Integrity in the Provision of Infrastructure: The Way...

Integrity in the Provision of Infrastructure:

The Way Forward in Control of Corruption and Accountability

For

Asian Development Bank

East Asia and Pacific Infrastructure Flagship Study

DRAFT VERSION II

September 2004

Copyright Castalia. All rights reserved. Castalia is not liable for any loss caused by reliance on this documents. Castalia refers to members of the worldwide Castalia Advisory Group and its staff

This paper was commissioned for the ADB-JBIC-World Bank East Asia PacificInfrastructure Flagship Study. The views expressed are those of the author only.

Table of Contents

1 Introduction................................................................................................................................. 4

1.1 The brief .............................................................................................................................. 4

1.2 Methodology....................................................................................................................... 4

1.3 Summary.............................................................................................................................. 4

2 Integrity ........................................................................................................................................ 6

2.1 The topic of inquiry........................................................................................................... 6

2.2 The framework................................................................................................................... 7

2.3 Empirical evidence............................................................................................................. 8

2.4 Access to telecommunications infrastructure ..............................................................11

2.5 Access to Power Infrastructure .....................................................................................14

2.6 Access to road infrastructure .........................................................................................17

2.7 Access to water infrastructure........................................................................................20

2.8 Empirical conclusion.......................................................................................................23

3 Control of Corruption..............................................................................................................25

3.1 The sources of temptation..............................................................................................25

3.2 Analysis..............................................................................................................................29

3.3 Private sector corruption ................................................................................................30

3.4 Interaction between public and private sectors...........................................................33

3.5 Conclusion ........................................................................................................................37

4 Accountability............................................................................................................................38

4.1 Legitimacy of decisions ...................................................................................................40

4.2 Quality of decision-making.............................................................................................46

4.3 Improving oversight ........................................................................................................49

4.4 The dark side of accountability ......................................................................................53

4.5 Conclusion ........................................................................................................................56

5 The Way Forward .....................................................................................................................57

6 Case Study - The Manila Water Concessions........................................................................59

7 Annotated Bibliography ...........................................................................................................68

Figures

Figure 2-1 : Main Lines Access Index and Accountability - Global ................................ 12 Figure 2-2 : Main Lines Access Index and Control of Corruption - Global..................... 12 Figure 2-3 : Deviations from Income-Related Trend for Teledensity among EAP

Countries and Accountability ................................................................................... 13 Figure 2-4 : Deviations from Income-Related Trend for Teledensity among EAP

Countries and Control of Corruption ........................................................................ 14 Figure 2-5 : Electrification Access Index and Accountability - Global............................ 15 Figure 2-6 : Electrification Access Index and Control of Corruption - Global ................ 15 Figure 2-7 : Electrification Access Index and Control of Corruption - East Asian

Countries ................................................................................................................... 16 Figure 2-8 : Deviations from Electrification Predicted by Per Capita GDP and Control of

Corruption – East Asian Countries ........................................................................... 17 Figure 2-9 : Road Density Index and Accountability - Global ......................................... 18 Figure 2-10 : Road Density Index and Control of Corruption - Global............................ 18 Figure 2-11 : Change in Road Density and Accountability EAP Countries..................... 19 Figure 2-12 : Deviations from Road Density Predicted by Per Capita GDP and

Accountability - EAP................................................................................................ 20 Figure 2-13 : Urban Access to Piped Water Index and Control of Corruption - Global .. 21Figure 2-14 : Urban Access to Piped Water Index and Control of Corruption – East Asia

................................................................................................................................... 22Figure 2-15 : Deviations from Urban Access to Piped Water Predicted by Per Capita

GDP and Control of Corruption – East Asia ............................................................ 23 Figure 4-1: The push and pull of accountability............................................................... 39 Figure 4-2: Involving stakeholders in the decision-making process ................................ 46 Figure 5-1 : Interactions which require integrity .............................................................. 57

1 Introduction

1.1 The brief

This paper is part of a suite of papers commissioned as background material for the East Asia and Pacific Flagship Infrastructure Study. Alongside other research, this paper seeks to identify the way forward for the region to meet the challenge of achieving the desired level of infrastructure service provision.

This paper focuses on how improvements in accountability and control of corruption could contribute to the goal of better infrastructure outcomes. In essence, we look at the integrity of processes and institutions which influence the provision of infrastructure, and consider how this integrity can be enhanced.

1.2 Methodology

We start by undertaking empirical research to identify the likely effect of improving accountability and control of corruption on infrastructure provision. We then review the key literature on accountability and corruption. We do not believe there is a ready-made framework from the literature. Hence, we develop a framework for considering what actions can be taken to enhance accountability and control of corruption.

1.3 Summary

We conclude that integrity does matter for improving access to infrastructure services. There is a rich literature on control of corruption and improvement in accountability. We find that various proposed solutions can be boiled down to a small number of critical elements:

The need for explicit definition of performance targets and outputs, and the ability and incentive to hold providers to these targets

Incentives to strengthen internal controls within organizations providing infrastructure services

Maximum disclosure of all relevant information to the public

Explicit and genuine processes to involve relevant stakeholders in decision-making, combined with clear rules on who has legitimate interests, and who has no standing

Transparent decision-making, with opportunities for challenge and review.

Given these elements, as well as the need to attract private capital into infrastructure investment, our analysis of the way forward focuses on how private sector participation can be used as a tool to strengthen accountability and reduce corruption through:

Explicit contracting with private suppliers through competitive tendering

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Public consultation processes to prepare such transactions, and to develop the appropriate contract targets and outputs

Provision of information to consumers, consumer advocates and the public at large on the performance of contracted parties

Enforcement of performance

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2 Integrity

2.1 The topic of inquiry

Over the past 15 years, thinking on economic development, including provision of infrastructure, has increasingly come to concentrate on the need for good governance. Keefer (2004) summarizes the definition of governance emerging from recent literature as:

“The extent to which governments are responsive to citizens and provide them with certain core services, such as secure property rights and, more generally, the rule of law; and the extent to which the institutions and processes of government give government decision makers an incentive to be responsive to citizens”

With respect to infrastructure, “good governance” has come to describe a wide range of institutional features which together combine to ensure the best possible use of resources to achieve the highest possible level of access to infrastructure services.

In practice, the term “governance” has come to mean different things to different observers. As we show in the annotated bibliography in Appendix B, the existing literature does not provide a ready way to integrate all the elements of governance into an overall framework.

In this paper, we concentrate on two aspects of good governance – control of corruption and accountability. Together, these two aspects of governance describe the integrity of decisions about provision of infrastructure services. Greater integrity means that:

Infrastructure investments and services efficiently respond to the needs of the population, rather than providing benefits to a small elite

Infrastructure transactions are financially and politically sustainable, and take into account the rights of the affected parties

Infrastructure planning and coordination is focused on the medium to long term, rather than on short-term firefighting

There is a positive and predictable environment for private sector participation in infrastructure, but private firms are prevented from extracting monopoly rents.

Integrity of provision of infrastructure services is decided within an institutional framework. Among other things, such a framework includes definition and allocation of property rights, the structure of decision-making processes, the availability and the use of information by decision makers, and the system of incentives (both penalties and rewards) which influences individuals within the relevant institutions and organizations. Clearly, all aspects of the institutional framework are inter-linked, and have to be considered within an overall context. By drilling down to two aspects of integrity – control of corruption and accountability – this paper concentrates on the corresponding questions about the institutional framework:

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Do the institutions that influence the provision of infrastructure services allow some individuals to achieve illegitimate gains at the expense of everyone else?

Is there a process through which bad decisions and illegitimate actions come to light?

Is there a cost to making bad and illegitimate decisions, which would act as a deterrent?

Answers to these questions will provide a way forward to improving the environment for infrastructure development in East Asia and the Pacific.

2.2 The framework

This paper is focused very specifically on examining the roles of accountability and control of corruption in improving access to infrastructure services. While vast literature exists on measures to control corruption and improve accountability, this paper sets out to draw specific lessons for the infrastructure sector. To do this, we need to start with a clear understanding of the factors that define infrastructure.

For the purposes of our analysis, we use the definition used in the survey piece by Stephen Jones, Contribution of Infrastructure to Growth and Poverty Reduction. Jones, following Prud’homme, 2004, defines infrastructure as:

A capital good, which produces a flow of services over time in combination with other inputs.

A lumpy good, implying lag times in matching demand and supply, and sunk costs that create risks for providers

A long-lasting good, with implications for financing and maintenance

A space-specific good, so that siting decisions are of critical importance

These characteristics of infrastructure critically influence the ways in which control of corruption and accountability affect the provision of infrastructure services. These include:

The lumpiness of infrastructure investment creates opportunities for “grand corruption”, given the scale of the financial commitments that need to be made. The complexity of infrastructure investments, frequently including the site-specific, one-off nature of engineering solutions, make it relatively difficult to ensure that an efficient level of resources is committed. Similarly, the long-lasting nature of the good makes it difficult for the parties involved to understand the nature of the risks that they take on. This complexity creates opportunities for individuals to benefit from low integrity. This may take many forms. For example, reducing the quality of an infrastructure asset may result in an immediate financial gain, while the cost will not become visible for some time

The site-specific nature of infrastructure investment increases the risks of hold-up by various parties involved, while also creating conflicting interests that need to be traded off. A common problem associated with the site-specific nature of

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infrastructure investment is that “greater national interests” are used as an excuse to suppress the legitimate interests of the communities which will be affected by the investment. On the other hand, the NIMBY (not in my back yard) effect may result in local interests prevailing over the wider interest. How the trade-offs between local and wider interests work themselves out will to a large extent depend on how decision-makers perceive their accountabilities, and on how the institutions responsible for the provision of infrastructure interpret the legitimacy of various interests

One of the critical issues in infrastructure – resulting from its capital good characteristic - is the need to get the optimal balance between maintenance and investment. In many developing countries in particular, emphasis on new investment and low priority given to maintenance result in an unhappy combination of significant commitment of resources together with poor levels of access to infrastructure services. The workings of the accountability regime, and the levels as well as the type of corruption, will influence outcomes. For example, if political leaders derive power and kudos from the levels of investment committed to high profile projects, powerful incentives may exist to over-invest and under-maintain

The analysis in this paper will proceed by linking the characteristics of infrastructure with the relevant elements of integrity.

