Corruption and political favoritism are considered major impediments to economic development. Although there is a growing consensus about the adverse efficiency consequences of corruption we still have a limited understanding of how corruption is shaped by political and economic institutions and how it affects our democracies. An increasing literature documents political favoritism and its welfare consequences relative to a no misallocation benchmark. In my dissertation, I complement this line of research by quantifying the effects of favoritism relative to relevant policy counterfactuals. My work highlights the importance of transparency and limiting regulatory discretion in improving the efficiency of public spending.

In the first chapter, I investigate the determinants and consequences of increasing a buyer's discretion in public procurement. I study the role of discretion in the context of a Hungarian policy reform which removed the obligation of using an open auction for contracts under a certain anticipated value. Below this threshold, buyers can use an alternative "high-discretion" procedure to purchase goods and services. At the threshold, I document large discontinuities in procurement outcomes, but I also find a discontinuity in the density of anticipated contract value, indicating that public agencies set contract values strategically to avoid auctions. To distinguish the causal effects of increased discretion from the self-selection of agencies into high-discretion procedures, I exploit the time variation of the policy reform. I find that discretion increases the price of contracts and decreases the productivity of contractors. To dig deeper into the motivations of public agencies, I use a structural model to identify discretion's impact on rents from corruption. I also use the same structural approach to simulate the effect of alternative value thresholds. I find that the actual threshold redistributes about 2 percent of the total contract value from taxpayers to firms and decreases the average productivity of contractors by approximately 1.6 percent. My simulations suggest that the optimal threshold would be about a third of the actual.

Moreover, case studies suggest that in addition to rent extraction corruption provides opportunities to buy political support in weakly institutionalized democracies (e.g. McMillan and Zoido (2004)). Consequently, detrimental effects of political favoritism may not be limited to misallocation of public resources but also constrain governmental accountability. In the second chapter, my coauthor Adam Szeidl and I confirm this conclusion by investigating political favoritism in the Hungarian media market. We scrutinize three different markets, printed media, billboards, and online newspapers. We establish three main results about favoritism in the Hungarian media. First, we document distortive two-way favors between politicians and the media, in the form of government advertising and media coverage. For both directions of favors, our empirical strategy is to compare the allocations of actors with changing versus unchanging connection status. More specifically we compare advertising behavior of state-owned and private companies and media content of outlets with more and less political connections. Since friendly news coverage systematically moves together with advertising favors we interpret our findings as media capture. Second, we document an organizational change in favoritism: a first phase when favored media was controlled by a single connected investor; a second phase when this relationship broke down and two-way favors were terminated; and a third phase when control of newly favored media was divided between multiple connected investors. Our preferred interpretation is that governments with more de-jure power shift the organization of favors towards a divide-and-rule style arrangement. Third, we develop and implement a portable structural approach to measure the economic cost of misallocative favoritism.