Development and the Interaction of Enforcement Institutions

21 Pages Posted: 20 Apr 2016

See all articles by Amrita Dhillon

Amrita Dhillon

University of Warwick - Department of Economics

Jamele Rigolini

New York University (NYU) - Department of Economics

Date Written: December 2006

Abstract

The authors examine how institutions that enforce contracts between two parties - producers and consumers - interact in a competitive market with one-sided asymmetric information and productivity shocks. They compare an informal enforcement mechanism, reputation, the efficacy of which is enhanced by consumers investing in "connectedness," with a formal mechanism, legal enforcement, the effectiveness of which can be reduced by producers by means of bribes. When legal enforcement is poor, consumers connect more with one another to improve informal enforcement. In contrast, a well-connected network of consumers reduces producers' incentives to bribe. In equilibrium, the model predicts a positive relationship between the frequency of productivity shocks, bribing, and the use of informal enforcement, providing a physical explanation of why developing countries often fail to have efficient legal systems. Firm-level estimations confirm the partial equilibrium implications of the model.

Keywords: Economic Theory & Research, Insurance & Risk Mitigation, Markets and Market Access, Business Environment, Business in Development

Suggested Citation

Dhillon, Amrita and Rigolini, Jamele, Development and the Interaction of Enforcement Institutions (December 2006). World Bank Policy Research Working Paper No. 4090. Available at SSRN: https://ssrn.com/abstract=951354

Amrita Dhillon (Contact Author)

University of Warwick - Department of Economics ( email )

Coventry CV4 7AL
United Kingdom
+44 1 20 352 3032 (Phone)

Jamele Rigolini

New York University (NYU) - Department of Economics ( email )

269 Mercer Street, 7th Floor
New York, NY 10011
United States

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