Abstract
This study examines how corruption affects firm performance in India using data from the World Bank Enterprise Survey for 2013-14. A set of testable hypotheses is formulated with regard to the interaction between bribery and the political environment to capture the nuances of the effect of corruption on firm performance. To overcome endogeneity between bribery and firm performance, the study employs two-stage least squares instrumental variables estimation. The foremost finding is that bribery has significantly negative effects on firm profitability and labor productivity. This finding confirms the hypothesis that in India bribery “sands the wheels” of business. A further finding is that the negative effect of bribery on productivity is stronger in states run by right leaning parties, although there is no significant effect of party orientation on the relationship between bribery and profitability. This finding supports the hypothesis that tighter connections between business and government facilitate rent seeking that undermines productivity even as profitability is unencumbered. Finally, bribery is found to have more harmful effects on smaller and older firms than on larger and younger ones.
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