization or measurement, may suffer from

endogeneity with corruption, I select several instrumental variables to account for this

problem. After briefly reviewing the measures for corruption and controls, I explain the

intuition behind the choice of instruments.

The variable of interest, corruption, is one of the most difficult human behaviors to

measure due to its clandestine character (Amundsen 1999, 28). I use the Corruption

Perception Index (CPI) from Transparency International. It employs a ten-point scale to

one decimal place and uses compiled and/or published data for two previous years. The

sources use the same approximate definition “the misuse of public office for private

benefit.” The scale has been reversed for better interpretation, ranging from 1, most

corrupt, to 10, least corrupt. Even though scholars may sometimes be cautious to use this

index due to conceptualization, collection, and panel data serial autocorrelation

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concerns,3 Ko and Samajdar (2010) demonstrate that among all corruption indexes

available (e.g. ICRG, WGI, BEEPS), the CPI remains the most reliable.

Economic indicators. The classical modernization theories (Lipset 1959, Moore 1966)

hypothesize how development positively affects rule of law through the rise of the middle

class and the demand for representation and protection from one another and the state. I

test for the effects of both wealth and growth on rule of law. Since these measures may also

suffer from endogeneity, I use lagged economic indicators, which is a commonly

employed method to control for this problem (Wright 2009; Back and Hadenius 2008).

Economic development is lagged at t-1. I add a control for the financial crisis (2007), given

that it eventually affected most countries in the world. Due to delayed time effect the

binary variable is coded 1 for 2008 and further.

Institutional factors. I control for different types of democratic institutional choices

with hypothesized consequences for rule of law. Parliamentary systems (versus presidential)

may allow for more contestation and accountability, which can lead to a better rule of law

record (coded 1 for parliamentary types). Common law systems found in the UK and

3 This perception index depends mostly on largely ordinal and imprecise judgments of its

respondents. For example, there is a noted tendency for the CPI surveys to portray the view

of Western businessmen that conduct affairs overseas. It also does not integrate ‘harder’

versus ‘softer’ sources of data. Such ‘hard’ data would include figures for prosecutions for

corrupt activity. These accounts would pose another puzzle, if the high number of

prosecutions is due to the support of high corruption or as proof of low tolerance within the

respective society (Sampford et al, 2006). Despite these pitfalls, CPI remains the most

commonly employed measure for corruption.

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former British colonies4 are associated with good government; they embedded greater

property protections, better government performance, and less corruption (La Porta et.

all. 1999; David and Brierly 1985; Treisman 2000) (coded 1 for British colony).

Cultural and demographic factors. Due to the hierarchical character of certain religions,

it was hypothesized that they may be inherently incompatible with democracy. Binary

variables, Muslim, Orthodox, Catholic, are introduced to test these potential effects (coded 1 if

a simple majority of the population belongs to one religious group5). This study does not

assume a negative correlation. I also hypothesize that higher population density is associated

with a lower rule of law level due to increased personal character of interactions, easier

transmission of information, and higher degrees of connections, which can facilitate

bypassing rules (World Development Indicators).

-Appendix with summary statistics and description of variables, about here-

The instruments. In order to diminish the problems associated with endogenous

variables I use two-stage least-squares regressions (2SLS) with several instrumental

variables. This is a commonly employed method for models in which the unobservable

4 All former British colonies use common law except for the ones formerly colonized by

other countries (Quebec, South Africa, Sri Lanka) where civil law, introduced prior to the

British arrival, was retained.

5 If two or more groups had high proportions of religious affiliation of approximately equal

size the variable was coded 0, since I test if one specific religion, and not religion in general,

has an effect.

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factors that affect the dependent variable (rule of law) may be correlated with the

observable and unobservable factors affecting the variable of interest (corruption). The

first instrument is measured as the tariff rates based on un-weighted averages for all goods

in ad valorem rates, applied rates, or MFN rates (Tariffs). I conduct robustness checks

with two instruments from the World Development Indicators Burden of customs procedure (1,

extremely inefficient, to 7, extremely efficient) and Business extent of disclosure (0, no

disclosure, to 10, perfect disclosure).

In order to defend the choice of instruments I make several analytical points. The

2SLS require that two critical assumptions be met. First, that the instrument Z (Tariffs,

Burden of customs, Business disclosure) is highly correlated with the endogenous

explanatory variable X (Corruption); second, that the instrument Z is not correlated the

unobservable factors influencing the dependent variable Y (Rule of law), including the

restriction that Z does not directly affect Y.6 I justify the use of instruments by showing

that Tariffs (Burden of customs, Business disclosure) is correlated with corruption but not

with rule of law.

