Corruption impacts the competitive conditions among firms and the flow of
foreign investment. Institutional reforms made for fighting against
corruption are sometimes useless. We develop a model in which a corrupted
government tries to set an optimal institutional level taking into account
the cost of this policy on foreign investment, the benefit of a corrupted
domestic firm and the benefit of local citizens. A political contribution is
made by a corrupted lobby group in order to benefit from a lower
institutional level. Our results suggest that the optimal institutional
level depends on the degree of efficiency of firms and the level of
corruption of the host government.
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