New Europe's many faces of corruption

By bne IntelliNews November 15, 2006

Liz Barrett in Hungary -

A new report from anti-graft group Transparency says "New Europe" is becoming less corrupt, but World Bank research shows bribery remains a big problem for private firms and start-ups.

Central Europe is becoming less and less corrupt, according to Transparency International’s latest Corruption Perceptions Index, released on November 6. But research by the World Bank shows that bribery remains a major problem for private firms and start-ups – the drivers of economic growth. Moreover, as transition progresses, the corruption hotspots shift to new areas. The next target may be the EU funds set to flood into the region from next year.

The Transparency International (TI) index has long shown that New Europe is more corrupt than "Old Europe," just as both are less corrupt than the developing world.

Estonia consistently comes out as the cleanest country, with perceived corruption levels similar to Spain and the US, and is closely followed by Slovenia.

Corruption is more of a problem in the Balkans than in Central Europe, and worse still in Russia and the Caucasus. Central Asian countries meanwhile are among the most sleaze-ridden, up there with Nigeria and Sierra Leone.

The TI Index has been instrumental in raising awareness of corruption, but it can give the impression that corruption is simply so endemic it is not worth trying to tackle.

Another survey by the World Bank gives a far more detailed picture of how corruption really impacts day-to-day business operations and finds that while the problem is serious, it is being tackled in many areas.

In the World Bank’s Business and Economic Enterprise Performance Survey (BEEPS), managers in around 20,000 firms throughout CEE and the CIS were interviewed face-to-face, most recently in 2005, but also in 2002 and 1999. The 2005 survey included some West European countries for the first time, making it more difficult for Central European politicians to brush off corruption allegations by claiming that "it happens everywhere;" it doesn’t, at least not to the same extent.

The news from the BEEPS is basically good. The number of firms perceiving corruption to be a problem for their own operations has generally declined across the EU-8 and has increased in only one country – the Czech Republic. Bribery remains a significant cost though, accounting for 2.9% of revenues of firms across the region.

There has also been a major improvement in the frequency with which firms are required to pay bribes. Again, the numbers get better as one moves westwards: in Romania, more than 20% of firms say they pay bribes frequently, while less than 10% do in Estonia and Latvia.

According to James Anderson, one of the authors of the World Bank report, the countries where most progress is seen tend to be those that have had the best stab at administrative reform. Thus, Slovakia, after simplifying its tax system in 2004, has seen tax collection improve and reduced some of the incentives for corruption. As a result, the number of firms reporting that bribery is frequent has fallen from 10% in 2002 to 3% in 2005. Georgia too has seen important improvements since its reform push of recent years.

One worrying trend is that bribery is more of a problem for private firms than for the public sector, and for new firms than for established companies. This is not surprising, since the bureaucracy involved in setting up a new business provides many opportunities for soliciting bribes. But it is bad news for the economy, since it is new private firms that are the drivers of economic growth and structural change.

Peddling influence

Corruption is not always about brown paper bags bulging with cash, or even folded banknotes pressed into the hands of officials. A number of firms view corruption as a problem for business, yet report that bribery is not frequent; in Southeast Europe, one-third of firms take this view. This suggests that non-monetary forms of corruption are rife, with officials granting privileges to friends or members of the same informal network, probably in the expectation that the favour will be returned in the future.

One of the World Bank’s innovations is to draw a distinction between administrative corruption and state capture. Administrative corruption occurs when an official is convinced to overlook an existing law or policy. State capture, on the other hand, occurs when a firm succeeds in persuading a parliamentary deputy to insert some favourable clause into a law, changing that law once and for all. State capture can have much longer-term implications since it gives the captor firm a systematic advantage over its competitors.

The BEEPS survey measures state capture by asking to what extent unofficial payments, gifts or other benefits to parliamentarians to affect their votes have a direct impact on the respondent's business. The highest levels of perceived state capture are found in the Balkans, particularly in Bosnia-Herzegovina, Macedonia, Serbia and Montenegro.

Aleksandra Martinovic of TI in Bosnia says the big problem here is trading in influence. "The political parties all have connections on the boards of public-owned companies which enable them to drain public money to their own private accounts," she says.

State capture is a far harder nut to crack than simple bribery. The number of firms reporting that state capture has a direct impact on their business has fallen significantly since 2002 only in three countries: Uzbekistan, Georgia and Bulgaria. In most other countries, levels are practically unchanged.

Moreover, on state capture there is a much smaller gap between East and West with Portugal and Greece registering similar or higher levels to the EU-8. Anderson puts this down to the complexity of trying to regulate interaction between the business community and politicians.

"Communication is something that you want to encourage, it’s essential for promoting business friendly legislation. On the other hand, close links can have negative implications too – state capture, wasteful spending," he says.

A country’s corruption hotspots change over time and as transition progresses. At the beginning of transition, privatisation on a massive scale provided endless opportunities for government cronies to buy property at discounted rates, using insider information, soft loans from state banks or exploiting loopholes in the fast-changing and inadequate legislation.

With privatisation nearly complete in many countries, the focus of corrupt activity has shifted to the next big area where state resources are disbursed – public procurement.

In research commissioned by Transparency International’s Prague chapter, Jan Pavel found that from 2001 to 2005 less than a third of public procurement contracts were awarded through open tenders. One purchase is often divided into several small contracts so as to avoid regulations that would make an open tender compulsory. And even where contracts are open, it is common practice for a firm with influence or connections to get a preview or even be involved in writing the tender.

Another big corruption hotspot threatens to be the spending of EU structural funds. The next programming period starts in 2007 and ends in 2013, with all of the new EU members expecting to receive floods of cash – the Czech Republic could receive €26bn, Hungary €22bn, Poland almost €60bn.

TI’s Warsaw office has been thinking about how to ensure that the structural funds are not swallowed up by corruption. They recommend, for example, an amendment to the Polish conflict of interest law so that those who make the decisions about the allocation of funds are not also the ones who gain from them.

At the moment, says Małgorzata Brennek, the head of TI Poland, “the system is a paradox, at the same time over-regulated and yet with ample room for manipulation. It is like a brace that you wear when you have broken your back – on the one hand it is very stiff, but it is also full of holes.”

Hungary is one step ahead in theory: its "Glass Pocket" law requires individuals who take part in decisions concerning more than HUF1m of public money to make a statement declaring their personal assets. But in practice, nobody fills out the complicated form and nobody checks up on it.

All over the region, the criteria for selecting the projects that receive the funds are poorly defined and it's rare to record how competing projects are evaluated, let alone to monitor whether funds are spent as planned once disbursed. The way things currently look, channelling EU money is set to become big business.

Send comments to Liz Barrett

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