Extortion, firm's size and the sectoral allocation of capital

Extortion of firms is a typical activity of organized crime such as Mafia. We develop a simple principal-agent model to find the Mafia-optimal extortion as a function of firm’s observable characteristics, specifically firm’s size. We test the predictions of the model on a unique dataset on extortion in Sicily, the Italian region where Mafia is most active. Our empirical findings show that i) extortion moderately increases with firm’s size ii) extortion is regressive, the average extortion rate ranging from approximately 40% of operating profits for small firms to 2% for large firms iii) extortion turns average cost function decreasing, therefore influencing market competition