2.3 Empirical evidence

Before we commence policy analysis, we must address the question of materiality: does integrity really matter for the achievement of objectives with respect to infrastructure services? Accountability and control of corruption are, in some sense, fashionable topics in the international development field, but among many developing country governments there exists resistance to focusing on these issues:

Recent high profile corruption cases in developed countries, such as France, appear to offer some officials in developing countries a sense of comfort that high levels of economic development can be achieved without greatly increased integrity

China’s particular success in generating high levels of infrastructure investment, despite the country’s relatively high ranking in perceptions of corruption and its relatively low ranking on measures of accountability, also raises doubts about the focus on integrity

Potential private investors in infrastructure tend to emphasize predictability and security of property rights as the key factor in deciding on attractiveness of a country. In some sense, stability and predictability may be easier to achieve in tightly controlled, closed systems of government. For example, Vietnam – which ranks low on aggregate governance measures – tends to rank higher in surveys of investment attractiveness than the Philippines, which has a relatively higher governance ranking. This again raises doubts about the importance of integrity.

In this section, we use the available empirical evidence to consider whether integrity matters. We find empirical support for the proposition that greater integrity allows

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countries to punch above their economic weight by achieving higher access to infrastructure services than countries with similar per capita GDPs but lower levels of integrity.

For our empirical analysis, we use World Bank aggregate governance indicators, described in Kaufmann, Kraay and Mastruzi (2004). Consistent with the topic of this paper, we focus on two sets of indicators: accountability and control of corruption.

“Voice and Accountability” indicators include a number of indicators measuring various aspects of the political process, civil liberties and political rights. These indicators measure the extent to which the citizens of a country are able to participate in the selection of governments. This category also includes indicators measuring the independence of the media, which serves an important role in monitoring those in authority and holding them to account.

“Control of Corruption” indicators measure perceptions of corruption, conventionally defined as the exercise of public power for private gain. The particular aspects of corruption measured by various sources differ somewhat, ranging from the frequency of “additional payments to get things done”, to the effects of corruption on the business environment, to measuring grand corruption in the political arena.

Kaufmann and other researchers have used the aggregate governance indicators to examine a broad range of relationships between the quality of governance and economic performance.

In a recent paper, Kaufmann et al1 explore the relationship between good governance, globalization and city performance in terms of access and quality of delivery of infrastructure services. The focus of their paper is the city and the degree to which the level of globalization and the quality of government influence the levels of service provided.

Specifically, Kaufmann et al test the hypotheses that governance matters by measuring city performance in relation to access to water supply, sewerage, electricity, and telephones.2 This is correlated to a vector of governance indicators. Using the non-OECD countries in their sample, they find that governance was significantly associated with performance for both local and global cities. The well governed cities performed better than poorly governed ones across all quality and access to service variables.

They also compared the service and quality indicators to three specific governance indicators: control of corruption (taken as a national average), bribery in utility (city level) and state capture (city level). Again, well governed cities performed better against all of the governance indicators and service variables, except for access to the electricity grid.

Interestingly, Kaufmann et al also find that the availability of non-network options for the provision of infrastructure services reduces the impact of governance. For those services where residents did not have alternatives suppliers, governance variables such as bribery and control of corruption became much more significant. For example, the role of governance was almost neutralized in access to telephones where mobile services 1 Daniel Kaufmann, Frannie Leautier, and Massimo Mastruzzi. “Governance and the City: An Empirical Exploration into Global Determinants of Urban Performance.” Preliminary Draft – April 29, 2004. 2 They use data from the UN Obsevatory (1998) and EOS (2003)

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provided alternatives to the land lines. This research emphasized that good governance delivers advantages for the more heavily networked infrastructure.

We follow in the tradition of this work, focusing on the relationship between corruption and accountability and access to infrastructure at the national level. We use a simple methodology in keeping with the significant margin of error that can be expected in such indicators. We are also mindful that measures of access to infrastructure services vary in quality. In particular, there is considerable uncertainty about the quality of data on access to improved water services. Nonetheless, both the governance indicators and the access data are the best available.

We start with the presumption that we would expect richer countries (measured by per capita GDP) to enjoy higher access to infrastructure services, just as they enjoy more of other goods and services. Hence, any relationship between measures of integrity and measures of infrastructure access needs to be adjusted for this income effect.

For this study, we use four measures of access, although obviously the same analysis can be extended to a broader range of measures. Following the lead of Kaufmann et al, we focus on access to networked infrastructure, using 2002 aggregate governance indicators and World Development Indicators:

Access to telecommunications infrastructure, as measured by the number of fixed lines per 1,000 people. We also examine a broader measure of teledensity (fixed and mobile lines per 1,000 people)

Access to electricity infrastructure as measured by the electrification rates (the proportion of households with a network power connection)

Access to transport infrastructure as measured by road density (kilometers of road surface per capita); and

Access to water infrastructure, as measured by proportion of urban households with access to piped water.

We use two methods of adjusting these measures for the income effect:

The first is to construct an Access Index, which adjusts access for per capita GDP on the PPP basis. For each infrastructure sector, we calculate AI = Access/Ln(GDP). For any two countries with the same per capita GDP, the one with the higher level of access would have a higher ranking. Similarly, for any two countries with the same level of access, the lower the per capita GDP, the higher the ranking.

The second is to apply a two-step estimation process. We begin by estimating a trend relationship between per capita GDP and access to infrastructure services. Then, for each country in the sample we calculate the difference between the actual level of access and the predicted trend level of access. These deviations measure the extent to which the country “outperforms” or “underperforms” relative to the trend. In other words, where the deviation is positive, the country is enjoying more access than can be directly explained by its level of national income. Where it is negative, the country is doing worse than it should be for its

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level of national income. We then look at the relationship between the deviations and the measures of integrity.

With both of these approaches, we find that, at the national level, improvements in integrity tend to be associated with higher Access Index values and with positive deviations from the trend, while low levels of integrity are associated with negative deviations and lower Access Index values.

Before we report our results, we would like to comment on the strength of the relationships we find. In regression analysis, empirical researchers look for the highest possible explanatory power, as measured by the R squared statistic. It is typical for researchers to try to specify equations which produce R squared of 80 to 90 percent, meaning that 80 to 90 percent of variations in the dependent variable are explained by the equation. So, what do we make of the significantly lower R squared that we find in the relationships that we study? In our view, the use of aggregate qualitative measures and of simple statistical tools suggests that even quite low R squared – of the order of 10 to 20 percent – should be taken to mean as indicative of a presence of a relationship that deserves policy attention. R squared statistics of 30 to 60 percent should be interpreted to indicate quite robust relationships, given the data that we deal with.

We now turn to our results.

2.4 Access to telecommunications infrastructure

As the two figures below indicate, we find robust positive relationships between our measure of telecommunications access adjusted for per capita GDP and the aggregate governance measures of accountability and control of corruption.

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Figure 2-1 : Main Lines Access Index and Accountability - Global

R2 = 0.5857

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Figure 2-2 : Main Lines Access Index and Control of Corruption - Global

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Interestingly, we do not find a consistent relationship between deviations in access to land lines and the aggregate governance indicators on a global basis. Using a broader measure of teledensity (land lines and mobiles) provides similarly weak results on the global basis. However, we find reasonably robust relationships for the countries in the EAP region, reported below.

Figure 2-3 : Deviations from Income-Related Trend for Teledensity among EAP Countries and Accountability

R2 = 0.2989

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Figure 2-4 : Deviations from Income-Related Trend for Teledensity among EAP Countries and Control of Corruption

R2 = 0.1733

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2.5 Access to Power Infrastructure

We find some relationship between our measure of access to network electricity supply adjusted for per capita GDP and the aggregate governance indicators. Interestingly, the relationship for this sector appears to be weaker than for telecommunications. If the Kaufmann et al conclusion about the relatively weaker role of governance in the presence of alternatives is correct, this would suggest that self-provision – by running on-site generation – represents a more important alternative in the electricity sector than mobile phones do in the telecommunications sector.

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Figure 2-5 : Electrification Access Index and Accountability - Global

R2 = 0.1965

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Figure 2-6 : Electrification Access Index and Control of Corruption - Global

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Since data on electrification is limited, we have not been able to cover the entire EAP region. Rather, we examine a sample of East Asian countries, whose economic performance in any case tends to be strongly inter-linked. We note that within this small sample, the relationship between control of corruption and the Electrification Access Index appears to be stronger than it is globally.

Figure 2-7 : Electrification Access Index and Control of Corruption - East Asian Countries

VietnamThailand

Philippines

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Cambodia

R2 = 0.4563

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We again find no strong global relationship between deviations from the electrification trend predicted by per capita GDP and the aggregate governance measures. However, we find a reasonable relationship within the region.