6 The method includes two stages. In the first stage, the instrumental variable (Z) is used as

an independent variable, while the endogenous variable (X) is the dependent variable. The

second stage consists of an OLS regression using the predicted values of the newly created

variable to approximate the main dependent variable (Y). For example, I approximate first

the values of corruption by the levels of tariffs, and the fitted values obtained are used to

approximate the level of rule of law.

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‘Tariffs’ (Z) correlates with corruption (X). One accepted framework to justify this

relationship is Ades and di Tella’s model (1999), i.e. given that low tariffs lead to higher

imports, there will be a ‘foreign competition effect,’ which will decrease the level of

corruption through better regulation and practices. On the contrary, high tariffs

discourage imports and decreases competition, fueling domestic corruption. The second

framework, the ‘direct policy effect’ (Gatti 2004) refers to this last point, that restrictions

to trade and financial flows lead to opportunities for collusive interactions between private

actors and the public sector with exchange of favors and bribes. Scholars doubt that the

foreign competition model leads to rule of law (Hellman 1998; Hellman and Kaufmann

2001; Hoff and Stiglitz 2002; Shleifer and Vishny 1998), but we can be more confident

that restrictions to trade lead to inside deals and more corruption.

‘’Tarrifs’ (Z) does not directly or indirectly affect rule of law (Y). This is an unknown fact.

It is nearly impossible to definitely test the absence of contamination between them, so I

will make an airtight theoretical case for this choice. I selected a measure that

approximates corruption and has the least anticipated effect on rule of law. The question

Table 1. Correlations of variables of interest

Corr RoL Voice &Acc

FHCL Lim Gov

Fund Right

Tariff Wealth Burden Custom

Business Disclose

Corruption

1

Rule of law

-.87 1

Voice and Account.

-.67 .79 1

FH Civil Liberties

-.51 .69 .91 1

Limited Government

-.77 .80 .78 .70 1

Fundamental rights

-.65 .71 .79 .78 .79 1

Tariffs

.32 -.12 -.07 -.10 -.43 -.58 1

Wealth (GDPpc)

-.68 .65 .52 .43 .55 .62 -.27 1

Burden of Customs

-.74 .73 .45 .39 .66 .47 -.45 .54 1

Business Disclosure

-.22 .14 -.05 -.08 .22 .17 -23 .11 .24 1

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is whether the level of tariffs may in any way account for determinants of freedoms and

liberties, separation of powers, independence of judiciary, or enforcement of laws, directly

or indirectly. Or more importantly, given that tariff rates affect trade openness and

competition, do these translate into civil liberties and enforcement of laws?

The relationship between the economy and trade openness may be clearer than its

translation into rights and freedoms. It suffices to look at Singapore and China. Leading

rule of law indexes place Singapore at the top, as one of the ‘cleanest’ economies in the

world. However, that is not democratic rule of law. Just because Singapore had a zero

tariff rate for more than a decade (0.4 from 1995 to 1997 and 0 after), it did not translate

into less authoritarian practices, or into checks and balances on power and better civil

liberties records. China’s openness increased tremendously in the past two decades; its

tariff rates dropped from 42.9 in 1991 to 7.9 in 2010. However, China does not display

limited government powers, fundamental rights, or fair access to civil and criminal justice.

The issue is that demand for rule of law meets politicians’ conflicts of interest.

They have no incentive to establish enforcement mechanisms in order to apply the legal

provisions of the democratic state. If we observe a relationship between low tariff rates

and rule of law, this may be spurious. What led to change in trade policy may have

determined political transformation too. The link is simultaneous and not consequential.

For instance, in Central and Eastern Europe the tariffs were lowered after 1989, while

conducting serious reforms to establish democratic institutions and rule of law. One can

hardly argue that the reason these countries democratized is because of lower tariffs.

Something else determined both. The same logic applies for the Burden of customs

instrument, used to conduct robustness checks.

21

Business extent of disclosure is correlated with corruption. The more a firm can cover its

affairs, the more it has an incentive to hide illicit deals in its accounting. For instance the

bearer shares legislation in the Czech Republic protected the identity of shares holders

(making knowledge about their history and affairs nearly impossible). These provisions,

and the lack of transparency in general, invite shady deals and money laundering,

transfer of contracts from one company to another, delegation of contract execution

between two companies jointly owned by the same person(s) at a higher price, and illegal

bidding against each other. Many tricks can be covered without disclosure.

Business extent of disclosure is not correlated with rule of law or with the unobservable factors of

rule of law. Enforcement of business extent of disclosure may be affected by rule of law.

But we need to pay attention to the causal arrow. Does business transparency lead to rule

of law? Did business disclosure in Singapore and China lead to more democratic rule of

law and better records of civil liberties? It may lead to more governmental control

increasing the supervision capacity over the businesses’ affairs, but not to democratic

practices of checks and balances, independent judiciaries, and respect for human rights

and civil liberties.

