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American Economic Association

The Political Economy of the Rent-Seeking SocietyAuthor(s): Anne O. KruegerSource: The American Economic Review, Vol. 64, No. 3 (Jun., 1974), pp. 291-303Published by: American Economic AssociationStable URL: http://www.jstor.org/stable/1808883

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t h e P o l i t i c a l Economy o f t h e R e n t -S e e k i n g S o c i e t y

BY ANNE 0. KRUEGER*In many market-oriented economies,government restrictions upon economicactivity are pervasive facts of life. Theserestrictions give rise to rents of a varietyof forms, and people often compete forthe rents. Sometimes, such competition isperfectly legal. In other instances, rentseeking takes other forms, such as bribery,

corruption, smuggling, and black markets.It is the purpose of this paper to showsome of the ways in which rent seeking iscompetitive, and to develop a simplemodel of competitive rent seeking forthe important case when rents originatefrom quantitative restrictions upon inter-national trade. In such a case 1) competi-tive rent seeking leads to the operationof the economy inside its transformationcurve; 2) the welfare loss associated withquantitative restrictions is unequivocallygreater than the loss from the tariffequivalent of those quantitative restric-tions; and 3) competitive rent seekingresults in a divergence between the privateand social costs of certain activities. Al-though the analysis is general, the modelhas particular applicability for develop-ing countries, where government interven-tions are frequently all-embracing.

A preliminary section of the paper isconcerned with the competitive nature ofrent seeking and the quantitative impor-tance of rents for two countries, India andTurkey. In the second section, a formalmodel of rent seeking under quantitative

restrictions on trade is developed and thepropositions indicated above are estab-lished. A final section outlines some otherforms of rent seeking and suggests someimplications of the analysis.1. Competitive Rent Seeking

A. Means of CompetitionWhen quantitative restrictions are im-posed upon and effectively constrain im-ports, an import license is a valuable com-modity. It is well known that under some

circumstances, one can estimate the tariffequivalents of a set of quantitative re-strictions and analyze the effects of thoserestrictions in the same manner as onewould the tariff equivalents. In other cir-cumstances, the resource-allocational ef-fects of import licensing will vary, de-pending upon who receives the license.1It has always been recognized that thereare some costs associated with licensing:paperwork, the time spent by entrepre-neurs in obtaining their licenses, the costof the administrative apparatus necessaryto issue licenses, and so on. Here, the argu-ment is carried one step further: in manycircumstances resources are devoted tocompeting for those licenses.

The consequences of that rent seekingare examined below. First, however, it willbe argued that rent-seeking activities areoften competitive and resources are de-voted to competing for rents. It is difficult,if not impossible, to find empirically ob-servable measures of the degree to whichrent seeking is competitive. Instead, some* Professor of economics, University of Minnesota.I am indebted to James M. Henderson for invaluableadlvice and discussion on successive clrafts. JagdishBhagwati and John C. Hause made helpful commentson earlier drafts of this paper. I This phenomenon is explored in dletail in Bhag,watiand Krueger.291

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292 THE AMERICAN ECONOMIC REVIEW JUNE 1974mechanisms under which rent seeking isalmost certain to be competitive areexamined. Then other cases are consideredin which it is less obvious, but perhapsequally plausible, that competition results.Consider first the results of an import-licensing mechanism when licenses forimports of intermediate goods are allo-cated in proportion to firms' capacities.That system is frequently used, and hasbeen analyzed for the Indian case byJagdish Bhagwati and Padma Desai.When licenses are allocated in proportionto firms' capacities, investment in addi-tional physical plant confers upon theinvestor a higher expected receipt of im-port licenses. Even with initial excesscapacity (due to quantitative restrictionsupon imports of intermediate goods), arational entrepreneur may still expand hisplant if the expected gains from the addi-tional import licenses he will receive,divided by the cost of the investment,equal the returns on investment in otheractivities.2 This behavior could be perfect-ly rational even if, for all entrepreneurs,the total number of import licenses willremain fixed. In fact, if imports are heldconstant as domestic income grows, onewould expect the domestic value of a con-stant quantity of imports to increase overtime, and hence installed capacity wouldincrease while output remained constant.By investing in additional capacity, en-trepreneurs devote resources to competefor import licenses.A second sort of licensing mechanismfrequently found in dleveloping countriesis used for imports of consumer goods.TFhere, icenses are allocated pro rata inproportion to the applications for thoselicenses from importers-wholesalers. Entry