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Figure 2-8 : Deviations from Electrification Predicted by Per Capita GDP and Control of Corruption – East Asian Countries

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2.6 Access to road infrastructure

The global relationship between our income-adjusted measure of access to road infrastructure and the aggregate governance indicators appears to be relatively weak, although we would argue that it is still significant. In part, this may be due to other factors – such as levels of urbanization and other forms of concentration of population – playing a more important role in this sector than in relation to electrification or telecommunication.

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Figure 2-9 : Road Density Index and Accountability - Global

R2 = 0.2935

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Figure 2-10 : Road Density Index and Control of Corruption - Global

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Moreover, it is not obvious how improvements in governance and integrity would affect road density. Roads generate a powerful NIMBY (not in my back yard) response. Hence, improvements in accountability could, if anything, lead to declines in road construction. As the figure below shows, for EAP countries, we find a fairly significant negative relationship between changes in road density from 1996 to 2002, and the measure of accountability.

Figure 2-11 : Change in Road Density and Accountability EAP Countries

Vietnam

Vanuatu

TongaThailand

Solomon Is

SamoaPhilippines

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Average voice and accountablility 1996-2002

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On the other hand, when we look at deviations from the level of road density predicted by per capita GDP, higher accountability seems to lead to better performance relative to the trend. In other words, countries with higher levels of accountability tend to be more likely to have positive deviations from the trend, while countries with lower accountability ranking are more likely to have negative deviations.

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Figure 2-12 : Deviations from Road Density Predicted by Per Capita GDP and Accountability - EAP

Vietnam

VanuatuTonga

Thailand

Solomon Is Samoa

Philippines

PNG

Mongolia

Malaysia

Lao

Indonesia

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ChinaCambodia

R2 = 0.1104

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Interestingly, we find no relationship between likely performance relative to income-based trend and corruption rankings. This may be due to two mutually offsetting tendencies. On the one hand, greater corruption would likely lead to reduction of resources available for road construction and maintenance as materials are pilfered or costs over-stated. On the other hand, since roading contracts offer particular opportunities for corruption, greater levels of corruption may induce more road construction.

2.7 Access to water infrastructure

We find no relationship between our income-adjusted index of access to piped urban water and aggregate accountability rankings globally. We do observe a relationship with control of corruption, but it is the weakest of all the sectors we have examined so far. These observations again tend to confirm the Kaufmann et al conclusion, since the water sector probably offers the greatest range of alternatives to piped connections, from using community stand-pipes to purchasing water from alternative suppliers.

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Figure 2-13 : Urban Access to Piped Water Index and Control of Corruption - Global

R2 = 0.131

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As in a number of instances above, we again observe a stronger trend within the East Asia region than globally.

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Figure 2-14 : Urban Access to Piped Water Index and Control of Corruption – East Asia

Vietnam

Vanuatu

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Looking at deviations from the income-based trend, we also find no relationship with the aggregate accountability measure. However, in the East Asia region we find a relationship between relative performance in this sector and control of corruption.

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Figure 2-15 : Deviations from Urban Access to Piped Water Predicted by Per Capita GDP and Control of Corruption – East Asia

CambodiaIndonesia

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Philippines

Thailand

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2.8 Empirical conclusion

We are fully aware of the imperfections of the data, the deliberate simplicity of our estimation methods, and the relatively low predictive powers of the relationships we examined. However, we believe that the results, taken together, add up to sufficient evidence to conclude that integrity does matter. Specifically, what this means is that countries which take steps to improve the accountability of the institutions which influence the provision of infrastructure services, and reduce corruption in those institutions, can expect to achieve higher levels of access to a broad range of infrastructure services for any given level of per capita GDP.

The conclusion that integrity does matter for policy is supported by the following observations:

The relatively low R squared values for the relationships we examined highlight the fact that control of corruption and accountability have to be seen within a broader governance context. Clearly, a broad range of institutional factors will affect how each country performs with respect to access to infrastructure relative to its GDP. The quality of the planning processes, the structure of decision-making within the government, the relative roles of the public and private sectors will all play a role. Hence, it is not surprising that measures of control of corruption and accountability – apart from any problems with the wide margin of

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error in such measures – offer only partial explanation. The relationships, however, are sufficiently strong and sufficiently persistent across sectors to warrant policy attention

The observed relationships are likely to be weakened by the factor identified by Kaufmann et al – that governance plays a lesser role when consumers have private alternatives that they can fall back on. However, this is hardly a reason for policy inaction, since non-network alternatives are frequently more costly and offer less quality

Clearly, observed correlations do not by themselves imply causality. For example, the strong correlation between World Bank Governance Indicators and per capita GDP continues to produce debate about causality: does governance cause higher income, or is high income needed to “purchase” better governance, more openness and more integrity? We have tried to construct analytical approaches which avoid such issues of causality.

Overall, we only had limited scope to undertake empirical work within the frame of this paper. While our analysis confirms the importance of integrity, it poses a number of further research questions, needed to account for the unexplained variance in access indices and measures of deviation from trend. In particular, we would suggest looking at the relative roles of public and private sectors in the provision of infrastructure, as well as adjusting for the quality of infrastructure.

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3 Control of Corruption

3.1 The sources of temptation

As we outlined when setting out the definition of infrastructure, provision of infrastructure services creates particular opportunities for corruption. There are three key reasons for this:

The value of these services to users usually greatly exceeds their marginal cost, especially in networks where such costs are low. In addition, most infrastructure services – such as roads, water and sanitation, and electricity distribution – tend to be provided through local monopolies. As a result, infrastructure services are able to generate economic rents, which in turn can be extracted through corrupt means.

Infrastructure services tend to be politically sensitive, with that sensitivity providing a buffer against the need to impose financial discipline. For example, infrastructure service providers typically face few sanctions for being in arrears on their obligations or for making on-going losses in their operations. Many governments in the EAP region, such as Indonesia and PNG, have found it difficult to face up to the political costs of imposing hard budget constraints on infrastructure providers. Lack of financial discipline creates an environment in which corruption can flourish.

Infrastructure is capital intensive, but there is no fixed relationship between the level of capital investment and the flow of infrastructure services. For example, the thickness of the roadway will over time affect the level of required maintenance, but in the short run will make little difference to the throughput capacity of a road project. This means that infrastructure providers can both inflate the levels of capital spending, and hide the effects of actual under-investment. Corrupt parties then may seek to capture the difference between the claimed level of investment, and the minimum level that a project can get away with. For example, there are wide-spread allegations that it is common practice in China to divert cement and other building materials from construction projects, since the minimum necessary level of inputs is lower than the “standard” levels justified in procurement decisions. In other cases, there are reports of investments that were reported but never made. For example a project completion review for a donor-funded water project in Indonesia found that a significant number of water systems that were claimed were never actually installed.

Box 3-1 : The Beijing Olympics – an opportunity for corruption

Large infrastructure projects are often an opportunity for corruption, and there are few more opportune than preparations for the Olympics. In preparation for the 2008 Beijing Olympics, China is engaged in a complete overhaul of the city’s infrastructure including its roads. In August, the deputy chief of the Beijing Transport Bureau was arrested in connection with massive fraud, having allegedly received over US$7 million in bribes and kickbacks between 1994 and 2003. The deputy chief was also the head of Capital Road, the company responsible for the construction of eight major highways surrounding Beijing. The case was discovered after the National Audit Office reported that US$13 million earmarked for the Beijing Olympics was misused to build new apartment complexes for sports officials.

This arrest follows China’s efforts to crackdown on corruption, including in the

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construction industry. Corruption in the construction industry runs in the order of billions of dollars a year and is rising. Since its entry into the World Trade Organization, China is reforming the public contracting process, including establishing an open bidding system and competitive construction markets at the local level. The Government has also decided to blacklist contractors that are convicted of bribery and ban them from working on construction projects.

In this section we consider in some detail how opportunities for corruption can be pursued. This will provide us with a framework for identifying policies that can lead to reduction of corruption.

First, and most obviously, economic rents can be extracted through excessive costs in the provision of infrastructure services. For example, many utilities in the EAP countries tend to be overstaffed, with employees paid significantly more than the prevailing wage levels. To some extent, it is difficult to draw the line between simple inefficiency and corruption. However, there appears to be a strong correlation between high levels of staffing and allegations of patronage in employment, where jobs are allocated to the relatives, friends or political supporters of those in charge of the utility. In the Philippines, rural electric cooperatives employ on average twice as many staff per customer as comparable privately owned utilities. Elected cooperative Board members are frequently accused of dispensing jobs to favored groups and individuals.

There is no doubt that overstaffing provides an opportunity to supply jobs to poorly qualified candidates, since over-staffed organizations require lower effort and less skill from their employees to deliver some desired level of service.

High cost of procurement is another vehicle for pursuing corruption. The ability of infrastructure providers to pay more than the going market prices for inputs, such as construction and maintenance services, allows firms supplying these services to offer kick-backs. Managers of infrastructure providers are able to accept kick-backs where there are no requirements for competitive procurement, and where internal audit is limited.

It is important to emphasize, however, that in reality it is uncommon to find infrastructure tariffs set at levels that generate excess cash for providers. In water, waste water and electricity distribution services, it is more common to observe tariffs set at below cost-recovery levels. However, in the absence of hard budget constraints, this does not preclude the extraction of rents through excessive costs. Rather, it adds a further key avenue for corruption.

The second avenue for corruptly extracting rents is to take advantage of under-provision and under-pricing of infrastructure services. When tariffs are set at below cost-recovery levels, service providers are unable to meet demand. Hence, the available services need to be rationed. As groups and individuals queue for services, people with positions of power within infrastructure organizations can extract personal benefits from enabling some customers to advance to the top of the queue.

