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NEWSLETTER

Risks and challenges of corruption in developing countries' infrastructures

21.06.2008

Infrastructure sectors are particularly prone to corruption. What are the challenges faced by developing countries to growing investment needs, private sector participation, and with respect to anti-corruption efforts?

 

Efficient and functioning infrastructure sectors are one of the key elements for a sustainable economic development; but they are also fundamental for people’s daily life. With corruption, however, the efficient delivery of these services is undermined—and infrastructure sectors are known to offer quite a few opportunities for corrupt practices. Charles Kenny’s (2007) overview provides a wide variety of examples and estimations of the costs arising due to corruption.

Although corruption hits industrialised and developing economies alike, the impact on daily life is much heavier in the latter than the former. It may constitute a stumbling stone on the road towards a sustained economic and social development. On the one hand, corruption and bad governance in infrastructure sectors may lead to biased decisions regarding investments, favouring those investments that offer the best opportunities to corruption instead of those that are most needed. On the other hand, the costs of corruption arising to the providers will be shifted directly to users, either through higher prices or lower quality—or even both.

 

Corrupt opportunities

Corrupt opportunities arise at each stage of an infrastructure contract life-cycle, as Jean-François Auger (2007) points out. For instance, it is difficult to assess the correctness of demand estimations on which the construction of power or water treatment plants are based upon. They may thus be strategically, and corruptly, over-estimated to allow for big construction projects where corrupt gains are easy—firms may save on concrete, use low-quality materials and perhaps bribe those that are supposed to monitor the contract execution. Comparisons with other plants are often difficult anyway, since costs depend to a high degree on the specific situation. Costs of treating water from a river or from groundwater are not the same, and water distribution in mountains will be completely different and more expensive then in plains.

Additionally, over-dimensioned plants may be linked with corrupt purchase agreements, as happened in Indonesia where such schemes led to electricity prices 30 per cent higher than the international market price (Hall and Lobina 2004: 271). A firm in a concession contract could try to capture the regulator in order to raise prices or to obtain undue subsidies. Capture may be ex post, aiming at evading existing regulations, or ex ante, where the firm actively influences the design of the regulation, which considerably facilitates compliance afterwards (Boehm, 2007: 63). State owned utilities, in turn, may serve as a garden Eden for nepotism and political favours to unions or voters.

To complete this, certainly not exhaustive, overview, employees in either public or private service providers may extort bribes for establishing new connections, processing complaints or executing repair works in decent time frames. Of course, the possibility to extract such bribes, which are sometimes labelled as ‘speed money’, sets incentives to the employees to slow down even more due processes in order to augment the willingness-to-bribe of users and drive up the bribe values. Just as a monopolist, the employee will maximise its corrupt revenues by augmenting scarcity.

 

Challenges for developing countries

Developing countries are facing the difficult task to maintain existing infrastructures and increase access rates to water and sanitation, energy, and telecommunication, including access to internet. This task applies not only for rural areas, but also for poor households in the cities and informal settlements. For instance, one of the United Nation’s Millennium Development Goal (no 7, target 10) calls for reducing by half the proportion of people without sustainable access to safe drinking water. Beyond physical access to the networks, services must moreover remain affordable to guarantee economic access as well.

To achieve these goals in developing countries, considerable additional financial resources will be needed. The likely gap between national public funds and these needs have to be covered by foreign aid and private investments. Improving aid effectiveness is one of the top issues among multilateral and bilateral donors. And corruption, as one aspect deviating aid from its intended purpose and thus undermining aid, is increasingly addressed as one key element to safeguard aid effectiveness. Regarding private investments, research and experiences gathered during the last one or two decades have helped to overcome the often sanguine debate over private versus public service delivery. The bottom line, as it is often the case, is that there is no blueprint. Charles Kenny (2007: 3) talks about a new pragmatism: both types of arrangements, as well as other types such as community-based services, have pros and cons and a lot depends on the specific institutional environment, including corruption.

What about the issue of corruption and private investments or involvements in infrastructure sectors? On the one hand, private sector participation may solve some problems of corruption related to public provision, but may come along with other, new forms of corruption during contracting and regulation processes (Boehm 2007). The debate here must thus shift toward the desired output of infrastructure policies—and then the importance to take into account institutions such as rule of law, transparency and accountability becomes even clearer. On the other hand, corruption is likely to undermine private investments. A variety of studies showed that corruption deters investments, since it works like a tax and increases transaction costs of business (Lambsdorff 2007: box 22).

This sounds plausible. However, Sudeshna Banerjee, Jennifer Oetzel and Rupa Ranganathan (2006) challenge this and provide us with some food for thought. Exploring a dataset of 40 developing countries between 1990 and 2000, they test how different institutional arrangements affect private investment in infrastructure. One of their findings is that higher levels of perceived corruption attract higher levels of private participation in infrastructure. This apparent contradiction, however, is not as surprising when taking a closer look at these sectors and at the phenomenon of corruption. Early works, such as Andrei Shleifer’s and Robert W. Vishny’s (1993), already pointed out that investors are more likely to be deterred by petty, chaotic corruption, whereas grand corruption may not discourage investors, whether corrupted or not.