is generally free into importing-whole-saling, and firms usually have U-shapedcost curves. The result is a larger-than-optimal number of firms, operating on thedownward sloping portion of their costcurves, yet earning a "normal" rate ofreturn. Each importer-wholesaler receivesfewer imports than he would buy at exist-ing prices in the absence of licensing, butrealizes a sufficient return on those licenseshe does receive to make it profitable tostay in business. In this case, competitionfor rents occurs through entry into theindustry with smaller-than-optimally sizedfirms, and resources are used in that thesame volume of imports could be efficientlydistributcl with fewer inputs if firms wereof optimal size.A third sort of licensing mechanisnm isless systematic in that government officialsdecide on licenise allocations. Competitionoccurs to some extent through both mecha-nisms already mentioned as businessmenbase their decisions on expectecl values.But, in addition, competition can alsooccur through allocating resources toinfluencing the probability, or expectedsize, of license allocations. Some means ofinfluencing the expected allocation--tripsto the capital city, locating the firm in thecapital, and so on are straightforward.Others, including bribery, hiring relativesof officials or employing the officials them-selves upon retirement, are less so. In theformer case, competition occurs throughchoice of location, expenditure of resourcesupon travel, and so on. In the latter case,government officials themselves receivepart of the rents.Bribery has often been treated as atransfer payment. However, there is com-petition for government jobs and it isreasonable to believe that expected totalremuneration is the relevant decision vari-able for persons deciding upon careers.Generally, entry into governmenit servicerequires above-average educationial at-

2 Note that 1p)ooe wooll ex1)ect to t1n(d greater ex-cess cal)acity in those ioi(lustries where rents are higher;ani(12) within an industry, more elficient. firns will have,greater excess ca})acity thani less efflicienit tirms, sincethe retuLrnion a given amiiounit of investment xxili l)ehigher with greater eftfiieCiCV.

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VOL. 64 NO. 3 KRUEGER: RENT-SEEKING SOCIETY 293tainments. The human capital literatureprovides evidence that choices as to howmuch to invest in human capital arestrongly influenced by rates of return uponthe investment. For a given level of educa-tional attainment, one would expect therate of return to be approximately equatedamong various lines of endeavor. Thus, ifthere appear to be high official-plus-unofficial incomes accruing to governmentofficials and higher education is a pre-requisite for seeking a government job,more individuals will invest in higher edu-cation. It is not necessary that govern-ment officials earn the same total incomeas other college graduates. All that isnecessary is that there is an excess supplyof persons seeking government employ-ment, or that highly educated personsmake sustained efforts to enter govern-ment services. Competition takes placethrough attaining the appropriate creden-tials for entry into government serviceand through accepting unemploymentwhile making efforts to obtain appoint-ments. Efforts to influence those in chargeof making appointments, of course, justcarry the argument one step further back.To argue that competition for entryinto government service is, in part, acompetition for rents does not imply thatall government servants accept bribes northat they would leave government servicein their absence. Successful competitorsfor government jobs might experience largewindfall gains even at their official salaries.However, if the possibility of those gainsinduces others to expend time, energy, andresources in seeking entry into govern-ment services, the activity is competitivefor present purposes.In all these license-allocation cases, thereare means, legal and illegal, for competingfor rents. If individuals choose theiractivities on the basis of expected returns,rates of return on alternative activitieswill be equated and, in that sense, markets

will be competitive.3 In most cases, peopledo not perceive themselves to be rentseekers and, generally speaking, individ-uals and firms do not specialize in rentseeking. Rather, rent seeking is one partof an economic activity, such as distribu-tion or production, and part of the firm'sresources are devoted to the activity (in-cluding, of course, the hiring of expe-diters). The fact that rent seeking andother economic activities are not generallyconducted by separate economic entitiesprovides the motivation for the form ofthe model developed below.B. Are Rcnts QuiantitativelyIniportantut

Granted that rent seeking may be highlycompetitive, the question remains whetherrents are important. Data from two coun-tries, India and Turkey, suggest that theyare. Gunnar Myrdal believes India may. . . on the balance, be judged to havesomewhat less corruption than any othercountry in South Asia" (p. 943). Nonethe-less, it is generally believed that "corrup-tion" has been increasing, and that muchof the blame lies with the proliferation ofeconomic controls following independ-ence.4Table 1 presents crude estimates, basedon fairly conservative assumptions of thevalue of rents of all sorts in 1964. One im-portant source of rents -investment licen-sing--is not included for lack of any validbasis on which to estimate its value. Manysmaller controls are also excluded. None-theless, it is apparent from Table 1 that

It may- e ol)jecte(l that illegal means of competitionmay l)e sufficienitlxdlistastefulthat lperfectcoml)etitionNvillnot result. I'hree comments are calle(dfor. First, itreqjuiresonly that, enough people at, the margin do notincur disutilitv from engaging in these activities. Second.most lines of economic activity in many countries can-not. he entered w thout some rent-seeking activitv.Third, risks of dletection (especially when hriherv is ex-pecte(l) and(ihe value judgments associatedlwith illegalactivities (liffer from society to society. See IRonal(dWraith and(1EdgarSimpkins.SanthanamiCommittee, pp. 7--8.