The essential point is that because customers place high value on services, they are generally willing to pay more than the official tariff for that service. When there is a shortage of service, the difference between what customers are willing to pay and the

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official tariff can be captured corruptly. The existence of a shortage is the critical requirement for such corruption to occur.

At its most basic, service provider officials can take monetary bribes for queue jumping. For example, China and Vietnam still have waiting lists for land-line telephone connections, and there are numerous allegations of corruption among telephone company staff.

More importantly perhaps, under-provision of infrastructure services discriminates between population groups. For example, where investment funds are limited, decisions have to be made about which areas will be ahead in receiving water, sanitation and electricity services. This creates opportunities for political patronage, rather than straight-forward bribery. Private benefit is captured in the form of enhanced political power. Communities can be rewarded for their political support, or penalized for their political opposition. Communities that are politically powerless tend to be the last to receive services.

Box 3-2: Clientilism

When government policy is unable to deliver sufficient investment to offer infrastructure services to population at large, the decision about which groups will receive priority tends to be heavily influenced by political considerations. Groups to which the government owns allegiance, or groups that tend to have greater political voice, are more likely to receive preferential treatment. In some sense, it may be difficult to draw a clear distinction between a legitimate response to democratic pressures and an illegitimate focus on the interests of particular groups. However, there are a number of features which clearly highlight a form of political corruption:

Obstacles to private investment in infrastructure. In order to reward favored groups, access to infrastructure services needs to be rationed through a state-controlled organization. Policies that restrict the entry of private providers in the face of short supply of desired services are more likely to signal deliberate maintenance of the ability to reward particular “clients”

A systematic pattern of disadvantage in access. For example, in some major cities throughout the East Asia region, ethnic and religious divisions correspond to divisions in political power. Consistent correspondence between the religious or ethnic make-up of the governing elites, and differential access to infrastructure services by various groups may indicate that allocation of limited resources favors particular “client” groups.

In general, clientilism – the exercise of public power for political gain – tends to receive less opprobrium than straight-forward corruption, when public power is used for direct personal gain. However, its effects can be just as destructive. The problem is not just that by favoring some groups, the government may promote an inefficient allocation of resources. More important is the fact that, to be effective, clientilism requires deliberate effort to prevent unencumbered supply of infrastructure services. Control over infrastructure conveys political gain only if access can not be obtained without political dispensation.

Moreover, there is a small step from clientilism to state capture, a situation where the machinery of the state comes under the effective control of a small economic elite, and where policy decisions are skewed to benefit that elite at the expense of the wider public interest. The monopoly rents available in the infrastructure industries in the absence of effective regulation and sensible market reforms attract such elites, and prevent institutional

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improvements in the infrastructure sector. The key features of state capture are:

The absence of independent regulation of natural monopolies or the capture of a notionally independent regulator by particular interests

The absence of transparent procurement and bidding processes Policies which inhibit entry by new providers and entrench incumbent operators Open-ended state subsidies or provision of soft finance for infrastructure investment

on non-transparent terms.

Insufficient supply of service creates demand for additional investment. Overall, it is in the interest of corruption to have an environment where there is a “carte blanche” for throwing money at the problem, and no clear link between investment and service delivery. For example, in such an environment it is easy to ignore maintenance and to keep asking for more investment funds, which are easier to divert.

Finally, corruption requires “willing” participation of the private sector and the population. Such participation is more likely if people feel there is no party that they can effectively complain to. This, in turn, depends on the accountability of the infrastructure service providers. We will discuss issues of accountability in the following section. However, to anticipate that discussion, it may be instructive to draw a distinction between provision of infrastructure by public agencies, or by firms with strong political connections which are not selected through a transparent process, and cases where infrastructure is provided by competitively selected private firms.

In the first case, there is no one to complain to. If a case comes up, it is likely that authorities will be implicated. It is difficult for one arm of government to hold another arm to account. Similarly, if public agencies have a symbiotic relationship with providers, they are unlikely to address allegations of corruption.

However, if a private provider is selected through a competitive tender, it is less likely that individual officials will be beholden to that provider, or will have personally benefited from the selection. Hence, they will have more incentive to exercise oversight and to respond to concerns.

Box 3-3 : NGOs taking on corruption

Corruption in public works contracts is commonplace. In road projects, for example, corners are cut by using less cement or constructing shorter or narrower roads than specified in the bid documents and the difference is pocketed. But some NGOs are fighting back and exposing wrong-doings. In the Philippines, the Concerned Citizens of Abra for Good Governance (CCAGG) monitors infrastructure projects in their province. The group got involved when a news article identified 20 infrastructure projects that had been completed, and they decided to verify the information. What they found are widespread discrepancies and anomalies in the government reports, including ghost projects and incomplete works. CCAGG asked the government to investigate, and teams were sent in by the public works department, the National Economic Development Authority (NEDA) and the Commission on Audit (COA). As a result of the investigation, COA filed cases against eleven public works engineers.

The activities of CCAGG came under attack by some government agencies and private companies and some of its members were threatened, but eventually the accused were found

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guilty. The group relies heavily on the media to influence public opinion and empower the people to demand good governance. As a result of CCAGG’s efforts, systemic corruption has been reduced and government officials have become more cautious that they will not be “CCAGGed”, as it is known locally, when the anomalies are exposed. CCAGG has been recognized by Transparency International for its work in fighting corruption.

Source: Dennis Arroyo. “Pinoys can fight corruption.” Inquirer News Service. July 26, 2004.

3.2 Analysis

Recent research by Kaufmann and others has highlighted the dynamically destructive nature of corruption. In the past, there was a tendency to view corruption by government officials as a moral, rather than economic development, issue. In fact, there was a view that corruption could have benign effects, to the extent that it allowed circumvention of unreasonable bureaucratic restrictions. The dynamic view of corruption emphasizes that as bribery becomes common-place, officials become engaged in a vicious cycle of creating further opportunities for corruption by erecting new barriers to private sector activities.

Increasingly, attention has also focused on corruption in the private sector. This has two aspects. First, separation of ownership and control in modern corporations creates opportunities for managers to act against the interests of the owners and investors. Second, the private sector firms may themselves promote official corruption in seeking to capture a position of preferment.

These issues are of particular concern in the infrastructure sectors, where the existence of high sunk costs and, in some cases, limited choice of location creates unique opportunities for officials to hold up private firms. Similarly, opportunity to secure a monopoly position in the provision of infrastructure services creates incentives for private firms to seek to influence policy decisions.

However, the literature also highlights the negative aspects of the fight against corruption. In particular, a proliferation of formal and procedural controls can undermine accountability and lead to poor quality decision-making.

Overall, our description of sources of temptation shows that corruption flourishes where:

Outputs are poorly specified

Arrangements for the provision of infrastructure obscure the links between commitment of resources and delivery of outputs

Infrastructure services are under-priced and in short supply

Public finance is dispensed for political reasons

The best way to reduce corruption is to provide infrastructure within a setting where the temptations described above can be eliminated (such as by increasing prices to market clearing levels), or at least where there are powerful organizational incentives to keep

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them in check. For example, private firms – although clearly they also suffer from internal corruption – have powerful incentives to capture any rents that may exist for the benefit of shareholders. Hence, they may be more likely to impose internal controls which prevent dissipation of rents through corruption by employees.

Box 3-4 : Building the Hong Kong airport without corruption

Major infrastructure projects can be developed without corruption. For example, take the construction of the new Hong Kong International Airport, which opened in 1998. The project was praised by Transparency International as an outstanding example of how corruption can be minimized. The total capital costs of the various components of the project exceeded US$20 billion, making it one of the largest infrastructure projects ever. The project included construction of the airport as well as high-speed rail and road connections. There were four major factors that contributed to reducing corruption:

A clear and strict Prevention of Bribery Ordinance and a strong, anti-corruption institution (ICAC), which has significant legal powers and adequate resources

Clear rules for the selection and procurement of consultant and construction services, for effective supervision and monitoring of contracts, for the enforcement of accountability among Government officials and contractors, and dispute resolution

Use of special institutions such the New Airport Projects Coordinating Office to step in whenever a problem occurred

A favorable working environment including appropriate salaries, a high degree of professionalism, and a relatively small pool of businessmen who, if caught, would find it difficult to obtain other business.

Source: Transparency International. December 1999. “Working Paper – Hong Kong: The Airport Core Programme and the Absence of Corruption.” Report by a Mission of Transparency International comprising Peter Rooke and Michael H. Wiehan.

3.3 Private sector corruption

Before we conclude that explicit contracting between public and private sectors would tend to reduce corruption, it is important to address the question of corruption within the private sector. Above, we argued that the private sector has more powerful incentives to control corruption among employees that is detrimental to shareholders. Clearly, such incentives may not be sufficient if corporate Boards are passive, allowing managers to act with impunity, or if corporate regulators are unwilling or unable to enforce corporate governance and information disclosure requirements. Rich literature exists on the tools for improvement in corporate governance to overcome such structural weaknesses, and most EAP countries have been taking action in recent years to strengthen the architecture of their financial markets, and to ensure better flow of information to shareholders, as well as greater opportunities for shareholders to use such information to influence corporate decision-making.