Given the assumed time effects, the instruments are also lagged, a method that

also helps fix endogeneity issues. For more robustness checks, I run separate tests without

instrumental variables, but only with the lagged variable of interest, corruption, at t-2.

This should double-check the results in case the instruments are weak.

22

The two-stage least squares generic regression model for this study is:

1st stage + Tariffs + X+ + +

2nd stage Rule of law = + Corruption + X + + +

I use the above econometric model to separately test the effects of the variable of

interest (Corruption) against all selected Rule of law indicators. Here X is a vector of control

variables such as economic, institutional, cultural, and demographic indicators. These are

cross-sectional time-series analysis with random effects.7

Results

The results are in line with the expectations. There is an isolated negative effect of

corruption on the rule of law level, withstanding robustness checks and different choices

of instrumental variables.

In models one through five I use Worldwide Governance Indicators (Rule of law

and Voice and Accountability) and the Freedom House Civil Liberties indicator as measures for

rule of law; the Corruption Perception Index (TI) for corruption and Tariffs as an instrumental

variable. Model one looks at the bivariate relationship between rule of law and

corruption, instrumented with level of tariffs, and is statistically and substantively

significant (-.202, p<.10).

The second model is a base model for rule of law and all its assumed

determinants except the variable of interest, corruption. According to the expectation,

7 The Hausman test reveals that there are no qualitative differences in results between

random effects or fixed effects. I opted for a random effects model.

23

having a parliamentary system leads to better rule of law records (.035, p<.05), while

financial crisis results in less rule of law (-.021, p<.10), though substantively they are small

effects. Wealth has positive effects (p<.01), but only for a large increase in GDP per

capita. Thus, if wealth rises by approximately $10,000 per capita within a year, then we

can see an increase of .038 in the rule of law index. This is not substantively powerful

compared to the corruption effect in models three to five.

Model three tests for the effect of the variable of interest, Corruption, on the Rule of

Law (WGI) indicator; in model four on Voice and Accountability (WGI); and in model five, on

Civil Liberties (FH) plus all the controls. Thus, while economic development, growth, and a

parliamentary system can increase the level of rule of law, corruption decreases it

substantially (-.222, p<.10, for Rule of Law; -.217, p<.05, for Voice and Accountability;

and -.763, p<.05, for Civil Liberties). Given that the range of the Rule of law measure is

-2.23 to 2, and Voice and Accountability is -2.04 to 1.54, then corruption accounts for a

sizable part of the score. Similarly, given that the Freedom House measure varies from 1

to 7, the coefficient -.763 can move a country from one EIU democracy category to

another.

A parliamentary system has a constant positive effect on rule of law in models

three and four, but a more meaningful effect on voice and accountability (.19, p<.10),

which confirms that participation and contestation increase within systems where citizens

channel their demands through more powerful parliaments. Similarly, financial crisis

keeps its significant levels in models three and four (-.057, p<.01; and -.035, p<.05). The

British colony control is surprisingly non-performing, except for the fifth model where it is

negatively correlated with civil liberties (-.465, p<.05). Contrary to expectations, the

common law legacy (assuming that is what the measure captures) does not lead to a good

24

civil liberties record, but makes it worse. The development measure (GDP per capita)

loses significance in models three and four (WGI), and gains it back in the Freedom

House model. This speaks to an omitted variable bias if we do not control for corruption.

As expected, economic growth is significant (models four and five); however, just

like development, it has substantive significance only for sizeable increases in the level of

GDP per capita. If there is an abrupt increase of $10,000 per capita per year, then we can

see a one point increase in the Freedom House score and a .13 increase in the voice and

accountability index. Also as expected, the population density is negatively associated

with rule of law. An increase of 1000 people per square kilometer leads to a .27 decrease

in voice and accountability (p<.01), a .93 lower civil liberties (FH) score (p<.01) and a .08

decrease in rule of law (p<.10). The cultural/religious indicators do not reach

significance.

Models six through eight are robustness checks with lagged variables to control for

endogeneity issues (Corruption at t minus 2 and Wealth at t minus 1). The results are

consistent. Corruption continues to have a negative effect on rule of law, though of a

smaller magnitude, perhaps due to the time lag (-.06, at p<.01 on Rule of Law WGI; -

.057 at p<.01 on Voice and Accountability WGI; and -.053, p<.10 on Civil Liberties).

The institutional factors maintain the same significance. Parliamentary systems are

positively correlated with higher levels of rule of law, though the effect on Voice and

Accountability .272 (p<.01) is significantly stronger than on Rule of law WGI. The effect

on Civil liberties (FH) is .293 (p<.10). The common law legacy is again surprisingly not

significant, and in one case, actually, negatively related to civil liberties (-.308, p<.10).

