Abstract

Economic growth requires confidence in the state's ability to enforce secure exchange. But when states selectively enforce rule of law, political considerations can moderate the trust that buyers have in sellers. I argue that political connections produce moral hazard in exchange because they introduce biases in expectations of judicial enforcement. Buyers avoid trade with politically connected sellers, and, in this context of unequal enforcement, formal contracts disproportionately protect politically connected buyers. To examine these features of connections and contracts, I created a sales business in Senegal and randomized whether employees signaled political connections and/or offered formal contracts during transactions. The results show that political connections decreased buyers' willingness to exchange. Formal contracts increased exchange, though primarily for connected buyers. These findings show that asymmetric political connections can impede daily trade and intensify economic inequalities in developing contexts, while simultaneously demonstrating the limits of state institutions for mitigating politically driven moral hazard.