However, in the developing countries, there is increasing concern about corporate corruption caused by actions of controlling shareholders to the detriment of the minority shareholders. In more extreme cases, control may be exercised by a minority, which may then have an incentive to manage a business counter to the interests of the majority of shareholders and the company itself. In many developing countries, including the EAP region, a significant proportion of companies are closely controlled by a small number of

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families through complex structures of inter-connected shareholdings and pyramids of control. Within such complex structures, parties with overall control will enjoy a greater share of dividends in some companies than in others. Hence, they will have an incentive to deliberately milk those companies in which they claim a relatively small share of dividends, by using related party transactions to shift wealth to those entities in which they have access to the greatest share of dividends.

Self-dealing takes a number of forms:

Transfer of assets on favourable terms. Lumpy infrastructure projects, in particular, offer opportunities for asset stripping of this kind. For example, controlling shareholders may create special vehicles for the purposes of particular infrastructure investments, attract investors, and then leave the project unviable by transferring assets to other companies

Transfer of liabilities. For example, if companies involved in high profile infrastructure investments are considered to be too politically sensitive and important to be allowed to fail, private parties may have an incentive to transfer liabilities to such entities to raise the likelihood of, and to maximize the benefit from, being bailed out

Transfer pricing. Controlling shareholders can use contracts with related parties to increase costs of regulated infrastructure firms, or to withdraw cash from under-performing infrastructure projects.

On the other hand, self-dealing in infrastructure projects is often essential for the efficient provision of services. For example, contracts with related entities may be essential for the transfer of technology and know-how. In many instances, infrastructure in developing countries is provided through joint ventures of local and international partners, where the international partners in particular are expected to contribute their experience and expertise. This often requires contracting with joint venture partners for specific services and systems.

Hence, the public policy challenge is how to allow “good” self-dealing to take place, while preventing “bad” self-dealing. Various perspectives on this problem are often coloured by views about the value of private sector experience and expertise. Some NGOs have adopted the extreme position of seeing private sector participation in infrastructure as being a key factor in increasing corruption, because they put little value on the transfer of expertise, and hence see all dealing with related parties as corruption. Those who see benefits in private sector participation in infrastructure, on the other hand, have often gone to the other extreme of not paying sufficient attention to self-dealing.

In our view, if explicit contracts with the private sector are to be used as a means of reducing corruption, the problem of self-dealing needs to be explicitly addressed. There are three kinds of solutions:

First, broad policy to address the problem of control being exercised against the interests of the company through related party transactions. This involves strengthening disclosure rules on local financial markets, promoting appointment of independent directors (independent from the party with control), and strict enforcement of directors’ duties to act in the interests of the company (including

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possibly criminal liability). In this context, it may be appropriate for the governments to impose requirements on governance and control structures of those companies that qualify for infrastructure transactions

Second, strengthening of regulatory policy to enable authorities to “see through” contracts with related parties. For example, one possibility could be a requirement in concession or lease contracts with private infrastructure operators for all dealings with related parties to be separately approved, along with criteria for the scrutiny of such contracts. Similarly, regulators may need to benchmark contracts with related parties in order to ensure that they constitute “good” self-dealing

Third, in designing mechanisms for private sector participation in infrastructure, it is important to focus on creating incentives for private parties to act with integrity. The incentives built into any contract will only work when a private operator thinks it can make more money by serving out the contract than it can by not performing and looting the investment. For example, if a PSP contract looks like it will be loss-making, then an operator’s best strategy may be to turn as much of the assets into cash as possible and pay them out to itself through ‘bad’ self-dealing. It will then default on the contract, but since the operator will be a special purpose vehicle, (SPV) there will be nothing to recover against. An operator might go into the deal planning to scam it, or it might go in with good intentions but change strategy if it is not able to make money as planned.

Box 3-5 : Private companies internalizing contract benefits through self-provisioning

Many companies holding large scale contracts for infrastructure development and service provision are in fact consortiums of foreign and local companies. One way that the companies can extract further benefit from a contract is through self-provisioning – essentially hiring themselves (or one of the partners) to do the work and then passing that cost on to the client or the consumers. Without competition, there is no guarantee that the consulting services, the engineering services, or the equipment are in fact provided at the lowest cost. The company benefits at the consumers’ expense.

An audit of the MWSS concessions revealed a number of areas where, despite their financial difficulties, the concessionaires were paying significant fees to shareholder companies or their affiliates:

Maynilad pays management and technical fees to Ondeo (the international partner) and an affiliate of Benpres Holding (the Philippine partners). During the first six years of the concession, these expenses grew at a faster rate than revenues.

Maynilad also contracted out its engineering services to two external partners, one of which is a joint venture of the major shareholders

Manila Water entered into a capital works program agreement with Bechtel Overseas Corp. and Bechtel International, both of which are part of the Bechtel Group, one of the investors in Manila Water

Elsewhere in the Philippines, the international investors in the SubicWater Joint Venture that provides service in Subic Bay have a management contract that includes a charge (allegedly 5%) against sales for “technology transfer”.

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Because these types of arrangement are often hidden in the company accounts, they seldom come to light, enabling the partners, both international and local, to benefit from the arrangements even where the final tariffs are closely scrutinized by regulators. This has prompted some to call for more stringent rules against self-dealing, particularly when these types of expenses can be passed onto consumers.

Sources: Patrick Roxas. “Subicwater Co. hit on rate hike.” The Manila Times. April 28, 2004 and International Consortium of Investigative Journalists. “Loaves, fishes, and dirty dishes: Manila’s privatized water can’t handle the pressure.” February 2003.

3.4 Interaction between public and private sectors

Private provision of infrastructure does not stop public officials from wielding important influence, particularly where the state provides subsidies for infrastructure services. There are three key aspects to on-going interaction between public and private sectors:

Initial transaction development and procurement

Provision of subsidies and other support

Monitoring of private providers and enforcement of policy objectives

We will address the question of initial transaction development more fully under the heading of accountability (where we examine consultation processes designed to improve legitimacy and quality of infrastructure transactions). The problem of corruption arises from the risks around the procurement process. On the face of it, competitive, open tendering should eliminate corruption. In practice, however, introduction of formal processes may not address the underlying problems.

First, there will inevitably be some elements of subjectivity and discretion in any supplier selection process. In complex infrastructure transactions, selection can not be reduced simply to price bidding. Quality assessment may open opportunities for corruption.

Governments can reduce the risks of corruption during provider selection by bringing multilateral development banks and agencies like the IFC into the process. Many countries in the EAP region are already using transaction advisors contracted through the multilateral agencies.

Second, it is unlikely that high integrity selection processes for infrastructure transactions can be introduced if the government procurement more generally suffers from corruption. It will be difficult to create islands of integrity within a generally corrupt environment. The box below looks at some of the tools that governments in the region have adopted to improve the overall public sector environment.

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Box 3-6 : Establishment of anti-corruption commissions To counter wide-spread corruption, many countries are adopting (or strengthening) anti-corruption laws and establishing anti-corruption agencies vested with the powers to investigate alleged corruption and take action against those found to be involved. For example:

Thailand – National Counter Corruption Commission. Initially established in 1975, the powers of the Commission were significantly strengthened by the Organic Act on Counter Corruption (1999). All high ranking political officials must submit an account of their (and their spouses’) assets and liabilities, and the Commission has the power to investigate if there is an unusual increase in assets. It is also tasked with corruption prevention activities such as public education and has the power to investigate corruption cases and conduct criminal proceedings

Malaysia – Anti-Corruption Agency of Malaysia (ACA). Established in 1967, but strengthened by a new Anti-Corruption Act in 1997. The new act gives ACA more investigate power and establishes harsher punishment for offenders. It also gives the ACA the power to investigate increases in assets of government officials

Indonesia – Anti-Corruption Commission. In recent years, the Indonesian Government has taken measures to address rampant corruption, including enacting a series of laws to stem corruption such as the Law on the Eradication of Criminal Acts of Corruption (1999). However, progress has been slow in implementing the law, and the Anti-Corruption Commission, which was provided for in the Law, was only established in December 2003. Many still question the Government’s commitment to eradicating corruption in light of its lackluster support for the Commission and failure to act on several high profile corruption cases.

Although initiatives to strengthen anti-corruption legislation and the institutions vested with eradicating corruption is promising, the success of these agencies depends on political will and the level of support from the highest levels of government.

Finally, the rapidly growing demand for infrastructure services, and the emerging development bottlenecks, may put pressure on governments to cut corners in order to respond to perceived emergencies. For example, many of the highly criticized take-or-pay IPP contracts in the Philippines power sector – most of which were tainted with allegations of corruption – were let under government emergency powers. As the Philippines own recent experience with the introduction of competitive procurement shows, securing the benefits of transparency requires many years of progress and commitment.

The second opportunity for corruption from the on-going interaction between the public and private sectors involves the delivery of subsidies. Perhaps more importantly, the political economy of any subsidy scheme is going to be difficult:

Officials and private parties who benefit from corruption require an environment of fiscal confusion and lack of connection between the funds disbursed and the services provided. They will have every incentive to subvert the design of a subsidy regime

It is going to be difficult to convince the public at large that it is legitimate to subsidise private operators. Few people believe that contracting can be made sufficiently competitive to prevent private recipients of subsidies from taking advantage of them

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Box 3-7 : Friends in high places

Following severe power outages in the Philippines, the National Power Corporation (NPC) signed a 15-year Rehabilitate-Operate-Leaseback (ROL) agreement for the Binga Hydroelectric Power Plant in Benguet. The contract with China Jiang Energy Corporation included dredging the silt filled dam, annual maintenance, and the construction of a sluice tunnel. The concessionaire paid a lease fee of US$210,000/month for the use of the dam, and in return was paid per kilowatt hour of power produced.

