No. 916 - The effect of organized crime on public funds

Organized crime is widely regarded as damaging to the economy, to say nothing of people's lives. Yet little is known about the mechanism at work. This paper helps fill the gap by analyzing the impact of organized crime on the allocation of public subsidies to businesses. We assemble an innovative data set on Italian mafia crimes at municipal level and test whether organized crime diverts public funding. We exploit exogenous variations at the level of municipalities to instrument current mafia-style activity by using exogenous shifters of land productivity in the 19th century. Our results show that the presence of organized crime positively affects both the extensive margin (probability of funding) and the intensive margin (amount of public funding to enterprises). The impact is economically relevant and equal to at least one standard deviation of the dependent variable. Organized crime is also found to cause episodes of corruption in the public administration. A series of robustness checks confirm the findings. Our results suggest that geographically targeted aid policies should be careful to take local crime conditions into account.