Controlling Extortion and Collusion: Morality, Peer‐Effect, and the Strategies Beyond Punishment

ABSTRACT We explore the interaction between enforcement and individual‐specific sensitivity to moral standards in determining the scope of extortion and collusion in a bureaucracy consisting of corruptible officers. The moral standard is determined by the number of corrupt officers in the bureaucracy, which is a function of both the penalty and the probability of conviction of collusion. Both a higher penalty and a more active independent auditor, like the media, keep the number of corrupt officers in check in a “low” and “medium” penalty situation and incentivize compliance. Extortion occurs only under a “low penalty, low compliance cost” situation. Increases in penalty or judicial accuracy in judging extortion cases or active independent auditing keep extortion in check. Controlling the rent of the firms induces compliance and reduces both extortion and collusion incidents in an economy, having a greater impact on collusion than extortion.