Development (models six and eight) and growth (models seven and eight) remain

significant, though much less substantively meaningful. The financial crisis negatively

25

impacts Voice and Accountability WGI (-.026, p<.05). Unlike the 2SLS regressions, these

time-series cross-national analyses with random effects generate some statistically and

substantively meaningful results for religious measures. Thus, countries where

Catholicism is the dominant tradition have, contrary to previous arguments, more voice

and accountability (.237, at p<.05). However, in line with previous theories, in countries

with a Muslim majority the level of rule of law is somewhat lower (-.29, p<.05, for Voice

and Accountability WGI, and -.58, p<.05 for Civil Liberties FH). Additionally,

population density maintains significance (models seven and eight), but only for large

increases in the number of people inhabiting a square kilometer. With an increase of

1000 people we are expected to find a -.16 (p<.01) decrease in voice and accountability

and -.56 (p<.01) in civil liberties.

In models nine through fourteen I conduct robustness checks (cross-national) with

different measures for rule of law (Limited Government Powers and Fundamental Rights

from WJP) and instruments (Burden of Customs in models ten and thirteen, and Business

Disclosure in models eleven and fourteen), and show consistent significant results for the

negative effect of corruption on rule of law. Model nine tests Limited Government Powers

as an alternative measure for Rule of law and Burden of Customs (WDI) as an instrument

for corruption with significant results (-.085, p<.01). In model ten, the instrument is

Business Disclosure (WDI), also with significant results (-.135, p<.10). In model thirteen

rule of law is measured as Fundamental Rights WJP, and corruption is instrumented with

Burden of Customs, again with negative effects (-.062, p<.01).

26

Table 2. Corruption effect on rule of law (instrumented) For all models the instrument for corruption is the level of ‘Tariffs’

---------------------------------------------------------------------------------------------------- (1) (2) (3) (4) (5) Rule of Law WGI Rule of Law WGI Rule of Law WGI Voice and FH Civil

Accountability WGI Liberties(Tariffs-IV) (Tariffs-IV) (Tariffs-IV)

----------------------------------------------------------------------------------------------------Corruption (IV) -0.202* -0.222* -0.217** -0.763** (t-2) (0.108) (0.142) (0.0855) (0.309)

Rule of Law Lag 0.924*** 0.441** 0.118** -0.156 (t-1) (0.011) (0.187) (0.0572) (0.321)

INSTITUTIONAL FACTORS

Parliament 0.035** 0.081** 0.191* -0.0044 (0.014) (0.0409) (0.103) (0.192)

British Colony -0.0017 0.033 -0.109 -0.465** (0.014) (0.0450) (0.103) (0.188)

ECONOMIC FACTORS

Wealth (GDPPC) 0.0000038*** 0.0000075 0.0000069 0.000044***(t-1) (0.0000011) (0.000007) (0.000004) (0.00001)

Growth 0.000007 0.000007 0.000013* 0.0001*** (0.000006) (0.00001) (0.000007) (0.00002)

Financial Crisis -0.021* -0.057*** -0.035** -0.028 (0.012) (0.019) (0.015) (0.053)

CULTURAL FACTORS

Protestant 0.019 -0.0429 0.161 0.251 (0.02) (0.07) (0.129) (0.243)

Catholic 0.0079 -0.071 0.133 -0.0083 (0.017) (0.0640) (0.108) (0.218)

Muslim -0.0075 -0.0061 -0.177 -0.228 (0.0242) (0.0620) (0.150) (0.267)

Orthodox 0.016 -0.0159 -0.114 -0.088 (0.023) (0.0643) (0.154) (0.272)

DEMOGRAPHICS

Population Density 0.0000032 -0.000081* -0.00027*** -0.00093*** (0.00001) (0.00004) (0.00007) (0.0001)

Constant 1.084 -0.05*** 1.308 1.484** 10.11*** (0.688) (0.019) (0.947) (0.595) (2.082) ----------------------------------------------------------------------------------------------------Observations 630 870 511 510 583 Overall R-squared 0.75 0.94 0.89 0.57 0.38 Wald Chi2(12) 3.51 14715 1507 128 165 df_m 1 11 12 12 12 ----------------------------------------------------------------------------------------------------Standard errors in parentheses* p<.10, ** p<.05, *** p<.01

27

Table 3. Corruption effect on rule of law (without instruments)

-------------------------------------------------------------------- (6) (7) (8) Rule of Law WGI Voice and FH Civil

Accountability WGI Liberties --------------------------------------------------------------------Corruption -0.0613*** -0.0573*** -0.0537* (t-2) (0.0105) (0.0122) (0.0311)

Rule of Law Lag 0.828*** 0.220*** 0.439***(t-1) (0.0207) (0.0267) (0.0703)

INSTITUTIONAL FACTORS

Parliament 0.0352** 0.272*** 0.293* (0.0163) (0.0757) (0.156)