Seven years later, the Government had lost US$58.3 million and the dam was in worse shape that it was before its supposed rehabilitation. The project suffered from 40% slippage, meaning that it has failed to complete 40% of what it was supposed to deliver under the contract. A slippage of 15% legally justifies contract termination, but instead the NPC entered into a supplemental contract, which not only reduced the requirements imposed on the private company but also increased the per kilowatt hour fee that was paid to the concessionaire.

Why did this happen? The deal was allegedly brokered by a well-connected businessman with ties to the Presidential palace and the NPC. Even when NPC threatened to terminate the contract, this was never acted on, largely because of the support the individual had provided to the administration. The businessman was active behind the scenes, helping the company to win the contract, arrange a very favorable deal, and hold off investigations into the company. He personally profited, pocketing an estimated US$20 million of the company’s profits during a two-year period. Even when a congressman filed a resolution to investigate the matter, no action was taken, largely due to the influence from the Presidential palace.

Source: Mike Leonen. “Big-time Corruption in a Small Power Plant.” Philippines Center for Investigation. 2-3 April 2001.

The solution to this problem will involve integrating output-based subsidies into explicit contractual arrangements. Multilateral agencies developed the concept of output-based aid (OBA) as an alternative approach to public spending that would deliver improvement in services, particularly to the poorest. The concept originated from reviewing the relative success of performance-based contracting within the public sector, and of private sector participation in infrastructure. These contracting modalities were seen as delivering lower costs, improved quality of service, and better innovation and responsiveness. OBA combines the benefits of both.

The term OBA refers to a situation in which a third-party provider is delivering services under a contract designed to provide incentives for efficient, well-targeted service delivery, by linking a significant part of the compensation to delivery of specified outputs or results. External funds complement revenues from user fees, or serve as proxies for user fees for services that are largely public in nature.

The concept of OBA is most relevant in the context of infrastructure services in which public sector inefficiencies make PSP an attractive alternative, and in which higher costs of supply and lower ability to pay implies that subsidies would be required. OBA has been successfully used in developing countries such as Chile, Guinea, Haiti, Romania, and Peru. The experience of these countries suggests that some of the key issues that OBA design should take into account are:

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clear definition of intended and measurable outputs and the beneficiaries

clear assessment of baseline

creating a bidding process to induce the private operator to bid for least subsidy payment, and

designing an effective subsidy administration

OBA concepts are now being introduced into EAP countries – for example, the new subsidy scheme for the provision of missionary (off-grid) electrification in the smaller islands of the Philippines by the IPPs.

Finally, corruption can arise in the process of monitoring and enforcing contracts’ targets and conditions for private sector participation. A number of problems have to be addressed in this context.

First, there is a common temptation in developing countries to set first-world technical and environmental standards for infrastructure services and to emphasize the provision of networked services. Lack of willingness to pay, competing demands and lax administration, however, result in most providers being in breach of such standards. Once breach is the rule rather than the exception, enforcement becomes impossible and the general laxity encourages an environment in which looking the other way for a small remuneration is seen as no more than a misdemeanour. In many countries, regulators and contract supervisors legitimate breaches by private operators by giving them temporary compliance certificates, without ever undertaking the investigations and mandatory public hearings that would be required for a full review of compliance.

Hence, it is important from the outset to set standards that are enforceable and consistent with the needs of the community. Many NGOs, in particular, often adopt strong positions demanding high environmental and safety standards, even though such standards are much less likely to be enforced than the more modest requirements.

Second, it is important to design PSP arrangements with the view to having a sensible and feasible set of penalties tied to various aspects of non-performance. All too often, the main penalty for failure to meet contract targets and objectives is contract termination. However, typically, neither side is willing to invoke the “nuclear option” of termination unless the entire relationship is at the point of collapse. Not having more modest penalties at their disposal, both parties have the incentive to fudge performance measures and to let matters slide. This not only weakens the effectiveness of PSP, but also creates an environment where corruption can be hidden under the general veneer of tolerance for poor performance.

Overall, the opportunities for corruption from the on-going links between the public and private sectors need to be recognized, and the relationships between the two sectors need to be structured to improve control of corruption.

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3.5 Conclusion

The characteristics of infrastructure services create numerous opportunities for corruption, both “grand” corruption associated with large scale infrastructure projects and procurement decisions, and lower level corruption, which thrives on shortages of infrastructure services and below market prices for the official services.

A wide range of anti-corruption tools have been proposed in the literature, with many of them already being implemented across the EAP region. In addition to law enforcement initiatives, these programs boil down to three key developments:

Explicit definition of performance targets and outputs, and the ability and incentive to hold providers to these targets

Increased incentives to strengthen internal controls within organizations providing infrastructure services

Maximum disclosure of all relevant information to the public

We argue that PSP through explicit contracting is a key tool for promoting the above developments. Arms-length contracting between the public and private sectors will increase the likelihood of the transparent provision of infrastructure services, while private companies will have a strong incentive to eliminate internal small-scale corruption in order to capture the benefits for the shareholders. Over time, the benefits of the more powerful control incentives would likely be shared between investors and consumers.

However, for PSP to deliver the desired benefits, it is essential to address the risk of corruption in the private sector. The main problem is the possibility of private operators gaming the contract with the public sector, and gaming the regulatory regime, through contracts with related parties. At worst, there is a risk of the public infrastructure assets being looted by private operators. PSP design must be alert to this risk, and must deal with it explicitly.

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4 Accountability

When governments pay attention to citizens’ concerns, they are more likely to pursue policies that further social welfare. Hence, in a broad sense, accountability is a set of institutional tools that make organizations pay attention to the interests of their stakeholders. In this sense, accountability must combine access to information with the institutional capability to act on that information.

However, while accountability is relatively easy to describe, it is much harder to identify what constitutes appropriate accountability. For example, it most surely does not mean that the governments should respond to every demand placed on them. We know that one of the key functions of any government is in fact to make genuine trade-offs between competing interests. We also know that some accountability mechanisms can lead governments to favor short-term benefits at the expense of long-term costs. For example, the election process should be one of the most direct ways to ensure accountability – when consumers are not happy, they can vote a government out of office. Because of this, however, elected officials often have short-term planning horizons, preferring the short-term popularity gained through lower tariffs even though this leads to poor maintenance and insufficient investment in the long term.

The topic of accountability is too broad to treat exhaustively in this paper. Rather, we will concentrate on the aspects of accountability that address the key challenges to improving the provision of infrastructure services. These are:

Ensuring long-term political and social sustainability of infrastructure projects and transactions. Almost all infrastructure projects are controversial in one way or another: scale, the technology, local environmental impacts and cost allocation may all, separately or together, generate political backlash. The fear of such backlash, and the uncertainty this creates, can in turn reduce the attractiveness of infrastructure projects, and lead to lower availability of infrastructure services. Improvements in accountability are, to are large extent, about preventing such uncertainty by addressing valid concerns up-front, and making sure that mechanisms exist to respond to public anxieties for the life of the project

Ensuring effective and appropriate use of public resources and preventing the abuse of monopoly position. The provision of infrastructure services typically involves some form of commitment of public resources, as well as the potential for extracting monopoly rents from the customer base. To ensure effective use of public resources, and to protect against misuse of market power, infrastructure service providers need to be effectively supervised. This supervision requires holding providers accountable for the delivery of services which they undertake to deliver, for compliance with technical and environmental standards, and for their tariff-setting behavior, particularly in cases where competition is limited

Developing good planning and coordination mechanisms. The quality of infrastructure projects and transactions depends on the ability of government agencies to plan for the medium and long term, to coordinate their policies and to effectively interact with the private sector. In this context, accountability is about ensuring that those involved face appropriate incentives to use the best available information, to test ideas and to seek consensus where appropriate.

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Figure 4-1: The push and pull of accountability

Executive

Legislature

Infrastructure Service Provider

Citizens/Consumers

Monitoring Body(e.g., Independent

Regulator

Service Agreement

(e.g., Contract)

Media

NGOS

Demands:• Reasonable rate of return• Predictability

Demands:• Parties meet responsibilities

Demands:• Maximum coverage• Minimum cost• Less corruption


Demands:• Good service• Less cost

Executive

Legislature

Infrastructure Service Provider

Citizens/Consumers

Monitoring Body(e.g., Independent

Regulator

Service Agreement

(e.g., Contract)

Media

NGOS

Demands:• Reasonable rate of return• Predictability

Demands:• Parties meet responsibilities



Demands:• Good service• Less cost

Source: Castalia

Figure 4-1 shows some of the key institutions involved in the provision of infrastructure services, and how they interact with each other. Each party brings a set of demands to the table: citizens/consumers want good infrastructure services at an affordable price, and will use whatever ability they have to hold the government and the infrastructure service providers accountable for meeting these demands. The government which contracts with infrastructure service providers (or which owns or regulates them), will demand maximum coverage and sustainable costs from the operators, and will want to hold the operators accountable for meeting these demands. And so on – various parties pushing and pulling in the direction of their demands being met, and trying to impose accountability on all the other parties.

We call this the push and pull of accountability, to contrast with the common representation of accountability as a hierarchical system: a service provider is accountable to the government, a government is accountable to the legislature, the legislature is accountable to the electorate and such like. In reality, the system of accountability involves complex interaction between various parties involved in the overall network of relationships. Each party, including the NGOs and the media, must be accountable in some form for what it does.

Improvements in accountability must fit into the procedures and structures that exist in each country. Within this context, we highlight three areas for improvement in accountability that address the core of the challenges identified above:

Improving the legitimacy of infrastructure projects and transactions

Improving quality of decision-making

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Improving oversight of infrastructure providers.

