Does Corruption Mitigate Trade in the EU?

Abstract: In this essay the impacts of corruption on the bilateral trade of 25 EU countries from 1999 to 2008 are investigated. Corruption is the result of malfunctioning institutions and it leads investment flows to be less productive. Hence corruption is expected to impose cost on trade and therefore we expect that corruption mitigate the amount of trade. The negative impact of corruption on trade is mostly observed in the customs and since the customs do not play significant roles in the intra-EU trade, corruption might not have impact on the bilateral trade of the EU members. However due to endogeneity problem which stem from the inclusion of corruption into the gravity model we apply instrumental variable method and found out that the level of corruption of exporting country significantly reduces bilateral trade flows, while the corruption level of importing country has no effect on intra-EU 25 trade flows. Furthermore, the validity of our results are confirmed by the estimation of model for EU 15 countries and the same results are reported for corruption of exporting countries, however the estimation results of EU-15 countries indicate that the corruption of importing country significantly decreases the intra-EU 15 trade.