British Colony -0.00487 -0.0151 -0.308* (0.0173) (0.0833) (0.167)

ECONOMIC FACTORS

Wealth (GDPPC) 0.00000264* 0.00000198 0.0000526***(t-1) (0.00000139) (0.00000246) (0.00000591)

Growth 0.00000397 0.00000881** 0.0000857*** (0.00000625) (0.00000447) (0.0000130)

Financial Crisis -0.0231 -0.0269** -0.0447 (0.0143) (0.0113) (0.0339)

CULTURAL FACTORS

Protestant 0.00187 0.144 0.384 (0.0247) (0.117) (0.235)

Catholic -0.0216 0.237** 0.324* (0.0193) (0.0929) (0.195)

Muslim -0.0214 -0.291** -0.588** (0.0261) (0.130) (0.268)

Orthodox 0.00989 -0.0147 -0.229 (0.0254) (0.129) (0.267)

DEMOGRAPHICS

Population Density -0.0000175 -0.000166*** -0.000567*** (0.0000108) (0.0000459) (0.000100)

Constant 0.355*** 0.394*** 5.306*** (0.0711) (0.123) (0.286) --------------------------------------------------------------------Observations 710 706 803 Pseudo R-squared 0.94 0.62 0.57 Chi 11106 212 280 df_m 12 12 12 --------------------------------------------------------------------Standard errors in parentheses* p<.10, ** p<.05, *** p<.01

28

Table 4. Corruption effect on rule of law (Limited Government and Fundamental Rights WJP)

-------------------------------------------------------------------------------------------------------------------- (9) (10) (11) (12) (13) (14 ) Limited Gov. Limited Gov. Limited Gov. Fundamental Fundamental Fundamental

Powers WJP Powers WJP Powers WJP Rights WJP Rights WJP Rights WJP (Burden (Business (Burden (Business

Customs -IV) Disclosure -IV) Customs -IV) Disclosure -IV)--------------------------------------------------------------------------------------------------------------------Corruption -0.085*** -0.135* -0.062*** -0.106 (t-1) (0.019) (0.075) (0.018) (0.07)

INSTITUTIONAL FACTORS

Parliament 0.017 -0.015 -0.029 0.026 0.0039 -0.0082 (0.031) (0.028) (0.043) (0.027) (0.027) (0.04)

British Colony 0.029 0.041 0.047 -0.047 -0.039 -0.035 (0.042) (0.035) (0.046) (0.036) (0.034) (0.043)

ECONOMIC FACTORS

Wealth (GDPPC) 0 .0000063*** 0.00000083 -0.0000021 0.0000075*** 0.0000034 0.00000084 (t-1) (0.000002) (0.000002) (0.000005) (0.000001) (0.000002) (0.000004)

Growth 0.000056*** 0.0000015 -0.000031 0.00003* -0.0000095 -0.000038 (0.00001) (0.00001) (0.00005) (0.00001) (0.00001) (0.00004)

CULTURAL FACTORS

Protestant 0.041 -0.013 -0.046 0.014 -0.024 -0.052 (0.054) (0.048) (0.076) (0.046) (0.047) (0.071)

Catholic -0.026 -0.04 -0.046 -0.014 -0.023 -0.029 (0.04) (0.034) (0.044) (0.034) (0.032) (0.042)

Muslim 0.0095 0.0094 0.036 -0.026 -0.03 -0.0066 (0.05) (0.044) (0.056) (0.043) (0.042) (0.052)

Orthodox -0.095** -0.057 -0.033 -0.045 -0.014 0.0073 (0.045) (0.041) (0.063) (0.039) (0.039) (0.059)

DEMOGRAPHICS

Population Density -0.000048** -0.00005*** -0.000051** -0.000041** -0.000042*** -0.000043** (0.00001) (0.00001) (0.00002) (0.00002) (0.00002) (0.00002)

Constant 0.469*** 1.108*** 1.472** 0.555*** 1.019*** 1.342** (0.0396) (0.147) (0.562) (0.0342) (0.142) (0.526) --------------------------------------------------------------------------------------------------------------------Observations 59 56 58 59 56 58 R-squared 0.49 0.66 0.42 0.53 0.61 0.39 F 5.34 8.54 4.3 6.36 7.35 4.33 ll 58.71 67.33 Df_m 9 10 10 9 10 10 --------------------------------------------------------------------------------------------------------------------Standard errors in parentheses* p<.10, ** p<.05, *** p<.01

29

Table 5. First stage regression results (IV) - Level of Tariffs, the instrument for corruption

-------------------------------------------------------------------- (3) (4) (5) Rule of Law WGI Voice and FH Civil

Accountability WGI Liberties --------------------------------------------------------------------Tariffs 0.024** 0.039*** 0.026*** (t-2) (0.008) (0.008) (0.007)

