Entrepreneurs Care About Corruption – Here’s How to Help Them Fight It.

A friend of mine has been trying to start an artisanal liquor business in a small Latin American country. He learned to ferment fruit, crafted a logo, scrounged for and sanitized several hundred glass bottles, registered his corporation with all the various agencies, and paid all of his initial taxes. After producing his first batch and selling it to a number of small shops, he decided it was time to expand. Unfortunately, when he began to negotiate sales to larger restaurants and grocery stores he ran into a major complication: liquor taxes. The high level of liquor taxation made his business model completely unprofitable. Trying to understand how any other liquor business stayed afloat, he discovered that one liquor manufacturer and importer dominated the market, and didn’t pay any taxes. How? Corruption. In order to stay in business, my friend had a choice: (A) he could stay small, fly under the radar, and avoid paying taxes, or (B) he could navigate the perilous and uncertain process of bribing his way out of paying taxes. He ended up choosing a third option: he closed up shop and went back to his day job.

Ultimately, the fate of one small liquor business is not that important. But my friend’s experience illustrates a much more general phenomenon, one that is likely familiar to readers with experience in countries where corruption is widespread: corruption protects incumbent firms, undermines entrepreneurship, and constrains growth and job creation—particularly by small and medium-sized enterprises (SMEs), which are often the primary drivers of economic growth, employment, and innovation. Corruption can be a critical roadblock to entrepreneurs and small business owners who can’t bribe their way out of regulation. In fact, pervasive corruption can shift business incentives to such a significant extent that it can impact the shape of an economy dramatically. Continue reading

The Aid-Corruption Paradox: How Should the U.S. Allocate Foreign Aid?

The United States spends about $34 billion annually on foreign aid, frequently to countries that have abysmal corruption track records (see the exact allocations here). Although a portion of that money, almost $6 billion, goes to humanitarian aid, the remainder is intended for development purposes. There has been a great deal of discussion about whether the United States should continue giving this aid, exemplified by the debate between Jeffrey Sachs and William Easterly: Professor Sachs argues that the West can eliminate African poverty if it increases the amount of aid, while Professor Easterly insists that foreign aid thus far has not only been ineffective, but has actually caused greater harm to aid-receiving countries, in part due to corruption. Easterly-like skepticism of foreign aid due to corruption (a topic that has been discussed previously on this blog) seems to have permeated public opinion, resulting in what has been labeled “aid fatigue.” Such fatigue endangers the foreign aid system, as taxpayer support is necessary if the U.S. hopes to continue or increase its aid programs.

Unfortunately, choosing to withhold aid from corrupt countries altogether would be to deny aid from the majority of the world’s poorest countries. Corruption and poverty are correlated, resulting in an “aid-corruption paradox”: often the countries that are in the greatest need of foreign aid also have extremely corrupt governments. Thus there will inevitably be a trade-off when giving development aid: either we will be ignoring the countries in greatest need, or we will give to those countries but accept that a portion of the funds may not serve their intended purposes. How then should countries such as the United States determine where to allocate their development aid? Continue reading

Reducing Corruption in the Use of Development Aid: The Payment by Results Model

Corrupt diversion of development aid in recipient countries affects both the efficacy of the intended development programs and the willingness to supply aid in donor countries. Mismanagement of development funds has spurred debate over the ability of our current aid models to achieve development goals (improved healthcare, poverty alleviation, etc.). Many possible solutions for reducing corruption’s effect on development have been tested over the years with varying degrees of success. Various approaches have been tried, including conditioning aid or loans on “good governance” policy reforms, allocating development aid to local governments or local NGOs rather than national institutions, improving oversight and tracking of aid money, and supplying loans exclusively to countries that already have relatively favorable corruption scores (called performance-based lending). Each of these models has its own limitations: Conditionality is often viewed as an affront to sovereignty and has not been terribly effective. The local approach does not address governance issues, and local actors have not always proved to be less corrupt. Oversight of funds is important but costly and imperfect. Performance-based lending seems to leave behind many poor countries that cannot jump the corruption “hurdle.”