Along these lines, Johann Graf Lambsdorff (2007: chap. 7–8) argues that investors are deterred above all by unpredictable corruption, whereas grand corruption may not be so problematic for (corrupt) investors, or even attractive. Indeed, when corruption is predictable, and when firms become insiders of the corrupt networks, they will be able to manage this type of grand, political corruption and divide gains from corrupt agreements with politicians or government officials. Big infrastructure contracts are predestined for such type of collusion among higher administration, politicians and firms. ‘[C]ompanies may be attracted to such [corrupt] countries for opportunistic reasons. Perhaps greasing the palms of government officials enables private investors to reap greater economic rewards than they would receive in a more competitive and transparent operating environment’, suspect Sudeshna Banerjee, Jennifer Oetzel and Rupa Ranganathan (2006: 196).

Could corruption therefore be seen as a new fashionable way to attract desperately needed capital? Of course not! Again the outcome of investments is what counts. And it is heroic to suggest that corruption will just be a transaction cost of change and that once the contract has been awarded corruptly everything will become clean and transparent (Boehm 2007: 21). Such corrupt deals are carried out at the expense of society at large and especially of the poorer population, paying higher prices for electricity due to a corrupt power purchase agreement for instance; but also at the expense of honest competitors which will be driven out of these markets. Having said that, relatively severe standards such as the Organisation for Economic Co-operation and Development (OECD) Convention on Combating Bribery of Foreign Public Officials in International Business Transactions may lead firms subject to OECD member states jurisdictions to leave markets in countries where corruption is endemic; firms that face fewer scruples to use corrupt methods to win contracts, of course, will fill these gaps. If this is in the interest of developing countries and sustainable development of infrastructure sectors is highly questionable.

 

Avenues against corruption

The previous potential dilemma shows that anti-corruption is a difficult undertaking and strategies that at first sight seem promising may backfire badly. Indeed it is sometimes not even helpful to talk about corruption. Not because corruption may still be a taboo, but because corruption is a complex, multi-facetted problem and will require different solutions. Are we talking about high level or low level of administrative corruption? Are we facing political corruption, state or regulatory capture? Is there a problem of embezzlement, fraud, bribery, extortion, nepotism or favouritism or perhaps collusion amongst firms? There may even be trade offs: fighting against bribery, for instance, may only end up favouring extortion.

Trying to subsume all these phenomena under the elastic notion of corruption would be as if doctors were talking about illness in general. It is better to make progresses by building up the equivalent of what nosology does for medicine. There is no one-cure-fits-all. Jean-François Auger (2007) points to some general strategies of anti-corruption that could be applied in infrastructure sectors as well. But in the end, entry points for anti-corruption policies and measures call for a careful analysis. Of course, you don’t need an atomic bomb to kill a mosquito. And Charles Kenny (2007) underscores correctly that we still need to learn a lot more about the mechanisms and the channels of corruption in infrastructure sectors in order to design focused and efficient anti-corruption measures. For this purpose, case studies and the instruments provided by the new institutional economics, for example, offer interesting avenues for further research since they aim at shedding light on the institutions underlying corrupt deals and the related transaction costs. Precisely these institutions and transaction costs may offer precious insights on how to make the life of corrupt managers, politicians or public officials difficult.

Including such well-designed and targeted anti-corruption measures has the potential to considerably augment the efficiency and effectiveness of infrastructure policies. This holds for both public and private, or alternative schemes of provision. Not at least, taking into account corruption would contribute to augment the efficient use of the already scarce funds to strengthen infrastructures in developing countries and to make sure that these resources are being used for their intended purposes. Ultimately, this will promote and sustain development, and it will serve those that are most hurt by corruption and whose interests should be at the centre of infrastructure reforms in developing countries—the poor.

 

References

Auger, J.-F. (2007), ‘Corruption in European Infrastructures’, Network Industries Quarterly, 9 (4): 2.

Banerjee, S.G., Oetzel, J.M., and Ranganathan, R. (2006), ‘Private provision of infrastructure in emerging markets: do institutions matter?’, Development Policy Review, 24 (2): 175–202.

Boehm, F. (2007), Corruption and Regulatory Capture in Public Service Sector Reforms (Berlin: WiKu-Verlag).

Hall, D., and Lobina, E. (2004), ‘Private and public interests in water and energy’, Natural Resources Forum, 28: 268–277.

Kenny, C. (2007), ‘Infrastructure governance and corruption: where next?’, World Bank Policy Research Working Paper (World Bank no 4331).

Lambsdorff, J. Graf (2007), The Institutional Economics of Corruption and Reform: Theory, Evidence, and Policy (Cambridge: Cambridge University Press).

Shleifer, A., and Vishny, R. (1993), ‘Corruption’, Quarterly Journal of Economics, 108 (3): 599–617.

 

Disclaimer

The ideas expressed in this paper constitute the personal opinion of the author and in no way comprise the position of the organisations associated with him.

 

About the author

Frédéric Boehm, economist, works for the German Technical Cooperation (Gesellschaft für Technische Zusammenarbeit). He is affiliated to the Research Center in Political Economy, Universidad Externado de Colombia, Bogotá, Columbia. Email: <frederic.boehm@gtz.de>

author: Frédéric Boehm