Rule of Law Lag -1.269*** -0.543*** -0.997***(t-1) (0.07) (0.081) (0.078)

INSTITUTIONAL FACTORS

Parliament -0.079 -0.604*** -0.313** (0.095) (0.226) (0.137)

British Colony -0.144 -0.401 -0.253* (0.11) (0.264) (0.156)

ECONOMIC FACTORS

Wealth (GDPPC) -0.000039*** -0.000018* -0.000011(t-1) (0.00003) (0.00001) (0.00001)

Growth 0.000008 0.000013 0.000019** (0.000026) (0.000019) (0.000023)

Financial Crisis 0.051 0.004 0.065** (0.048) (0.041) (0.047)

CULTURAL FACTORS

Protestant -0.279** -0.101 -0.228 (0.136) (0.339) (0.199)

Catholic -0.284*** -0.327 -0.312** (0.11) (0.273) (0.195)

Muslim 0.11 0.443 0.244 (0.15) (0.384) (0.223)

Orthodox 0.109 0.463 0.20 (0.162) (0.401) (0.234)

DEMOGRAPHICS

Population Density -0.00026*** -0.0005*** -0.0004*** (0.000064) (0.00014) (0.000092)

Constant 6.373*** 6.42*** 6.39*** (0.152) (0.284) (0.19) --------------------------------------------------------------------Observations 511 510 583 F 1005 131 409 --------------------------------------------------------------------

30

Table 6. First stage regression results robustness checks with World Justice Project Rule of law Index (IV) – Burden of customs and Business extent Disclosure as instruments.

Lastly, in model fourteen, the rule of law is measured as Fundamental Rights and

the instrument is Business Disclosure, but this does not generate significant results.

Models nine and twelve are base models. We observe significant results for

development and growth again, though not unlike previous models, only for a large

------------------------------------------------------------------------------------- (10) (11) (13) (14) Limited Gov. Limited Gov. Fundamental Fundamental

Powers WJP Powers WJP Rights WJP Rights WJP ---------------------------------------------------------------------------------------Burden of Customs -1.023*** -1.023*** (t-1) (0.174) (0.174)

Business Extent -0.088 -0.088of Disclosure (0.059) (0.059)

INSTITUTIONAL FACTORS

Parliament -0.175 -0.326 -0.175 0.326 (0.246) (0.314) (0.246) (0.314)

British Colony 0.393 0.628 0.393 0.062 (0.321) (0.412) (0.321) (0.412)

ECONOMIC FACTORS

Wealth (GDPPC) -0.000047*** -0.00006*** -0.000047*** -0.000065*** (t-1) (0.000016) (0.00002) (0.000016) (0.00002)

Growth -0.00034** -0.00057*** -0.00034** -0.00057*** (0.00014) (0.00014) (0.00014) (0.00018)

CULTURAL FACTORS

Protestant -0.528 -0.651 -0.528 -0.651 (0.420) (0.529) (0.420) (0.529)

Catholic -0.65 -0.265 -0.065 -0.265 (0.303) (0.399) (0.303) (0.399)

Muslim 0.178 0.392 0.178 0.392 (0.395) (0.506) (0.395) (0.506)

Orthodox 0.234 0.584 0.234 0.584 (0.360) (0.467) (0.360) (0.467)

DEMOGRAPHICS

Population Density -0.0000141 -0.000437*** -0.0000141** -0.0000437** (0.00013) (0.00018) (0.00013) (0.00018)

Constant 11*** 7.912*** 11*** 7.912*** (0.672) (0.497) (0.672) (0.497) --------------------------------------------------------------------------------------- Observations 56 58 56 58 F 18 9.18 18.24 9.18 ----------------------------------------------------------------------------------------Standard errors in parentheses* p<.10, ** p<.05, *** p<.01

31

increase in GDP per capita. However, these economic measures lose the statistical

significance as soon as we add corruption, instrumented either with Burden of Customs

or with Business Disclosure. This can mean that the base models may have suffered from

omitted variable bias and that the positive effect from GDP per capita is overshadowed

by corruption (interpretation further down).

The population density comes out significant in all models. However, only for

sizable growth in the number of people per square kilometer do we anticipate a small

decrease in rule of law. For instance, for an increase of 1000 people we expect a -.05

decrease in Limited Government Powers (WJP) and -.04 in Fundamental Rights (WJP). A

majority Orthodox tradition in a country results in a lower level of Limited

Governmental Powers (-.095, at p<.05) in the base model, but it loses significance in all

other models.

The first stage results are reported in Tables 5 and 6. The F test against the null

hypothesis that the coefficients on the instruments other than the constant are not zero is

significant at the p<.01 level for all 2SLS models.8 For a single instrumental variable, F

statistics under 10 are thought to suggest a problem of weak instruments (Sovey and

Green 2009; 2011), which for most of the models here is not the case.

