The impact of an unexpected wage cut on corruption: Evidence from a “Xeroxed” exam

Highlights

• We study how a teacher wage cut affects corruption at a high stakes exam in Romania.

• We use that the unexpected wage cut only affected public, and not private, teachers.

• The wage cut increased public students' scores relative to private sector students.

• The effect is equivalent to a 0.26 S.D. increase in average scores (a 3.9% increase).

• These positive effects are driven by schools located in the most corrupted counties.

Abstract

This paper aims to understand how corruption responds to an income loss. We exploit an unexpected 25% wage cut incurred in 2010 by all Romanian public sector employees, including the public education staff. We investigate a corruptible high-stake exam taking place shortly after the wage announcement. To measure corruption we compare changes in exam outcomes from 2007 to 2010 between public and private schools, as the latter were not affected by the policy. We find that the wage loss induced better exam outcomes in public than in private schools and we attribute this difference to increased corruption by public educators.

Introduction

The last decades have witnessed fast growing political and academic efforts to break down the phenomenon of corruption into causes and effects. To date, many puzzles still remain regarding the key causes and determinants of corruption (see Olken and Pande, 2012 for a recent review of developments in this area). Among these, the degree to which corruption responds to a wage change is an underexplored topic of particular interest to policy makers. This paper attempts to shed light on the effects of wages on corruption in the public sector, exploring a quasi-natural experiment generated by an unexpected 25% wage cut incurred by the public sector employees in Romania in 2010. Understanding the consequences of a wage loss, especially for corruption, is particularly relevant in the context of the recent waves of austerity measures that have swept over most of the EU countries.¹ To our knowledge, this is the first paper that identifies a causal relationship between a wage cut in the public sector and corruption activities.

The idea that financial compensation is a crucial factor in the decision of whether to engage in fraudulent action was first formalized in 1974 with Becker and Stigler's seminal work. The key prediction from their model was that increasing the remuneration of public servants above the market-clearing wage can reduce bribery, and thus reduce the prevalence of corruption. Subsequently, this hypothesis has been empirically tested, initially using macro-level data. For example, exploring a cross-section of developing countries, Van Rijkenghem and Weder (2001) show a negative, but rather small, association between civil service compensation and corruption measured by the ICRG index, while Rauch and Evans (2000) find no significant relationship between bureaucrats' wages and corruption, but show that salaries correlate negatively with the bureaucratic delay. To date, few studies have used micro-level data to identify the deterrent effect that wages have on corruption. Di Tella and Schargrodsky (2003) exploit a crackdown on corruption in the procurement departments of Buenos Aires hospitals. They find that at higher levels of the staff's wages the crackdown is more effective in reducing the prices of hospital inputs when there is an intermediate level of monitoring. However, they also show that higher wages have no statistically significant effect when there is no monitoring or when monitoring is at a very high level. These results are consistent with the predictions of the Becker–Stigler model. Niehaus and Sukhtankar (2010) also find empirical support for the capacity of projected gains to reduce fraud. In this setting, however, the prospective rents are obtained from future opportunities to collect bribes that rely strictly on keeping the job, which leads to an inter-temporal substitution of fraud today for rent-extraction in the future.²

While these studies are centered on the effect of an increase in remuneration on dishonesty, it is not obvious that a decrease in wages would have a symmetric impact on corruption.³ Gorodnichenko and Sabirianova Peter (2007), to our knowledge, is the only study that has analyzed corruption in direct relation to low wages. Using micro data from Ukraine, these authors show that the wage differential between the private and (the much lower-paid) public sector does not translate into a difference in consumption, and they conclude that bribery must account for the observed wage gap. In doing so, they document the role of corruption in explaining the prevalence of low-paid public jobs, rather than the reverse. Thus, the impact of a decrease in wages on the prevalence of corruption, the object of our study, remains an open empirical question.