In many respects, these areas are interrelated. For example, we discuss the need to get stakeholders involved in the decision-making process, but stakeholder feedback in the monitoring and oversight process is equally important.

4.1 Legitimacy of decisions

Government decisions regarding the provision of infrastructure are more likely to be accepted – and therefore be more legitimate – when citizens understand the objectives of the infrastructure reforms, projects, or transactions, and have a part in shaping the solution. More specifically, citizens want to know what services are being provided, they want to be assured that the way in which infrastructure services are provided is fair, and they want to know that the rules for dealing with various concerns are being followed. Achieving this requires consultation with stakeholders. Consultation ensures that citizens will have grounds for believing that corruption, political favoritism or other forms of capture by special interests have not influenced the choice and quality of infrastructure provision.

Recognizing that stakeholders need to be involved does not mean spending unlimited time with all groups who claim to have an interest, or giving any particular group veto power. Rather, it is important to develop a stakeholder strategy, which gives each group an appropriate voice, while guarding against processes which consume so much time and resources that the potential benefits of better service are lost or unduly delayed. Generally, the strategy should recognize that it is the government’s job to make certain decisions, but that these decisions are likely to be most effective and sustainable if the government is well-informed, and if the most affected groups are involved in the decision making.

There are three main questions in developing a stakeholder consultation strategy:

Who are the stakeholders that are affected or interested in the decisions?

What are styles of interaction and consultation are appropriate for which stakeholders?

At what points should stakeholders be involved in the process?

It is necessary to address each of these questions early in the project or transaction and carry it throughout the process. We discuss each of these in turn.

4.1.1 Identifying stakeholders

The first step is to identify stakeholder groups3. There is a range of stakeholders in any given project or transaction – those that are directly involved, those that benefit, and those that may be adversely affected or left out. Initial surveys or consultations may be required simply to identify the stakeholders to be included in the process. The idea is to move beyond the obvious circle of stakeholders who are well known to government

3 This analysis draws heavily on the work done by Castalia in assisting the World Bank in preparing toolkits for private sector participation in the provision of water and waste water services.

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officials, to encompass those groups who do have a stake but might not otherwise be considered until it is too late.

The main stakeholder groups include:

Consumers. Consumers cannot be viewed as a unified block, as different types of consumers will have different needs and priorities. Consumers can live in areas that are provided service or those that are not. Consumers can have different income levels and therefore a different ability and willingness to pay

NGOs and CBOs. These groups can represent a wider range of individuals and can be an effective entry point for dialogue. However, there are important distinctions between groups. Some may represent a particular community or a particular group of customers while others may represent issues and express views which may or may not be shared by the community at large

Workers. Workers are often affected by the decisions made about the type of service delivery. For example, some groups of workers, such as skilled workers, may be better off with new types of service provision, whereas unskilled workers or those that hold their positions because of who they know rather than what they can do might be worse off and fear job losses

Investors. International infrastructure service providers are obvious stakeholders but others that should be considered include local firms, banks, insurance companies and guarantee agencies.

In a practical sense, any group that asserts that it has an interest can be treated as a stakeholder. In this sense, some stakeholders will thrust themselves upon the process. But others may need to be sought out. The unserved poor, women and alternative service providers are groups that are all easily overlooked. Women’s groups and community and service organizations may prove useful counterparts, or may open the path to groups of consumers with specific interests and needs.

At the same time it is important to understand the objectives of the various stakeholder groups in designing consultation processes. For example, NGOs, CBOs, and other civil-society organizations should not be treated as a single group. They represent different stakeholders and different interests, and need to be engaged with on the basis of a clear understanding of whom each organization represents, and what its interests are.

Community focused NGOs and CBOs. Some NGOs and community-based organizations will be effective conduits for dialogue with consumers. These may be local associations, or they may represent particular groups of customers. For example, women’s organizations may be a natural route into understanding the needs and concerns of women consumers.

Watchdog organizations. Some organizations may provide a service watchdog function. Failure to involve such groups can contribute to poor design, and subsequent demand for revision or cancellation of the arrangement

Issue-focused NGOs. These groups represent issues, rather than consumers. These may include groups promoting environmental protection, transparency, and other values. Often the values they represent will be important in the design of the

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arrangements, and it may be helpful to outline how proposed reforms take these values into account, and invite suggestions for improvements. Some of these NGOs may have a stance on how infrastructure should be provided, for example they may be strongly opposed to private firms or international firms being involved in infrastructure projects. These groups are often skilled at using the media to get out their message and can derail constructive dialogue if the government is unable to effectively and publicly communicate the likely benefits of the proposed arrangements.

4.1.2 Ways to interact with stakeholders

Given the variety of stakeholders and their various needs, interests and often different levels of education, different strategies are often required to obtain input from the different groups. There are many ways to involve stakeholders, each suitable for different purposes. It is helpful to distinguish between various modes of interaction with stakeholders. A continuum of modes is shown in Table 4-1.

Table 4-1 : Modes of interaction with stakeholders

Type of Interaction Description

Collecting information Gathering information about people such as: who are they, where are they, what do they say they want?

Providing information Letting people know what is planned Consulting Identifying the problems, offering options, listening to

feedback Deciding together Encouraging others to provide additional ideas and

options And Joining in deciding the best way forward

Acting together Different interests deciding together what is best, then forming a partnership to make it happen

Supporting independent initiatives Helping others to do what they want, for example providing advice and resources

Low intensity interaction

High intensity interaction

Sometimes consultation is limited to extracting information through surveys near the start of the process. A small group of decision-makers then decides on the course of action to take, after which public relations specialists are engaged to inform people of the decision and direct them in how to comply with it. This strategy treats consultations as a pro forma exercise. Such consultation may in fact reduce the legitimacy of the project.

Better decisions and greater legitimacy can be achieved by genuinely harnessing the creative powers of those most directly involved, and can also increase the legitimacy of decisions made. This can include making the decisions together or even forming a partnership to act together. This is more difficult – it requires time, it requires consensus building, and it requires being prepared to accept different outcomes. This may work for a small-scale community project in which the community understands that they can directly benefit, but it may not be possible for large scale infrastructure projects that cut across a number of communities.

The level of involvement that is appropriate for each type of project will vary based on the type of infrastructure, the geographical scope, and the relative weighting of the

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positive and negative impacts on any given community. For example, for a toll-road that is constructed to provide better access between urban centers, interaction with stakeholders in the urban centers may be limited to collecting information to evaluate the need for the road and the willingness to pay for its use, whereas more extensive consultation is required for communities affected by the road to address their concerns about the environmental and noise impacts and resettlement issues. The type of consultation may also vary by stakeholder group.

Table 4-2 illustrates the types of stakeholder groups, the types of questions that need to be addressed for each group and the possible ways of interacting with each group. As we will discuss later, it is critically important to clearly define which stakeholders should have formal standing within the accountability and consultation processes, and what that standing should be.

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Table 4-2: Stakeholders and ways of interacting with them Sub-groups Questions to answer Ways to involve Rationale and comment Consumers Middle-class

Poor, connected Poor, unconnected Women

Where do they live? What service do they get now? What service do they want? How much are they willing to pay? What are the non-monetary barriers to service, and cultural and community preferences for mode of delivery? Views on types of private participation, which may be suitable?

Surveys and focus groups Consultation on options Deciding and acting together at community level

The ultimate aim is to benefit consumers. To be successful the arrangement has to deliver what they want, how they want it. Consumers and potential consumers are a disparate group. The views of the poor, particularly in rural areas, women and ethnic minorities may not always be heard, unless special efforts are made to seek them out.

NGOs and Community Based Organizations

NGOs and Community Based Organizations which represent consumers

To what extent does any NGO or CBO represent consumers accurately and legitimately? Which consumer group do they represent?

Providing information Meetings and dialogue Deciding and acting together

Representative NGOs can provide a useful channel for consultation and joint-decision-making, and can provide guidance on how to consult with difficult-to-reach consumer groups (for example households in informal settlements).

NGOs which representinterests outside the immediate scope of services in question (for example, environment, labor, anti-globalization)

To what extent does the NGO represent the people in the country, as opposed to people outside the actual and potential consumer base? Which issues are important to vocal groups? What information and ideas can the NGOs offer?

Providing information Consulting Debating

Need to be clear about whom an NGO speaks for, and the extent to which its interests coincide with the interests of those in the country.

Workers ManagersPermanent workers Contractors and informal workers Various unions

What ideas do they have for improving operations? What are their biggest fears from the project or transaction? What hopes do they have for benefiting from the proposal? Under what conditions would the proposal be attractive for workers?

Providing information Consulting Deciding and acting together

Workers and managers may fear losing their jobs or benefits as arrangements are changed. Winning support and maintaining morale can do a lot to improve the chances of success. Workers and managers often know what needs to be done, and are willing to accept change if their legitimate interests are protected. Their knowledge needs to be harnessed, and their fears relieved

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4.1.3 Involving stakeholders in the process

Another question is when to get stakeholders involved in the process. Overall, we emphasize the need to invest early on in ensuring the legitimacy of infrastructure arrangements. The best way to achieve legitimacy is to be genuinely transparent and inclusive. This means, in particular:

Providing as much information as possible to the public, including information on infrastructure needs, technological and location options, investment requirements, and so on

Giving stakeholders a genuine chance to be heard. This means getting stakeholders involved early. It also means neither rushing decisions unnecessarily, nor delaying them to such an extent that views expressed earlier are forgotten and ignored.