Discussion and concluding remarks

‘Political will’ was conceptualized as ‘conflicts of interest’ and measured as the

level of perceived corruption. A jump of about five corruption points, half of the 8 F=1005 (Model 3), F=131 (Model 4), F=409 (Model 5), F=18 (Model 10), F=9.18 (Model

11), F=18.24 (Model 13), and F=9.18 (Model 9.18).

32

corruption range, leads to a sizeable increase of approximately one rule of law point, a

little over a quarter of the rule of law range. This could move a country from hybrid

regime to flawed democracy, and from flawed to full democracy. For a four-point jump in

the corruption scale, we expect a three-point increase in civil liberties, almost half of the

civil liberties scale. These are sizeable proportional results. They may be relative, given

that statistical studies only imperfectly capture the concepts social sciences try to measure

and that endogeneity fixes are only as good as their instruments. However, the strength of

the findings comes from cross checking several measures for both rule of law measures

and the instruments. In the hands of corrupt leaders stands the future of rule of law and of

civil liberties in emergent democratic regimes.

These findings shed light on two debates in the literature. First, they identify a

causal explanation for lack of rule of law, and second, they address the development-

democracy dilemma. The first effect refers to the obstacles to establishment of rule of law

discussed throughout this article. If politicians do not complete enforcement mechanism

reforms (independent, well-funded, powerful supervisory bodies; lobbying laws; electoral

and party laws; or civil service reform) due to conflicts of interest, then we shall see a

stalled democratization process.

For example, the Suharto family and Salim Group control the biggest business

conglomerate in Indonesia. The family members hold assets worth $24 billion (largest

stockholder group in Indonesia). There are no less then 417 listed and unlisted companies

controlled by the Suharto’s children, relatives, and business partners, many of whom are

a part of the government at the same time. It is expected that these officials would grant

state contracts to family members. Also, the family of the late Hyundai founder Chung

Ju-Yung still owns Hyundai and its adjacent companies, and has holdings worth $48

33

billion across nine economies (Hong Kong, Indonesia, South Korea, Malaysia,

Philippines, Singapore, Taiwan, Thailand and Japan). In both the Philippines and

Thailand, the largest ten families control half of the corporate sector, while in South

Korea and Hong Kong, the top ten families have power over approximately a third of the

business sector (Stijn, Djankov, and Lang 1999). Similar examples can be found in

democracies in the world. In Romania, over the past five years, at least 71 members of

parliament ran state contracts through their personal companies or owned by first-degree

relatives, mounting to over $300 million.

Some countries have specific elements, such as powerful militaries (Latin

America), available natural resources (minerals, oil),9 and cultural characteristics (Muslim,

Orthodox hierarchical practices, or Asian cultures with emphasis on community over

individual) with potential effects on rule of law. Aside from these, it is important to know

if elites in power represent the key to democratic success.

In Mexico, for instance, paramilitary groups may fund certain politicians’

campaigns, creating a similar conflict of interest for the member of legislature. I tested if

misappropriation of public goods leads to lack of rule of law. In a non-material form,

security is also a public good. This type of misappropriation of public goods has similar

effects on rule of law.

The second contribution of this article is to the debate about the role of economy

on establishment of rule of law and consolidation of democracy. The results show that,

9 Several tests have been conducted to account for the resource curse, and the results

generate similar findings. The available information is limited (WDI) and it is missing for

many years in several countries.

34

once we control for political corruption, the link between higher income and better

institutions is not that obvious. For instance, China and Singapore, though different in

size and capabilities, have one characteristic in common, they both experienced

tremendous growth levels though not much democratic reform.

Second, there is a simultaneous effect between economy and rule of law.

Why does economic growth not translate into more efficient judiciaries, more supervisory

bodies, or more respect for civil liberties in new democracies? There is a correlation

between growth and most rule of law measures, but it is too small to generate meaningful

interpretations. We can imagine two countries that experience high growth, one corrupt

and one less corrupt. In the latter, much of the wealth might remain untaxed due to

corrupt behavior, such as companies bribing the taxing agencies or not reporting gains.

This diminishes a government’s revenue and its capacity to deliver public goods. In less

corrupt states, profits are properly taxed and revenue is redistributed to governmental

programs (depending on the type of system – liberal or social market democracy) and

institutions, for instance, to properly remunerate civil servants. Even if economic growth

yields more government revenue in corrupt countries, the funds will more likely be

distributed to preferential companies related to politicians in power. This money does not

reach social programs that could improve citizens’ lives through education and health

care, and can increase governmental legitimacy.

