Rent Seeking, Market Structure and Growth

Daniel Brou, University of Western Ontario
Michele Ruta, World Trade Organization

Abstract

We study the role of productive and unproductive entrepreneurship in economic growth by constructing a model where firms compete in both political and economic markets. In the political market, firms compete for influence over government transfer policy (rents). This activity can be beneficial for the firm, but is purely wasteful from the point of view of society because scarce resources are utilized to achieve a redistribution of income. In the economic market, firms compete for market share through cost reducing technological innovation. Market structure plays an important role in this economy because competition drives firms to invest in more innovation, resulting in higher growth. Rent-seeking affects economic growth in two important ways. It allows firms to ignore economic competition, leading to less innovation and it alters the number of firms that are supported in equilibrium. The former has a negative effect on growth while the latter effect is ambiguous, depending on whether rent seeking induces entry or exit. The theory suggests that the overall effect depends on a number of political and economic factors.