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294 THE AMERICAN ECONOMIC REVIEW JUNE 1974TABLE 1 ESTIATES OF VALUE OF RENTS: INDIA, 1964

Amount of RentSource of Rent (Rs. million)I)ublic investment 365Imports 10,271Controlled commodities 3,000Credit rationing 407Railwavs 602Total 14, 645

Soatrces:1) Public investment: The Santhanam Committee,pp. 11-12, l)laced the loss in public investment atat least 5 p)ercentof investment. That figure was multi-plied by the average annual public investment in theTlird Fiz,e Year Plain.2) Imports: The Santhanam Committee, l) 18,statedl that import licenses were worth 100 to 500 lper-cent of their face value. Seventy-five percent of thevalue of 1964 iml)orts was used here as a conservativeestimate.3) Controlled commodities: These commodities in-clude steel, cement, coal, passenger cars, scooters, food,and other price-and/or distribution-controlled com-modities, as well as foreign exchange used for illegalimports and other unrecorded transactions. The figureis the lower bound estimate given by John Monteiro,p. 60. Monteiro puts the upper bound estimate at Rs.30,000 billion, although he rejects the figure on the(dubious) ground that notes in circulation are less thanthat sum.4) Credit rationing: The bank rate in 1964 was 6 per-cent; Rs. 20.3 billion of loans were outstanding. It isassumed that at least an 8 percent interest rate wouldhave been required to clear the market, and that 3 per-cent of bank loans outstanding would be equivalent tothe present value of new loans at 5 percent. Datasource: Reserve Bank of India, Tables 534 and 554.5) Railways: Monteiro, p. 45, cites commissions of20 percent on railway purchases, and extra-official feesof Rs. 0.15 per wagon and Rs. 1.4 per 100 maundsloaded. These figures were multiplied by the 1964 trafficvolume; 203 million tons of revenue-paying trafficoriginated in that y-ear. Third plan expenditure onrailroads was Rs. 13,260 million. There were 350,000railroad goods wagons in 1964-65. If a wagon wasloaded once a week, there were 17,500,000 wagons offreight. At Rs. 0.15 per load, this would be Rs. 2.6 mil-lion; 100 maunds equal 8,228 pounds so at 1.4 Rs. per100 maun(ls, Rs. 69 million changed hands; if one-fifthof railroa(lexpenditures were made in 1964-65, Rs. 2652million was spent in 1964; at 20 percent, this would beRs. 530 million, for a total of Rs. 602 million.import licenses provided the largest sourceof rents. The total value of rents of Rs.14.6 billion contrasts with Indian national

income of Rs. 201 billion in 1964. At 7.3percent of national income, rents must bejudged large relative to India's problemsin attempting to raise her savings rate.For Turkey, excellent detailed estimatesof the value of import licenses in 1968 areavailable.5 Data on the c.i.f. prices ofindividual imports, their landed cost (c.i.f.price plus all duties, taxes, and landingcharges), and wholesale prices were col-lected for a sizeable sample of commoditiesrepresenting about 10 percent of totalimports in 1968. The c.i.f. value of importsin the sample was TI, 547 million and thelanded cost of the imports was TL 1,443million. The value at the wholesale levelof these same imports was T'L 3,568million. Of course, wholesalers incur somehandling, storage, and transport costs.The question, therefore, is the amountthat can be attributed to normal whole-saling costs. If one assumes that a 50 per-cent markup would be adequate, then thevalue of import licenses was TL 1,404million, or almost three times the c.i.f.value of imports. Imports in 1968 wererecorded (c.i.f.) as 6 percent of nationalincome. On the basis of Aker's data, thiswould imply that rents from import li-censes in Turkey in 1968 were about 15percent of GNP.

Both the Indian and the Turkish esti-mates are necessarily somewhat rough.But they clearly indicate that the valueof import licenses to the recipients wassizeable. Since means were available ofcompeting for the licenses, it would besurprising if competition did not occur forprizes that large. We turn, therefore, toan examination of the consequences ofcompetitive rent seeking.

5 am indebted to Ahmet Aker of Robert College whokindly made his data available to me. Details and adescription of the data can be found in mv forthcomingbook.

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VOL. 64 NO. 3 KRUEGER: RENT-SEEKING SOCIETY 295II. The Effects of CompetitiveRent Seeking

Ihe major proposition of this paper isthat competitive rent seeking for importlicenses entails a welfare cost in additionto the welfare cost that would be incurredif the same level of imports were achievedthrough tariffs. The effects of tariffs uponproduction, trade, and welfare are wellknown, and attention is focussed here up-on the additional cost of competitive rentseeking. A simple model is used to de-velop the argument. Initially, free trade isassumed. Then, a tariff or equivalent im-port restriction is introduced. Finally, anequal import restriction with competitiverent seeking is examined.

