Consequences of Rent-Seeking

The phenomenon of rent-seeking in connection with monopolies was first formally identified in 1967 by Gordon Tullock. A 2013 study by the World Bank showed that the incentives for policy-makers to engage in rent-provision is conditional on the institutional incentives they face, with elected officials in stable high-income democracies the least likely to indulge in such activities vis-à-vis entrenched bureaucrats and/or their counterparts in young and quasi-democracies. In the 1980s, critiques of rent-seeking theory began to emerge, questioning the ambiguity of the concept of "wasted resources" and the reliability of the assumptions being made from it.

From a theoretical standpoint, the moral hazard of rent-seeking can be considerable. If "buying" a favourable regulatory environment seems cheaper than building more efficient production, a firm may choose the former option, reaping incomes entirely unrelated to any contribution to total wealth or well-being. This results in a sub-optimal allocation of resources – money spent on lobbyists and counter-lobbyists rather than on research and development, on improved business practices, on employee training, or on additional capital goods – which slows economic growth. Claims that a firm is rent-seeking therefore often accompany allegations of government corruption, or the undue influence of special interests.

Source: https://corporatefinanceinstitute.com

Rent-seeking can prove costly to economic growth; high rent-seeking activity makes more rent-seeking attractive because of the natural and growing returns that one sees as a result of rent-seeking. Thus organizations value rent-seeking over productivity. In this case, there are very high levels of rent-seeking with very low levels of output. Rent-seeking may grow at the cost of economic growth because rent-seeking by the state can easily hurt innovation. Ultimately, public rent-seeking hurts the economy the most because innovation drives economic growth.

Government agents may initiate rent-seeking, as by soliciting bribes or other favours from the individuals or firms that stand to gain from having special economic privileges, which opens up the possibility of exploitation of the consumer. It has been shown that rent-seeking by bureaucracy can push up the cost of production of public goods. It has also been shown that rent-seeking by tax officials may cause loss in revenue to the public exchequer.

A study by Laband and John Sophocleus in 1988 estimated that rent-seeking had decreased total income in the US by 45 percent. Both Dougan and Tullock affirm the difficulty of finding the cost of rent-seeking. Rent-seekers of government-provided benefits will in turn spend up to that amount of benefit in order to gain those benefits, in the absence of, for example, the collective-action constraints highlighted by Olson. Similarly, taxpayers lobby for loopholes and will spend the value of those loopholes, again, to obtain those loopholes (again absent collective-action constraints). The total of wastes from rent-seeking is then the total amount from the government-provided benefits and instances of tax avoidance (valuing benefits and avoided taxes at zero). 

Political rent-seeking can also affect immigration. Welfare states incentivise unproductive migration and can create continuation of past behaviour of not accumulating personal wealth and being dependent on government transfers. Alternatively, productive migrants are incentivised to leave rent-seeking societies, possibly resulting in further economic decline. 

The Nobel Memorial Prize-winning economist Joseph Stiglitz has argued that rent-seeking contributes significantly to income inequality in the United States through lobbying for government policies that let the wealthy and powerful get income, not as a reward for creating wealth, but by grabbing a larger share of the wealth that would otherwise have been produced without their effort. Thomas Piketty, Emmanuel Saez, and Stefanie Stantcheva have analyzed international economies and their changes in tax rates to conclude that much of income inequality is a result of rent-seeking among wealthy tax payers.

Rent-seeking has been a complex problem all around the world for a very long time, plaguing many economies. It is very unlikely that we will ever see rent-seeking behavior completely eliminated around the world, but there are some potential solutions which were highlighted last week and stated briefly below:

• bi-partisan Parliamentary oversight on all concession, permits and other such licenses that say, exceed RM50m;

• greater transparency and accountability;

• more competition in a sector and reduction of barriers to entry;

• create an additional tax structure for rent-seekers, including revenue and sharing; and

• strengthen existing institutions tasked with stamping-out or reducing corrupt practices.

Reference:

Rent Seeking, Wikipedia