Entrepreneurship and innovation: The corruption factor.

Corruption and economic development: What do we know?

To a Western reader, there is no ambiguity about corruption: It is seen as universally bad, and widely believed to undermine the foundation on which modern economies operate. Elsewhere in the world, the opinions are not as united. Corruption is often seen as ‘efficient grease’ that helps entrepreneurs navigate through inefficient institutional environments and helps get things done when the red tape is excessive.

In fact, corruption, or the abuse of public authority for private gains, may be said to play the same role that the institutionalized system of ‘expedite fees’ plays in countries like the United States, where it is commonplace. Still, the unofficial nature of corrupt activities makes them less predictable and fraught with uncertainty for entrepreneurs. This, according to Entrepreneurship Professor Sergey Anokhin from Kent State University, has important implications for policy makers.

Corruption makes it impossible to accurately predict the time and costs required to pursue an entrepreneurial opportunity to fruition. It undermines trust, which is essential for economic exchange to occur. When the system cannot be trusted, entrepreneurs necessarily consider other contexts where trust is natural – such as kinship, affect, or ethnic identity. This limits the opportunities that the entrepreneurs consider, and makes it much harder for them to engage in the kind of business that reaches far beyond the local context. In other words, corruption limits both the number and the attractiveness of opportunities that entrepreneurs choose to pursue.

International evidence

In a study of 64 countries over a 7-year period, Professor Anokhin from Kent State University and Professor William Schulze from the University of Utah show that it is essential to control corruption to promote entrepreneurial activity and innovation. Rampant corruption suppresses entrepreneurial activity. Innovative activities – even those pursued by larger, more powerful firms – are also likely to be suppressed because they take longer time and higher investment to bear fruit, and corruption-related uncertainty is detrimental to engaging in such higher-stakes activities.

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This is true for all countries regardless of their innate entrepreneurial levels. Even if the nation is entrepreneurial, faced with corruption, people channel their time and energy to other, less risky pursuits. In fact, there is historic evidence to suggest that when rules of the game are tainted by corruption, the best and brightest individuals may choose to exploit corrupt opportunities themselves thus robbing their countries of the productive outcomes typically associated with entrepreneurial activity.

As the world opens up, and countries engage in the ever-growing global trade and investment, the problems associated with corruption are likely to exacerbate. Open countries – those that rely on foreign direct investment – are not going to see much innovation unless they control corruption, says Dr. Anokhin. As the figure below shows, when corruption is out of control, only relatively closed countries that do not see much foreign direct investment can score on innovation.

Foreign entrants are disoriented by the corruption undercurrents and choose opportunities with a shorter time horizon and lower technological uncertainty. It is only when corruption is controlled, according to Sergey Anokhin, that one can see foreign involvement affect the local innovation landscape. Interestingly, when corruption is controlled and foreign direct investments are high, innovation soars.

What it all means

It is essential to recognize corruption as one of the key factors that affect entrepreneurship and innovation, says Professor Anokhin. Policy makers who design programs aimed at promoting entrepreneurship and innovation should be mindful of the institutional contexts where entrepreneurs operate. Fighting corruption may be an effective step in addressing economic development. Building a stable economy where the same rules apply to all, the inner workings of the governmental processes are transparent and easy to control, and foreign involvement is welcomed, may be essential to have entrepreneurship thrive and innovation blossom.

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