A. The Basic ModelTwo commodities are consumed by thecountry under investigation: food andconsumption goods. Food is produceddomestically and exported. Consumptiongoods are imported. Distribution is a pro-

ductive activity whereby food is purchasedfrom the agricultural sector, exported, andthe proceeds are used to import consump-tion goods which are sold in the domesticmarket. Labor is assumed to be the onlydomestic factor of production.' It is as-sumed that the country under considera-tion is small and cannot affect its inter-national terms of trade. Physical units areselected so that the fixed internationalprices of both goods are unity.The agricultural production function is

(1) A = A(LA) A' > O, A" < Owhere A is the output of food and LA isthe quantity of labor employed in agri-culture. The sign of the second derivativereflects a diminishing marginal physical

product of labor in agriculture, due, pre-sumably, to fixity in the supply of land.The level of distribution output, D, isdefined to equal the level of consumption-goods imports, M:(2) D=MOne unit of distributive services entailsexchanging one unit of imports for foodwith the agricultural sector at the domesticterms of trade, and exporting the food inexchange for imports at the internationalterms of trade. Constant returns to scaleare assumed for the distribution activity;one unit of distribution requires k units oflabor. Total labor employed in distribu-tion, LD, is(3) LD= kDA distribution charge of PD per unit isadded to the international price of im-ports:(4) P = I + PDwhere pal is the domestic price of imports.The domestic price of food is assumed toequal its unit international price.7Society's demand for imports dependsupon the domestic price of imports andtotal income generated in agriculture:8(5) M = M(PM,A)where 3M &PM0. De-mand decreases with increases in the priceof imports, and increases with increases inagricultural output (income). Equation(5) is derived from micro utility maximiza-tion with the assumption that farmers,distributors, and rent seekers all have thesame consumption behavior. Domestic

6 Labor could be regarded as a composite domesticfactor of production. Extensions to two or more factorswould complicate the analysis, but would not alter itsbasic results.

7 These assumptions establish a domestic numeraire.The real analysis would be unaffected by proportionalchanges in the domestic prices.8 Food and imports are consumed. But, by choice offood as the numeraire (see equation (6)) and the as-sumed constancy of international prices, agriculturaloutput serves as a measure of income.

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296 THE AMERICAN ECONOMIC REVIEW JUNE 1974food consumption, F, is simply the quan-tity not exported:(6) F = A-MSince the fixed international terms of tradeequal unity, food exports equal consump-tion goods imports.Finally, it is assumed that the economyunder consideration has a fixed labor sup-ply, L:(7) L = LA+ LI)+ L1I?where LR is the quantity of labor engagedin rent seeking.

B. Free TradcUnder free trade, there is free entry intoboth agriculture and (listribution and com-petition equates the wage in the two ac-tivities:

(8) A' = pD/kEquations (1) to (8) constitute the free-trade system. These eight equations con-tain the eight variables A, M, D, F, LA,LD, Pm, and PD-Since there is no rent seek-ing under free trade, LR-O.It is easily established that free trade isoptimal in the sense that the domesticprice ratio under free trade equals themarginal rate of transformation betweenfood consumption and imports. The con-sumption possibility locus is obtained bysubstituting into (6) from (1) and (7)

F = A(L - kMA) - -AThe locus has a marginal rate of trans-formation greater than one:

- (F(9) -- = kA' + 1 > 1which reflects the positive distribution costof substituting imports for food consump-tion. Tlhe locus is concave:

(P2F__= k2 1" < 0(1M2

since A" < 0, which follows from diminish-ing returns in food production. Substitut-ing from (8) into (9),- (IF t1+ PD(lM

which establishes the aforementioned eqjual-ity.A free-trade solution is depicted inFigure 1. Domestic food consumption andimport consumption are measured alongOF and OM, respectively. The consump-tion possibility locus is P. At the point Fno imports are consumed and hence thereis no distribution. If distribution were cost-less, society could choose its consumptionpoint from the line fA. However, to con-sume one unit of import requires exchang-ing one unit of food and withdrawing kworkers from agriculture to provide therequisite distributive services. With di-minishing marginal product of labor inagriculture, the cost of additional importsin terms of foregone foodIproduction rises.Ihus, the price of distribution, and hencethe domestic price of imports, increases inmoving northwest from P. Ihe consump-MA

M

0 B E G f FFIGURE 1. IREE TRADE

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VOL. 64 NO. 3 KRUEGER: RENT-SEEKING SOCIETY 297

tion point AMhas OB food exchanged forOM of imports. 'I'he distance FB is theagricultural output foregone to distributeOM imports.If society's preferences are given by thein(lifference curve ii, point C is optimal.'I'he price of distributioni is reflected in thedifference between the slope of FA and theslope of DD at C. At the point C, OG foodwould be prodluced, with EG (=EC) ex-ported, and the rest domestically con-sumed.

