COLLUSION AND RENEGOTIATION IN HIERARCHIES - A CASE OF BENEFICIAL CORRUPTION

Corruption opportunities arise when a principal delegates enforcement or audit authority to a supervisor. The supervisor may then strike a d eal with the agent she is supposed to monitor and conceal important in formation from the principal. Corruption imposes a constraint on gover nance and appears therefore to be harmful for the principal. We show t hat this need not be the case. In our model, the prospect of corruptio n can make the principal better off. The reason is that the collusion possibility generates dynamic effects which, in cases where only limit ed intertemporal commitments can be made, may be beneficial for the pr incipal.