Cultural elements generated interesting results. If there is a negative or positive

effect of religious traditions on establishment of rule of law, these did not show

significance here. There may not be anything culturally inherent that prevents

establishment of rule of law. The Czech Republic, perhaps the least religious nation

contemporarily (more than 80 percent are agnostic or atheist), fairs worse that Poland in

35

rule of law and better than Romania, both highly religious (one Catholic and one Greek

orthodox). However, secularism does not ensure rational rule of law establishment.

The indirect measure for common law did not generate significant findings, but in

fact veered in the opposite direction in two models. One explanation may be that the

universe of cases is different from preceding studies by not including advanced

democracies. This represents a stronger test, since it limits the variance of explanatory

factors. The different results may be related to the specific character of these regimes, a

sort of new generation democratizing systems. Given that circumstances–means of

production, technology, values, communications, and global interconnectedness are

different today–we can hardly make a meaningful comparison to establishment of rule of

law between old and new democracies.

The financial crisis negatively impacts rule of law. This may happen due to the

temporary suspension of accountability and control mechanisms during economic

downturns, when the executive makes firm and fast decisions (at times bypassing rules

and regulations, without oversight and approval from the legislative branch, and

sometimes unconstitutionally). The good news comes from the institutional design.

Parliamentary systems are associated with better rule of law, perhaps due to a stronger

balance of power between executive and legislative, and more inclusion of citizens’

demands channeled through parliament.

Given that agents of change determine the level of rule of law in a country, the

conclusion is that instead of focusing on a systemic change that could cure corruption, the

efforts need to be directed towards focused transformations that lead to filtering and

eliminating corrupt leaders from power and maintaining these gains. I focus on these

targeted solutions in a further study.

36

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44

Appendix Summary statistics, coding, sources, correlations, and results

Table A. Variables coding and data sources Name Description and data sources Corruption Inverted Corruption Perception Index; 1 = non corrupt, 10 = Corrupt

(Transparency International) Rule of law Civil liberties composite index; 7 = most democratic, 1= least democratic (Freedom

House)

Rule of Law and Voice and Accountability; Composite Governance Indicators, aggregate Indicators ascending from -2.5 to 2.5; (Worldwide Governance Indicators) Limited Government Composite Index, continuous, 0 least limits and 1 most limits on government (World Justice Project)

Fundamental Rights Composite Index, continuous, 0 least to 1 most protection of fundamental rights (World Justice Project)

Wealth Gross domestic product, per capita, current prices (IMF-World Economic Outlook) Growth The positive or negative difference in GDP per capita from one year to the next

(calculated from the GPD per capita values) Fin. Crisis Binary variable, coded 1 starting with 2008, and 0 all previous years Parliament Binary variable coded 1 if parliamentary (Norris, 2009 and personal data collection) British Colony Binary variable coded 1 if former British colony (Norris, 2009) Muslim Binary variable coded 1 if predominant Muslim state (CIA, Factbook) Catholic Binary variable coded 1 if predominant Catholic state (CIA, Factbook) Orthodox Binary variable coded 1 if predominant Orthodox state (CIA, Factbook) Protestant Binary variable coded 1 if predominant Protestant state (CIA, Factbook) Tariff All tariff rates are based on unweighted averages for all goods in ad valorem

rates, or applied rates, or MFN rates, whichever data is available in a longer period (UNCTAD TRAINS, WTO IDB, WDI)

Burden of Coded 1=extremely inefficient to 7=extremely efficient (World Development customs Indicators) WEF Business Business extent of disclosure index; coded 0=less disclosure to Disclosure 10=more disclosure (World Development Indicators) Population People per square km of land area (World Development Indicators) Density

45

Table B. Summary statistics _____________________________________________________________________________ Variable Mean Std. Dev. Min Max Observations Rule of law (WGI/RoL) -0.13 0.77 -2.23 2 1287 Rule of law (WGI/V&A) 0.17 0.67 -2.04 1.54 1286 Freedom House CL 5.20 1.30 1 7 1782 Limited Government 0.54 0.12 0.25 0.79 61 Fundamental Rights 0.61 0.11 0.36 0.85 61 Corruption 6.19 1.54 0.60 9.60 1149 Tariffs 11.12 6.53 0 45 1178 GDP PC 5633.4 6999.7 108.9 51161.6 1769 GDP Growth 8.97 2685 1.6 12491.9 1761 Financial crisis 0.27 0.44 0 1 1800 Parliament 0.49 0.50 0 1 1800 British colony 0.38 0.48 0 1 1800 Protestant 0.21 0.40 0 1 1800 Catholic 0.39 0.48 0 1 1800 Muslim 0.11 0.31 0 1 1800 Orthodox 0.10 0.30 0 1 1800 Population Density 184.9 636.93 1.48 7405.28 1666 Burden of Customs 3.81 0.78 1.82 6.45 446 Business Disclosure 4.92 2.41 0 10 771