Corruption and the case for safe-harbor regulation

Abstract

We study whether the joint adoption of ex-ante regulation and ex-post liability leads to a higher level of welfare in a setting in which firms invest resources to develop an innovative product that can have negative social repercussions. We allow for firm-regulator corruption and compare two alternative regulatory regimes: lenient authorization and strict authorization. Corruption favors strict authorization and strengthens the case for making firms immune from ex-post liability so as to encourage ex-ante investment. By contrast, when lenient authorization is adopted, firms should not be insulated from liability. Hence, liability should be more severe when corruption is less common.