C. A Tariff or an Import RestrictionWithout Rent SeckingConsider now a case in which there is arestriction upon the quantity of imports

(10) M = M1where M is less than the import quantitythat wouldl be realizedl under free trade.Since entry into (listribution is now lim-ited, the competitive wage equality (8)will no longer holdl. 'I'he relevant systemcontains (1) to (7) and (10). The variablesare the same as in the free-trade case andagain Lu0=. T'he system may be solvedsequentially: given (10), D follows from(2), 1, from (3), LA from (7), A from (1),F from (6), Pm from (5), and PD from (4).Since equations (1), (6), and (7) remainintact, the solution for this case is also onthe consumption possibility locus.It is useful to establish the directions ofchange for the variables following a switchfrom free trade to import restriction. Thereduced import level will reduce the laboremployed in distribution and increase thelabor force in agriculture. Diminishingreturns will reduce the agricultural wage.The domestic price of imports, the dis-tributive margin, and the wage of distribu-tors will increase. Distributors will earna rent in the sense that their wage will ex-ceed the wage of those engaged in agricul-ture.

In the absence of rent seeking, a tariff

MA

D''

0 H J F FFIGURE 2. IMPORT RESTRTCTI()N

WITITOUT RENT SEERING

and a quantitative restriction are equiva-lent9 aside from the resultant income dis-tribution. Under a quantitative restrictionthe distributive wage is higher than theagricultural. If instead there were anequivalent tariff with redistribution of theproceeds, the marginal product of laborin agriculture would be unchanged, butagricultural workers would benefit by theamount of tariff proceeds redistributed tothem whereas traders' income would belower. Since the allocation of labor undera tariff and quantitative restriction with-out rent seeking is the same and domesticprices are the same, the only differencebetween the two situations lies in incomedistribution.The solution under a quantitative re-striction is illustrated in Figure 2, whereFA[ is again the consumption possibilitylocus and C the free-trade solution. Witha quantitative restriction on imports inthe amount 0M, the domestic prices of

I The change in the price of the import from the free-trade solution is the tariff equivalent of the quantitativerestriction described here.

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298 THE AMERICAN ECONOMIC REVIEW JUNE 1974imports, and hence of distribution, risefrom free trade to import restriction. Foodoutput (OJ) and domestic consumption offood increase, and exports decline to HJ(= OM). The indifference curve i'i' liesbelow ii (and the point C), and the welfareloss may be described by the consumptionand production cost measure given byHarry Johnson.The wage rate in distribution unequiv-ocally rises for a movement from freetrade to a quantitative restriction. Thetotal income of distributors will increase,decrease, or remain unchanged dependingupon whether the proportionate increasein PD s greater than, less than, or equal tothe absolute value of the proportionatedecrease of imports. For the moment, letPD, PMI, and M represent free-trade solu-tion values, and let pI), p*, and Al repre-sent import-restriction solution values.The total arc elasticity of demand forimports for the interval under considera-tion, e, is

_ ~~~*(11) 1 - (M M) PM + P3II

M7 +MA P PDMMultiplying both sides of this inequalityby (P* +PmI) (Pr -pv), substituting from(11), and using (4),(12) 1 + 2/(PD + PD) >Hence, distributors' total income can in-crease even if the demand for imports isprice elastic.'0 The smaller is the free-trade

distributive markup, the more likely it isthat the distributors' total income will in-crease with a curtailment of imports. Thereason is that an increase in the domesticprice of imports results in a proportion-ately greater increase in the price of dis-tribution.

D. An Import Restriction withCompetitiveRent SeekingIn the import-restriction model just

presented, the wage in distribution pDlkexceeds the wage in agriculture A'. Underthis circumstance, it would be surprisingif people did not endeavor to enter distri-bution in response to its higher return.Resources can be devoted to rent seekingin all the ways indicated in Section IA.This rent-seeking activity can be specifiedin a number of different ways. A simpleand intuitively plausible specification isthat people will seek distributive rentsuntil the average wage in distribution andrent seeking equals the agricultural wage:"

pDM(13) A' = LD + LROne can regard all distributors and rentseekers as being partially engaged in eachactivity or one can think of rent seekers asentering in the expectation of receivingimport licenses. In the latter case, thefinal solution classifies the successful seek-ers in LD and the unsuccessful ones in LR.Equation (13) implies risk neutrality inthis circumstance.The model for import restriction withrent seeking contains the same equations,

1l Proof of (12) uses the step that P*DiI> pDJA iml)lies(A*-Po)/(p*+ p,) >-( l-M)- / lI+M). Note thatin the continuous case, (12) reduces to I+ l/pD>-q.