In searching for alternative models for distributing aid in light of the aid-corruption paradox, some donors have turned to yet another approach: payments by results (PbR). PbR has been supported by the Center for Global Development (see here and here) and has gained significant traction in the past two years by bilateral donors, such as the UK and Norway, and multilateral donors, such as the World Bank. The basic premise of PbR is that payment to the recipient depends on achieved results. The donor and recipient first define the desired outcomes (e.g., increased TB vaccinations, construction of an infrastructure project, etc.) and determine the amount that the donor will give once the desired outcome is met. The donor may provide some money up front to implement the program, but the rest of the payment is contingent upon performance: The recipient carries out the project independently, the donor measures the results, and, if the results meet the agreed-upon objective, the donor releases the remaining funds. This approach stands in contrast to the traditional input model, in which a donor gives the recipient money for inputs and provides a detailed action plan along with significant oversight for achieving results. Continue reading

Community Development Agreements: A New Anticorruption Tool?

Projects in the extractive industries are often enormous, long-lasting, multi-billion dollar affairs. Given the disruption, potential for environmental disaster, and permanent changes in the state of the land, these projects tend to generate conflict and controversy, especially in low-income countries, where citizens may enjoy fewer legal protections. As a way to mitigate these risks, some nations require extractive firms to enter into “Community Development Agreements” (CDAs) with local communities. (CDAs—which are also sometimes known as Benefit Sharing Agreements, Impact Benefit Agreements, or Community Joint Ventures—are sometimes voluntary corporate social responsibility initiatives, but my focus here is on CDAs that are required by, and incorporated into, national regulatory frameworks.) At the most general level, CDAs are created through a process that engages local populations in important decision-making about the project and its profits. The process varies, but usually includes the following steps:

  • Identify the people who will be affected
  • Allow those identified to determine what the community could gain from the project (whether that be jobs, money, education, infrastructure, long-term benefits, etc.)
  • Write a CDA that encompasses the demands of the community and aligns with regulatory requirements
  • Provide monitoring tools to the affected population
  • Set up dispute resolution systems
  • Strategize for how to prepare the population for the end of the project’s lifespan.

This process takes time and can be expensive. But extractive projects typically last for decades, and so building a sustainable relationship with the local population is vital to the project’s success. After all, many corporations fund similar stakeholder engagement processes without being required by law to do so. That is because CDAs can be a good business decision: empowering the community allows the company to avoid violent conflict and signaling that the firm is a good corporate citizen.

For those countries that do require a CDA for extractive projects, the law also regulates the substantive terms, requiring CDA contracts to contain certain clauses–typically monitoring components, dispute resolution mechanisms, and local spending or employment quotas. However, one thing that is never included in a CDA is an anticorruption clause. The words “bribery” or “corruption” appear nowhere in the World Bank’s model CDA agreement, and the Columbia Center on Sustainable Investment (CCSI) is silent on the issue. Building on recent work by Abiola Makinwa and James Gathii, I posit that CDAs should include anticorruption clauses, to empower private citizens in fighting corruption in public contracts. The basic idea is to allow the recognized community members—those covered by the CDAs—as “third party beneficiaries” to the contract between the government and the extractive company. The community members would then be entitled to sue if there was corruption in the making or execution of the contract.
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Can U.S. Efforts To Fight Vote Buying Offer Lessons for Others?

Vote buying—the practice of providing or promising cash, gifts, jobs, or other things of value to voters to induce them to support a candidate in an election—is illegal in 163 countries, yet it is a widespread and seemingly intractable problem in many parts of the developing world. In Ghana, for example, incumbents distribute outboard motors to fishermen and food to the rural electorate. In the Philippines, politicians distribute cash and plum short-term jobs. In 2015, Nigerian incumbents delivered bags of rice with images of the president ahead of the election. And Werner Herzog’s 2010 documentary film Happy People shows a politician cheerfully delivering dried goods along with musical entertainment to an utterly isolated village of trappers in Siberia (49 minutes into the film). Thus, recent instances of vote buying are more varied than the simple cash for vote exchange; they include awarding patronage jobs and purposefully targeting social spending as a reward for political support.

