Unraveling Corruption and State Capacity With Heterogeneous Productivity

ABSTRACT We present a model of corruption involving entrepreneurs with heterogeneous productivities. The model incorporates two types of technologies: a costly “good” technology that generates positive externalities and a “bad” technology that is cheaper to adopt but lacks externalities. Corrupt bureaucrats may accept bribes from entrepreneurs using the bad technology, which the government cannot fully monitor. We show that four distinct equilibrium regimes can arise, and we characterize the conditions‐interpretable as dimensions of state capacity‐under which each regime arises. Our analysis aligns with empirical patterns of regional variation in corruption and productivity and provides testable hypotheses linking state capacity, and corruption.