The Rise of a Network: Spillover of Political Patronage and Cronyism to the Private Sector

Terry Moon (University of British Columbia)
David Schoenherr (Princeton University)

Abstract : The misallocation of resources in the government and private sectors due to cronyism are widely perceived to be major impediments to economic growth around the world. Distortions in the government and private sectors are typically viewed as distinct and independent sources of inefficiencies. We document that they are related in a way that drastically amplifies efficiency and welfare costs. While the government does not intervene in resource allocation in private markets directly, we show that when members of a group gain access to political power, private firms establish links to the group by recruiting some of its members as executives. Specifically, we document that following a presidential election in Korea, private banks appoint executives from the new president's networks. Subsequently, these banks show a bias in credit allocation to firms linked to the new president's networks similar to government banks. Micro-level data on loans and interest rates, combined with variation in network links for the same firm across lenders over time allows us sharpen the identification of the results. In a parsimonious model of credit allocation, we show that welfare costs increase dramatically when government and private banks share a bias toward the same group of firms. Intuitively, an abundance of funding for in-group firms allows them to overinvest inefficiently, whereas other firms' lack of funding forces them to forego highly profitable investments. If government and private banks' bias in credit allocation is not targeted toward different groups of firms, investment distortions are markedly lower.

Kin Networks and Institutional Development

Jonathan Schulz (George Mason University)

Abstract : The origins and global variation of democratic political institutions are not well understood. This study tests the hypothesis that the Catholic Church’s medieval prohibition on kin marriages fostered participatory institutions by dissolving strong extended kin networks. First, I show that weak pre-industrial kin networks are positively associated with countries’ democracy scores. At the same time, medieval Church exposure robustly predicts weak kin networks across countries, European regions and ethnic societies. In a difference-in-difference analysis, I then provide historical evidence that exposure to the Church fostered the formation of medieval communes – self-governed cities with participatory institutions that many scholars have identified as critical precursors for national parliaments. Moreover, within medieval Christian Europe, stricter regional and temporal cousin-marriage prohibitions are associated with increased formation of commune cities. Lastly, I shed light on one mechanism, civicness, and show that weak kin networks are associated with higher political participation.