Vote buying not only distorts the outcomes of elections, but it also hurts the (usually poor) communities where this practice is rampant. It might be tempting to say that at least those who sell their votes receive something from their government, but in fact, once these citizens are bought off, their broader interests are left out of the government’s decision-making process, as the incentive to provide public goods to that group disappears. A study in the Philippines, for example, found that vote buying correlates with lower public investments in health and higher rates of malnourishment in children.

While some commentators occasionally (and condescendingly) suggest that vote buying is a product of non-Western political norms and expectations, this could not be further from the truth. Although wealthy democracies like the United States today experience very little crude vote buying, vote buying in the U.S. was once just as severe as anything we see today in the developing world. In fact, during George Washington’s first campaign for public office in 1758, he spent his entire campaign budget on alcohol in an effort to woo voters to the polls. By the 19th century, cash and food occasionally supplemented the booze, particularly in times of depression. Even as late as 1948, a future president won his senate campaign through vote buying and outright fraud.

Yet while U.S. politics today is certainly not corruption-free (see here, here, and here), it has managed to (mostly) solve the particular problem of vote buying. Does the relative success of certain U.S. efforts hold any lessons for younger democracies? One must always be cautious in drawing lessons from the historical experience of countries like the U.S. for modern postcolonial states, both because the contexts are quite different and because suggesting that other countries can learn from the U.S. experience can sometimes come off as patronizing. Nevertheless, certain aspects of the United States’ historical strategy to combat vote buying might be relevant to those countries struggling with the problem today. Let me highlight a few of them: Continue reading

Building Booms and Bribes: The Corruption Risks of Urban Development

Windfall gains often create opportunities for corruption. The big inflow of money increases the opportunities and incentives for kickbacks and bribery as a means to capture new funds. Well-known examples of this phenomenon include disaster relief efforts, resource booms, and humanitarian aid. Yet the concern is not limited to those contexts. Changes in the price and value of land in a given area can also create the opportunity for windfall, and associated corruption risks.

The corruption risks in the land sector and real estate industry have been discussed broadly as pervasive; routine land administration and land grabbing provide ample opportunities for corruption to flourish where land governance is weak. Yet these discussions sometimes overlook another sort of corruptogenic windfall in land markets, one that is often hiding in plain sight: the effects of gentrification of urban centers. Experiences from cities around the world exemplify three common ways in which these windfall gains from gentrification provide opportunity for corruption. Continue reading

Innovative or Ineffective?: Performance-Based Lending as an Anticorruption Tool

The Sustainable Development Goals’ (SDGs) new focus on fighting corruption and building institutions has generated quite a stir (including on this blog – see here, here, here, and here). But the Millennium Challenge Corporation (MCC) – a U.S. agency responsible for disbursement of assistance geared toward international development targets – has long been acting against corruption through its effort to achieve the SDG precursors, the Millennium Development Goals (MDGs). Institution-building does not appear among the substantive aims of the eight MDGs. Rather, the MCC made anticorruption central to its work by introducing corruption indices into its process for competitive selection of aid recipients. In brief, the MCC Board of Directors chooses aid-eligible countries by evaluating and scoring candidates countries’ “policy performance” on a number of measures. Crucially, in order to qualify for aid, countries must score above average for their income group on the Worldwide Governance Indicators (WGI) “Control of Corruption” score. The indicator is therefore known as the “hard hurdle.” The Board also assesses corruption trends in its analysis of a country’s ability to reduce poverty and generate economic growth, which, with policy performance, comprises the overall evaluation.

This strategy is known as performance-based lending, and the MCC has employed it to award over $10 billion in grants to nearly 40 countries over the past 12 years. Is the MCC approach a good one? Many critics say no. I say yes. Although it is a strategy that is still evolving, performance-based lending—including the corruption control “hard hurdle”—is not only innovative and effective, but important.

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