11As an alternative, the distributive production func-tion (3) can be altered to treat all persons competing forimport licenses as distributors so that LI) also encom-passes LR and A'=p,,.ll/L,. Another alternative is tointroduce a rent-seeking activity distinct from distri-bution with a wage determined from total rents(po)-A 'k)M/LR, and require that this wage equal thewages in distribution and agriculture. These specifica-tionls give results equivalent to those that followfrom (13).

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VOL. 64 NO. 3 KRUEGER: RENT-SEEKING SOCIETY 299(1) to (7) and (10), and the same variablesas the model for import restrictions with-out rent seeking. In addition, the newmodel contains (13) and the introductionof LR as a variable. The essential factorof rent seeking is that LB beconmespositive.Let us start with a solution for an im-port restriction without rent seeking andask what happens to the values of thevariables when rent seeking is introduced.By assumption AI= M is unchanged, sothat LD is unchanged. Therefore, dL,1= -dLR, because the labor that entersrent seeking can only come from agricul-ture. Substituting into the total differ-ential of (1) and using (6),(14) t(F = (IA = - A'dLR < 0Agricultural production and food con-sumption are reduced by the introductionof rent seeking. Since the import level re-mains unchanged, rent seeking entails awelfare loss beyond that for an importrestriction without rent seeking. The con-cavity of the agricultural production func-tion results in a food loss that is less thanproportional to decrements in LA. Differ-entiating (5) totally,(15) 0 = M1dpi-I+ Md,(IAwhere M1 and M, are the partial deriva-tives of (5) with respect to pmrand A,respectively. Solving (15) for dpM,, andsubstituting from (4) and (14),

M.(16) (IPD = (Ipr = - A (ILR< 0since M1< 0 and M2>0. The domesticcost of imports will be lower under rent-seeking competition. This follows fromthe decrease in the consumption of foodrelative to imports.The results of (14) and (16) are not de-pendent upon the particular form of theequilibrium of the labor market. Theyhold for any specification of competitive

rent seeking. Equation (13) serves to de-termine particular values for LR and othervariables of the system. The mere exis-tence of competitive rent seeking is enoughto determine the directions of change ofthe variables.The above results are sufficient to indi-cate that, for any given level of importrestrictions, competition among rent seek-ers is clearly inferior to the tariff equiva-lent of the restrictions, in that there couldbe more food consumed with no fewerimports under the latter case than theformer. To the extent that rent seeking iscompetitive, the welfare cost of importrestrictions is equal to the welfare cost ofthe tariff equivalent plus the additionalcost of rent-seeking activities. Measurementof that excess cost is considered below.The tariff-equivalent and rent-seekingequilibria are contrasted in Figure 3.Equilibrium under rent seeking will beat some point such as L, with the sameconsumption of imports, but smaller pro-duction and consumption of food thanoccurs under a tariff. The points K and Care the tariff-equivalent and free-tradeequilibria, respectively. The line D'D' cor-M

D D}M?~~~~~~~~~~~K\ \D D

0 P N F F1"IGURE 3. RENT-SEEKING I. PORT RESTRICTION

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300 THE AMERICANECONOMIC REVIEW JUNE 1974responds to the domestic price of importsin Figure 2, and the steeper line D"D"corresponds to the lower domestic priceof imports under competitive rent seeking.So far, it has been shown that for anygiven level of import restriction, a tariff isPareto-superior to competitive rent seek-ing, and the properties of rent-seekingequilibrium have been contrasted withthose of the tariff-equivalent case in theabsence of competition for the rents. Anatural question is whether anything canbe said about the properties of rent-seekingequilibrium in contrast to those of a free-trade equilibrium, which is, after all, theoptimal solution. It has been seen that thenumber of persons engaged in distributiondeclines from free trade to import restric-tion without rent seeking, and increases asone goes from that situation to competi-tion for import licenses. Likewise, agri-cultural output increases between freetrade and the tariff-equivalent case, anddeclines between that and rent seeking.'I'he cluestion is whether any unambiguoussigns can be place(l on the direction ofthese changes between free trade and rentseeking and, in particular, is it possiblethat society might pro(luce and consumeless of both goo(Is undlerrent seeking thanun(ler free trade?'I'he answer is that if inequality (12)is satistied, the absolute number of persons(LJ,+LIJ) in (listribution will increase go-ing from a free-trade to a rent-seekingecluilibrium. If import demandl is moreelastic, the number of persons in distribu-tion will (lecline. Contrasted with a free-tra(le equilibrium, there would be lessagricultural output and fewer importswhen inieqjuality 12) hol(ds.If, with importrestriction, the income from distributionpDAf is greater than (listributors' incomeat free trade, more persons will be em-ploye(d in distribution-cum-rent seekingwith import restriction than are employedunder free trade.

