8/12/2019 A review of Timothy Frye and Ekaterina Zhuravskaya's article, Rackets, Regulation, and the Rule of Law

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Article review

By Najmu L. Sopian

Timothy Frye, Ekaterina Zhuravskaya, Rackets, Regulation, and the Rule of Law, Journal of

Law Economics and Organization 16, 2 (2000): 478-502

This article investigates the relationship between the level of regulatory burden, the

performance of legal institutions, and the incidence of private protection used by shopkeepers

in Russia. Private protection (racket) here refers to security provided by non-state actors,

including professional providers and the mafia, as opposed to state-provided protection. Using

a survey method, the research shows that the level of regulation affects the level of reliance on

a private protection racket. Where legal regulations, such as the requirement to acquire a

business permit, are tight and complex, private firms tend to choose not to register their

business and thus operate in the unofficial economy. In addition, the level of regulation is

related to the performance of legal institutions which are expected to perform better when

regulations are relatively light. In this situation, local governments are perceived as more

supportive of private business.

In the context of Russia where private business is subjected to extensive regulations, it takes

months to register and acquire all necessary shop permits. This fact is aggravated by

bureaucratic corruption at the level of local government, increasing the cost to obtain a permit.

These conditions in turn reduce incentives for private firms to officially register their

businesses. As a result, those who operate within the unofficial economy are more likely to hire

private protection as they cannot rely on state institutions (such as court and police) to protect

them against fellow entrepreneurs or other parties to enforce contracts and secure their

property rights. Here private protection is seen as a substitute for protection that is supposed

to be provided by the state.

Following Helmke and Levitskystypology of informal institutions, racket as private protection

falls into the category of Substitutive Informal Institutionswherein racket replaces the largely

ineffective formal institutions but has convergent outcomes with those of formal institutions. In

this sense, racket protection emerges in the absence of or limited amount of state protection.

Racket protection achieves what state institutions were designed for but failed to accomplish

due to predatory regulations and excessive corruption. Although the typology is useful in

helping to understand the role of racket in securing private business in Russia, a caveat to this

analysis is worth noting. While Helmke and Levitsky focus more on how informal institutions

shape formal ones, Frye and Zhuravskayas article stresses a reverse relationship that shows

how the predatory formal institutions affect the decisions of businesses to operate in informalinstitutions.

In terms of methodological approach, this article employs survey research that emphasizes

quantitative analysis using statistical techniques. Data was collected through face-to-face

interviews with 230 shopkeepers in three major Russian cities: Moscow, Ulyanovsk, and

Smolensk. The survey targeted randomly chosen medium-sized shops with no more than fifty

employees, including private and privatized shops as well as state shops. The questionnaire

8/12/2019 A review of Timothy Frye and Ekaterina Zhuravskaya's article, Rackets, Regulation, and the Rule of Law

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covered three variables: the level of regulatory burden, the level of state performance, and the

level of private protection.

The level of regulatory burden was measured by five indicators: (1) the time required to open a

shop, (2) the number of permits needed to open a shop, (3) the number of agencies that

shopkeepers needed to visit to open a shop, (4) the length of time needed to register a shop,

and (5) the average number of inspections per year. The state performance variable was

gauged by the use of courts by private businesses (whether they needed courts but did not use

them over the last two years) and the perception of local governments role. Finally, the level of

private protection was determined by the amount contact with the racket in the last six

months.

The papers methodological approach contains key strengths and weaknesses. On the one

hand, the authors survey method provides empirical evidence about the causal relationships

between predatory regulation and the decisions of businesses to operate in the unofficial

economy. The survey method allows the authors to examine the consistency of their data and

attempt to replicate their findings. Moreover, the cross-sectional survey offers the opportunityto assess relations between variables and differences among cities in Russia. For example, in

Ulyanovsk where regulation is generally more extensive than in either Smolenks or Moscow,

nine permits are needed to open a shop in a five-month registration process. Ulyanovsk

consequently suffers the highest level of racket usage at 47.4%. On the other hand, Smolensk

faces a lighter regulatory burden where only five permits are needed in a three-month

registration process. The probability of contact with the racket in Smolensk is 6.7% lower than

Ulyanovsk.

However, this methodological approach faces limitations. Despite the authors confidence in

the accuracy of their data, there is little incentive for respondents to provide accurate and

honest answers, especially when it comes to illicit behavior. Realizing this challenge, in dealing

with sensitive topics (such as shopkeepers personal experiences with private protection), the

researchers ask indirect questions from a third person perspective. For instance, What

functions do you believe that the rackets serve in your city?In this way, the respondents might

be more inclined to reveal their experiences without implicating themselves. Another weakness

is that the article does not seem to provide enough substance in explaining the relationship

between the level of regulation and the performance of legal institutions and how the latter

affects the level of reliance on the racket. Thus, the direction of causality of the three variables

is not completely clear. More specifically, the authors do not provide conclusive evidence on

whether the level of regulation andthe level of legal performance affect the level of reliance on

racket, or whether the level of regulation affectsthe level of legal performance, which in turnaffectsthe level of racket reliance. The paper also somewhat understates the performance of

legal institutions by narrowly defining its indicator as the frequent usage of courts.

To sum up, survey research can be a useful method for the study of illegal behavior. However, it

cannot investigate the actual and detailed dynamics within variables as well as the practices

which sustain them. In addition, survey method requires the researcher to have presumptive

knowledge of a particular set of observed variables and the understanding of how to measure

them. Thus, survey research better serves to verify rather than to discover a phenomenon.