Political Policies, Foreign Investment

and Drug Traffic

Rafael Salvador Espinosa Ramrez
Universidad de Guadalajara
Mexico
Introduction
Drug Trafficking in the world has been a growing
problem.
Drug use is widely blamed for a broad range of
personal and social ills.
In the U.S.A. total turn over in the illegal drug
industry almost certainly is over 10 billion U.S.
dollars and by some estimates it is about 50 billion
U.S. dollars.
The most common response to these perceptions is
a belief that governments should prohibit the
production, traffic, sale and consumption of the
currently illegal drugs
Introduction
the certification policy adopted by the U.S.
government is a policy used by U.S. to urge for a
tough policy against drug production and drug
trafficking.
One of the most important effect of this policy has
been on the flow of Foreign Direct Investment (FDI)
into LAC.
The effectiveness of this policy contrasts with the
significant political influence of drug barons which
make political contributions to protect their interests.
Introduction
The government in these LDCs has to weight the
benefit (from FDI) and costs (loss of political
contribution) in deciding the level of enforcement of
domestic drugs levels.
Two goods are produced in the recipient country of
FDI: a legal (by FDI) and illegal good (drug barons).
The drug barons lobby the government not to
enforce laws restricting drugs production and
trafficking.
The number of foreign firms entering the country is
inversely related to the amount of drugs reaching
the home country of FDI.

The model
n foreign owned firms.
A homogeneous good X legally produced and
a good D (drug) illegally produced.
Two types of individuals in the host country:
honest (labeled ) and dishonest (labeled ).
Unemployment in the host country.
The number of foreign firms is determined
inversely by the amount of drug exported by
the host country

( ) 0 ' < = D n n
The model
The host country government chooses a level
of enforcement used to catch drug dealers.
This affect the probability of drug dealers
success.
The utility of the honest people is given by

The Utility of the dishonest people is given by
( ) ( ) 0 ' , < = = c 0 0 c 0 0
CS + + = D C X nC I
D X

c
| | ( )| |, 1 D C D C P I
D D D
+ = 0 0

The model
The political contribution schedule for the
drug dealers is denoted by
The host government's objetive function is
given by where >1.
The political equilibrium is the outcome of a
two-stage game. In stage one of the game,
the drug dealers choose their contribution
schedule. The government then sets its
enforcement policy in the second stage.

( ) c c
( ),
o
I I c G + + =
The model
Dixit et. al. (1997) develop a refinement
known as truthful equilibria that implement
Pareto efficient outcomes.
The equilibrium is
characterized by




( ) ( )
o o o o o
I I c

c c , , ,
( ) ( ), , 0 , o c

Max I c
o
=
( ) ( ) { }, ,
o o o
I I I c Argmax
o
c
c c c + + =
( ) ( ) ( ) ( ), ,
1
o o o o o
I I I c I I
o o
c c c + + = +
The model
Where

and


where is the basic concept of the
compensating variations.
( ), o

= I I
o
( ) ( ).
1
o
I I Argmax
o
c
c c + =
o
The model
Drug dealers behave as a monopolist


Foreign firms behave as Cournot oligopolist


We assume a linear demand function
.
'
D D
C DP DP = +0 0
( ) ( ) ,
'
X
C Q P X Q P = +
Case 1: Export oriented economy
I shall examine how the enforcement level is
affected by changes in the degree of
corruption and the consumption of drugs.
Solving the political equilibrium from the
government objective function we have
( ) ( ) ( ) ( ) . 0 1
1
' ' ' '
= +
+
+ = c c c 0
c
D C D D n
n
XC
D P G
D
X
D
Case 1: Export oriented economy
A change in the corruption level


where

and

When only the drug dealers lobby the government,
an increase in the degree of corruption reduces
the level of drug enforcement.
0 < =
cc
c

c
G
G
d
d
( ) 0
'
< = c 0
c
D P G
D
( ) 0 <
cc
G
Case 1: Export oriented economy
A change in the demand of drugs


where


When only the drug dealers lobby the government,
the change in the enforcement level given by an
increase in demand for drugs will depend on
corruption parameter level.
,
if 0
if 0
1
1

> <
< >
=
A
A
da
d

c
( ) ( )
( )
. 0
1
2
2
'
1
>
+
=
0 b n
D n XC
A
X
Case 2: Non-tradable sector.
The good produced by foreign firms are taken
to be a non-tradeable good.
Two kind of honest people: those who are
consumers of the output produced by the
multinationals who also work for the drug
dealers, and those who receive their income
for working for the multinational firms.
The drug dealers and the employees of the
multinationals lobby the government in order
to maximise their own benefits.
Case 2: Non-tradable sector.
Restructuring the model we have

CS, + + = D C I
D
c
o
1
,
2
X nC I
X
=
o
| | ( )| |, 1 D C D C P I
D D D
+ = 0 0

( ) ( ) | | ( ).
2 1
2 1 o o
c c I I I c c G + + + + =
Case 2: Non-tradable sector.
A change in the corruption level



When the drug dealers and employees of the
multinationals lobby the government of the host
country, an increase in the corruption parameter
increases (decreases) the enforcement level if
the size of the drug market is sufficiently smaller
(greater) than the size of the legal good market.

>> <
<< >
= .
if 0
if 0
X D
X D
d
d
S S
S S

c
Case 2: Non-tradable sector.
A change in the demand of drugs




When the drug dealers and the employees of the
multinationals lobby the government of the host
country, an increase in the demand for drugs
will increase (decrease) the enforcement level if
the market for X is sufficiently large (small).

<
>> >
= .
0 if 0
0 if 0
X
X
da
d
S
S
c
Case 3: Export oriented economy II
I shall determine endogenously the number
of firms in an export oriented economy.
One possible policy option for the authorities
in the countries affected by drugs is to levy a
tax on all firms that invest in the country that
sending drugs.
or
, D nT k =
.
n
D
T
k
=
Case 3: Export oriented economy II
I assume that the host country is small in the
market for FDI, i.e., firms would move into
(out of) the host country if the profits it makes
in the host country is larger (smaller) than the
reservation profits , it can make in the rest
of the world.

H
( ) H = = H T X C P
X X
Case 3: Export oriented economy II
A change in the corruption level


where

and

When only the drug dealers lobby the government
and n is endogenously determined, an increase
in the degree of corruption reduces the level of
drug enforcement.

, 0 < =
cc
c

c
G
G
d
d
( ) 0
'
< = c 0
c
D P G
D
( ) 0 <
cc
G
Case 3: Export oriented economy II
A change in the demand of drugs




When only the drug dealers lobby the government
and n is endogenously determined, the change
in the enforcement level given by an increase in
demand for drugs will depend on marginal
disutility for drugs and the size of legal market
good.

<
>> >
>>
<
=
0 if 0
0 if 0
0 if
0 0 if
X
X
da
d
S
S
k
k
c
Conclusions
Misunderstanding the action of the drug
producers on the society's interests may lead
to unsuccessful enforcement policies.
The corruption in the government and the
benefit that drug traffic gives to the
inhabitants of producing countries can inhibit
any action leaded by the international
community.
Conclusions
Sometimes corruption is overestimated. Even
when bribes are the origin and the
consequences of corruption, they are not
playing the definitive role in the political game
as many other factors are taken into account.
The political actors are rational in the
decision process.