E. Measuring the Welfare Loss fromRent SeekingA tariff has both production and con-sumption costs, and it has already been

shown that rent seeking entails costs inaddition to those of a tariff. Many formsof competition for rents, however, are bytheir nature difficult to observe and quan-tify and one might therefore question theempirical content of the result so far ob-tained.Fortunately, there is a way to estimatethe production cost of rent seeking. That

cost, in fact, is equal to the value of therents. This can be shown as follows. Therent per import license, r, is:(17) r = PD- kA'This follows because the labor required todistribute one unit of imports is k, whichcould be used in agriculture with a returnA'. Note that at free trade r equals zero.A distributor could efficiently distributean import and earn his opportunity cost inagriculture with zero rent. The total valueof rents, R, with competitive rent seekingis thus the rent per unit of imports timesthe amount imported.(18) R = rM = (PD- kA')AIUsing (3) and (13),(19) R (PD - PD+I i

LD==bPD1- ITJ.11V ILD+ I-K)PDMILH14 + L,?

Thus the total value of rents reflects theagricultural wage (A') times the numberof rent seekers.Tlhe value of rents reflects the value (atcurrent prices) of the domestic factors ofproduction which could be extracted fromthe economy with no change in the final

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VOL. 64 NO. 3 KREUGER: RENT-SEEKING SOCIETY 301goods and services available for society'sutilization. Thus, if the value of rents isknown, it indicates the volume of re-sources that could be transferred out of dis-tribution and into other activities, withno loss of distributive services from aninitial position of rent-seeking activity.The estimates of rents in India and Tur-key, therefore, may be interpreted as thedeadweight loss from quantitative restric-tions in addition to the welfare cost oftheir associated tariff equivalents if onebelieves that there is competition for therents.

The value of the rents overstates theincrease in food output and consumptionthat could be attained with a tariff to theextent that the marginal product of laborin agriculture is diminishing, since theequilibrium wage will rise between thetariff and the competitive rent-seekingsituation. In the case of a constant margi-nal product of labor in alternative uses,the value of rents will exactly measureforegone output.

F. The Implications of Rent Seekingfor Trade TheoryRecognition of the fact of rent seekingalters a variety of conclusions normallyobtained in the trade literature and exami-nation of such cases is well beyond thescope of this paper. A few immediatelyderivable results are worth brief mention,however.First, an import prohibition might bepreferable to a nonprohibitive quota ifthere is competition for licenses under the

quota. This follows immediately from thefact that a prohibition would release re-sources from rent seeking and the excesscost of domestic production might be lessthan the value of the rents. Second, onecould not, in general, rank the tariff-equivalents of two (or more) quotas, sincethe value of rents is a function of both theamount of rent per unit (the tariff equiva-

lent) and the volume of imports of eachitem.12 Third, it has generally been ac-cepted that the more inelastic domesticdemand the less is likely to be the welfarecost of a given tariff. For the quota-cum-rents case, the opposite is true: the moreprice inelastic is demand, the greater willbe the value of rents and the greater, there-fore, the deadweight loss associated withrent seeking. Fourth, it is usually believedthat competition among importers willresult in a better allocation of resourcesthan will a monopoly. If rent seeking is apossibility, however, creating a monopolyposition for one importer will generallyresult in a higher real income if not in apreferable income distribution for society.Finally, devaluation under quantitativerestrictions may have important alloca-tion effects because it diminishes the valueof import licenses, and hence the amountof rent-seeking activity, in addition to itseffects upon exports.

III. Conclusions and ImplicationsIn this paper, focus has been on theeffects of competition for import licensesunder a quantitative restriction of im-ports. Empirical evidence suggests thatthe value of rents associated with importlicenses can be relatively large, and it hasbeen shown that the welfare cost of quanti-tative restrictions equals that of theirtariff equivalents plus the value of therents.While import licenses constitute a largeand visible rent resulting from govern-ment intervention, the phenomenon ofrent seeking is far more general. Fair tradelaws result in firms of less-than-optimalsize. Minimum wage legislation generatesequilibrium levels of unemployment abovethe optimum with associated deadweightlosses, as shown by John Harris and