In the spirit of the shirking model proposed by Shapiro and Stiglitz (1984), lower wages could trigger a switchover to rents from corrupt activities, as the civil servant attempts to compensate for his lost income. At the same time, a different mechanism, working in the opposite direction, holds the prospect of unemployment as a deterrent for shirking or, as applied to our case, corruption (Shapiro and Stiglitz, 1984). Thus, particularly in a depressed economic time, as in 2010, an income loss may potentially prompt more risk-averse public employees to refrain from corruption because they fear losing their job and their only source of income when the market cannot accommodate them. The latter mechanism is also supported by an argument à la Niehaus and Sukhtankar (2010) that the need to keep the public job with future bribe opportunities (relatively more lucrative than the diminished wage), may drive a temporary drop in corruption. Overall, these mechanisms convey an ambiguous effect of lower wages on corruption, and identifying their impact is essentially an empirical exercise.

In this paper we show that a large reduction in the wages of civil servants – in this case public school principals, together with teachers, and/or the administration personnel – can increase the incidence of corruption. Specifically, our study attempts to measure the effect of an exogenous 25% reduction in wages on corruption in the education sector in Romania. As part of an austerity plan, the Romanian public sector was hit by an unexpected wage cut announced on May 7th 2010, scheduled to take effect starting July 1st 2010. In June 2010, just between the announcement of the cut and its actual implementation, the annual national high school-leaving exam – the Baccalaureate – took place in the usual manner, testing approximately 200,000 students. The prevalence of corruption at the Baccalaureate exams was notorious and was attributed to the high-stakes character of the exam (it accounts for up to 100% of the university/college admission score) and the poor remuneration of teachers in general. As it happened, the 2010 exam signaled an unprecedentedly high number of allegations of fraud and bribery by school principals connected with the Baccalaureate. The 2010 spike in court investigations by the Romanian National Anticorruption Directorate (DNA), revealed how batches of identical answers had been distributed to students (by public educators), earning the 2010 exam a special title: “The Xeroxed exam”.⁴ Additional survey data on education corruption in Romania confirms that there was an increase in the incidence of bribery in public education in 2010 compared to 2006.⁵

Since we do not observe bribery and fraud directly, our strategy for understanding the impact of the wage cut on corruption is to compare the change in the Baccalaureate exam outcomes – mainly the school-level average grades and passing rates of the standardized Romanian language exam – from 2007 to 2010 between public and private schools, as the latter category was not affected by the policy.⁶ The arguments in favor of interpreting the resulting change in exam scores as being due to changes in corruption are the following: 1) the timing between the announcement of the wage cut and the exam is far too short for other responses (for example, a change in the students' or in-class teachers' effort); and 2) using county specific variation in corruption we find that our effects are indeed driven by the most corrupted counties, whereas we find no impact of the wage cut in counties with little or no corruption. If we believe that exogenous shocks to private schools or responses in form of effort are likely to have a similar impact in the most and least corrupted counties, we can conclude that these confounders are unlikely to bias our baseline estimates. However, in Section 5.2 we discuss extensively alternative explanations and possible confounders to our interpretation of the main results.

Our results show a positive and significant change in the exam outcomes between public and private schools, which we attribute to an increase in incentives to engage in corrupt activities in 2010 relative to previous years. In particular, our results for the standardized Romanian written exam, a test which remained similar across years and is taken by all students, regardless of their track, indicate a wage cut-driven effect equivalent to a 0.26 S.D. increase in exam scores and an increase in school-level Romanian exam pass rates by 3.3 percentage points. The estimated effects are equivalent to a nearly 4% increase in both exam outcomes. We employ different falsification tests and sensitivity analysis to lend further credibility to our results.

While this study adds to the developing pool of knowledge about corruption in the education sector (see, for example, Ferraz et al., 2012, Duflo et al., 2014, Reinikka and Svensson, 2004, Reinikka and Svensson, 2005, Muralidharan and Sundararaman, 2011, Glewwe et al., 2010), it also complements the findings in a related literature investigating incentives for teachers cheating and the dangers of high-stakes evaluation systems (Jacob and Levitt, 2003, Nichols and Berliner, 2007).

The paper is structured as follows: Section 2 presents an overview of the Romanian context, explaining the wage cut policy, the educational system and the implications for corruption. Section 3 provides the details of our data, while Section 4 outlines our empirical strategy and our main empirical findings. Section 5 provides some tests as to whether changes in exam scores following the wage cut can be interpreted as changes in corruption caused by the wage cut, while our conclusions are presented in Section 6.