12 I am indebted to Bhagwati for pointing out thisimplication.

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302 THE AMERICAN ECONOMIC REVIEW JUNE 1974Michael Todaro, and Todaro. Ceilings oninterest rates and consequent credit ra-tioning lead to competition for loans anddeposits and/or high-cost banking opera-tions. Regulating taxi fares affects theaverage waiting time for a taxi and thepercent of time taxis are idle, but prob-ably not their owners' incomes, unlesstaxis are also licensed. Capital gains taxtreatment results in overbuilding of apart-ments and uneconomic oil exploration.And so on.Each of these and other interventionslead people to compete for the rents al-though the competitors often do not per-ceive themselves as such. In each casethere is a deadweight loss associated withthat competition over and above the tradi-tional triangle. In general, prevention ofthat loss can be achieved only by restrict-ing entry into the activity for which a renthas been created.That, in turn, has political implications.First, even if they can limit competitionfor the rents, governments which considerthey must impose restrictions are caughton the horns of a dilemma: if they do re-strict entry, they are clearly "showingfavoritism" to one group in society and arechoosing an unequal distribution of in-come. If, instead, competition for the rentsis allowed (or cannot be prevented), in-come distribution may be less unequal andcertainly there will be less appearance offavoring special groups, although the eco-nomic costs associated with quantitativerestrictions will be higher.Second, the existence of rent seekingsurely affects people's perception of theeconomic system. If income distribution isviewed as the outcome of a lottery wherewealthy individuals are successful (orlucky) rent seekers, whereas the poor arethose precluded from or unsuccessful inrent seeking, the market mechanism isbound to be suspect. In the United States,rightly or wrongly, societal consensus has

been that high incomes reflect at least tosome degree-high social product. As such,the high American per capita income isseen as a result of a relatively free marketmechanism and an unequal distribution istolerated as a by-product. If, instead, it isbelieved that few businesses would survivewithout exerting "influence," even if onlyto bribe government officials to do whatthey ought in any event to do, it is difficultto associate pecuniary rewards with socialproduct. The perception of the price sys-tem as a mechanism rewarding the richand well-connected may also be importantin influencing political decisions abouteconomic policy. If the market mecha-nism is suspect, the inevitable temptationis to resort to greater and greater interven-tion, thereby increasing the amount ofeconomic activity devoted to rent seeking.As such, a political "vicious circle" maydevelop. People perVeive that the marketmechanism does not function in a waycompatible with socially approved goalsbecause of competitive rent seeking. Apolitical consensus therefore emerges tointervene further in the market, rent seek-ing increases, and further interventionresults. While it is beyond the competenceof an economist to evaluate the politicalimpact of rent seeking, the suspicion of themarket mechanism so frequently voicedin some developing countries may resultfrom it.Finally, all market economies have somerent-generating restrictions. One can con-ceive of a continuum between a systemof no restrictions and a perfectly restrictedsystem. With no restrictions, entrepre-neurs would seek to achieve windfall gainsby adopting new technology, anticipatingmarket shifts correctly, and so on. Withperfect restrictions, regulations would beso all-pervasive that rent seeking wouldbe the only route to gain. In such a system,entrepreneurs would devote all their timeand resources to capturing windfall rents.

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VOL. 64 NO. 3 KREUGER: RENT-SEEKING SOCIETY 303While neither of these extreme types couldever exist, one can perhaps ask whetherthere might be some point along the con-tinuum beyond which the market fails toperform its allocative function to any satis-factory degree. It will remain for furtherwork to formalize these conjectures andto test their significance. It is hoped, how-ever, that enough has been said to stimu-late interest and research on the subject.

REFEREiNCESJ. Bhagwati, "On the Equivalence of Tariffs

and Quotas," in his Trade, Tariffs andGrowth, London 1969.and P. Desai, Planning for Industrial-ization: A Study of India's Trade anid In-dustrial Policies Since 1950, Cambridge1970. and A. Krueger, Foreign Trade Re-gimes and Economic Development: Experi-ence and Analysis, New York forthcoming.J. R. Harris and M. P. Todaro, "Migration,Unemployment,and Development: A Two-

Sector Analysis," Amer. Econ. Rev., Mar.1970, 60, 126-42.H. G. Johnson, "The Cost of Protection andthe Scientific Tariff," J. Polit. Econ., Aug.1960, 68, 327-45.A. Krueger, Foreign Trade Reginmes nd Eco-nomic Development: Turkey, New York1974.J. B. Monteiro, Corruption,Bombay 1966.G. Myrdal, Asian Drama, Vol. III, New York1968.M. P. Todaro, "A Model of Labor Migrationand Urban Employment in Less DevelopedCountries," Amer. Econ. Rev., Mar. 1969,59, 138-48.

R. Wraith and E. Simpkins, Corruption inDevelopingCountries,London1963.Government of India, Planning Commission,Third Five Year Plan, New Delhi, Aug.1961.Reserve Bank of India, Report on Currencyand Finance, 1967-68.Santhanam Committee, Report on the Com-mittee on Prevention of Corruption, Gov-ernmentof India, Ministryof Home Affairs,New Delhi 1964.