Figure 4-2 illustrates an approach for getting stakeholders involved in the process. For example, this involves:

Pre-project planning. This entails getting stakeholders involved in developing a clear idea of the infrastructure needs, the requirements and the preferences of the various stakeholders. Getting stakeholders involved in this stage will enable governments to determine priorities and ensure that stakeholders feel part of the process rather than have a decision imposed on them. Where there is a good opportunity for private sector involvement, this should be raised as an option and debated before specific investors enter into the picture. There will likely be opposition to private sector involvement, and even with constructive dialogue this will not disappear. But, if the issues raised can be addressed by the government in an open manner, the concerns and fears of the various stakeholders can be dealt with in the design phase. Forms of consultation could include focal groups, public meetings, and surveys

Project design. In the design phase, the details of a project are worked out. This will require more in-depth discussion with beneficiaries and affected groups. It may require more quantitative stakeholder analysis such as undertaking a willingness-to-pay survey to determine the socially sustainable tariff levels. It may also entail direct involvement of labor groups to ensure that their concerns are addressed. For example, in the water concession in Bucharest, Romania, a labor plan was developed with the labor union before the contract came into effect

Project approval. If stakeholders are only involved in at the approval stage, it will generally be too late in the process. It is unlikely that concerns will be able to be adequately addressed or, if they are, it is likely to be expensive. At this stage, the form of public involvement is likely to receive information rather that provide information, although in some countries public hearings are required.

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Figure 4-2: Involving stakeholders in the decision-making process

Pre-project Planning

Project Approval

Consulting Stakeholders/

Public hearings

Collecting information

Project Design

Consumers

NGOs/CBOs

Workers

Service providers/investors

Stakeholder Analysis/ Determine Mode

of Interaction

Consultation

Working Groups Quantitative Analysis

(e.g. willingness to pay), demand forecasts

Yes

Is Government satisfied with

design?

No

ConsultingStakeholders

Pre-project Planning

Project Approval

Consulting Stakeholders/

Public hearings

Collecting information

Project Design

Consumers

NGOs/CBOs

Workers


Consumers

NGOs/CBOs

Workers


Stakeholder Analysis/ Determine Mode

of Interaction

Consultation

Working Groups Quantitative Analysis

(e.g. willingness to pay), demand forecasts

Yes

Is Government satisfied with

design?

No

ConsultingStakeholders

4.2 Quality of decision-making

The competence of public sector decision making is a critical component of infrastructure governance. This is linked to the process for policy making and policy implementation. Decisions are required along the policy continuum – decisions must be made about infrastructure priorities, about how to achieve those priorities (for example, who will provide service and to whom), and about how the projects will be implemented over their lifetime.

Policy-making. This consists of processes and institutions through which policies are made at various levels of government, and includes the policy advice and analysis role of the public sector that contribute to the decision making process. In many EAP countries, public sector agencies lack the capability to fully analyze infrastructure needs, and develop realistic goals and well thought-out alternate strategies for achieve these goals. For example, how many governments have set out an ambitious target to achieve 100% water supply coverage but failed to deliver? In the absence of good analysis and advice, political leaders also find it difficult to draw connections between their broad objectives and day-to-day decisions they are called to make (see Box 4-1). When policies are established without a clear understanding of what it will take to

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achieve the policy objectives and without the commitment of resources to implement the policies, the policy statements often have little real value

Box 4-1 : The disconnect between policy objectives and day-to-day decisions

The Government of the Philippines announced a broad policy of improving rural electrification through strengthening the governance of rural electric cooperatives, subjecting them to the disciplines of commercial borrowing and encouraging private sector participation in rural electrification. However, faced with daily crises in the sector, the Government (through the National Electrification Authority) continues to provide soft finance to bail out electric cooperatives, thus retarding the achievement of the policy objective. Because the cooperatives know they will be kept afloat, they can avoid taking the tough measures required to become viable entities.

Policy implementation. This consists of processes and institutions, which ensure the implementation of public policy. For example, implementation of policies on private sector participation in the provision of infrastructure will require application of broad policy principles to specific circumstances and market participants. How will this policy be applied and interpreted in practice? Can market participants be confident that rules will be applied consistently, predictably and fairly, rather than at the whim of individual officials? Often, difficult trade-offs have to be made. How much discretion should government officials have in putting the policies into practice? Giving officials more discretion can significantly cut red tape and reduce bureaucratic delays, but discretion also reduces certainty and increases opportunity for corruption.

Good decisions lead to better outcomes, and the key to improving the decision-making process is to strengthen the incentives for government officials to use all the information available, to justify their decisions as explicitly as possible. Ways this process can be improved include:

Improving the information base. This includes improving the availability of information through technical and financial due diligence as well as improving the information on social impacts. Too often projects have failed or met with problems because they were based on incomplete information that substantially changed the financial basis for the project. For example, private operators in the water sector have found that the length of the distribution system was significantly more than what they projected in their financial bids, leading to an underestimation of the cost to manage the system. The need for information must also be balanced with the cost and the challenge is to know when there is enough information to make an informed decision

Getting stakeholder input. While technical and financial studies are important, they often cannot tell the full story about what is happening on the ground, which makes it important to get stakeholder input. As discussed above in Section 4.1, there are a number of ways to do this, ranging from surveys and focus group to more participatory processes. Public hearings are a good way to involve the affected communities and require government officials to take their views into account in the decision-making process

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Box 4-2 : Water supply in Indonesia

Most drinking water in Indonesia is supplied by local government-owned water companies (PDAM). Audits of a number of PDAM have found serious problems including low coverage levels, high levels of unaccounted for water, non-potable water, and severe financial difficulties due to low tariffs and mismanagement. While the local councils demand increased coverage and improved service, they often do not provide the PDAMs with sufficient resources to be able to achieve these objectives.

A USAID project assisted PDAMs to break the vicious cycle by developing Corporate Plans focused on utilizing excess capacity, reducing water losses, increasing productivity, reducing staffing ratios, and enabling tariff increases. An important component of the plans is a focus on customer service. By communicating the PDAM’s plan for improving service and focusing on customer service, the PDAMs gained the support of the community, which in turn enabled the local councils to grant the much needed tariff increases.

For example, PDAM Banjar in South Kalimantan was in poor condition with revenues barely covering out-of-pocket costs, water losses reaching 40%, and water provided only 12 hours a day. A plan was developed to enable the PDAM to improve services, but this plan depended on increased revenue from tariffs and the local council would not approve the tariff increases. Instead, the PDAM took the plan to the community, explaining the objectives and why the tariff revenues were needed. To cement its promises, the PDAM entered into a contract with the community, a contract which required real improvement in customer service. By gaining the support of the community, the PDAM was able to obtain the tariff increase from the local council and has been able to decrease water losses, increase supply, improve water quality, and re-design their billing and collection system to virtually eliminate long lines and waiting periods.

Source: Bennett Parton. “Saving Utilities During the Asian Financial Crisis.” P3 News. Vol. III.3 July-August, 2003.

Publishing information on decisions. Governments should be required to publish the information on which their decisions are based and justify these decisions to the extent possible. This increases the transparency of the decision-making process and allows the public to understand the decision and question the decision if it is not well founded

Establishing implementation strategies and targets. Policy decisions should be accompanied by an implementation strategy and specific targets that establish the specific outcomes that are desired. The criteria for determining how these targets will be measured must be established at the outset. By setting targets, a process can be established for determining whether the outcome is being achieved

Monitoring and reporting on the actual outcomes. The government should be required to monitor the outcomes, conducting investigations and stakeholder meetings as required to determine whether the targets are being met and if not why not. This information should be reported as part of an annual government reporting process (Section 4.3 discusses the oversight process)

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Allowing for policies to be changed and amended. Not all projects will succeed and there can be all sorts of reasons for this, good and bad. An important role of government is to modify or change directions when the desired outcomes are not being met. However, this decision should be justified and not done at the whim of the government. If there is a good information base and credible monitoring problem, this will be easier. Often these decisions are “locked in”, for example, in a contract with a private operator, which provides assurance for the investor that the rules of the game will not be changed arbitrarily. However, problems can arise, and good monitoring will bring problems to the fore and enable corrective action to be taken.

Box 4-3 : Poorly paid and poorly informed in parliament

The Indonesia Parliament (DPR) is notorious for its slowness in passing bills, poor attendance and, like many other institutions in Indonesia, being prone to corruption. The democratic process of passing new legislation requires a large amount of information to make informed decisions. However, the DRP has little information and often lacks the in-house expertise required to analyze issues and develop sound policy positions. Outside influences often count for more than internal analysis.

The salaries of the DPR members are very low, with additional payments each time they participate in the deliberation of a bill. The lack of information, low salaries, and positions of power made politicians susceptible to outside groups influencing whether or not they will support a bill. Most consultations with outside groups such as private corporations, NGOs and lobby groups take place in closed sessions where no detailed records are kept. What transpires is anybody’s guess. Allegations of corruption are rampant and the problem starts at the top. The speaker of the previous DPR went on trial for misappropriation of US$4 million of state funds to be used for his party reelection.

The legislative process should be one arena that holds members accountable, after all a vote requires members to take a stand and voting records are a key way of holding members accountable to the people. However, in the DPR votes are rarely taken and decisions are often taken by consensus which enables politicians to hide their actions from the people they represent.

4.3 Improving oversight

An important role of government is ensuring that what is promised is delivered at the agreed price. This requires an effective oversight mechanism for infrastructure service providers. Governments often find it difficult to provide effective oversight for infrastructure services, especially when services are provided directly by the government.

The first problem is that governments are typically not very good at holding themselves accountable. This is also true for government-owned service providers, which are often self-regulating, subject to little oversight, and rely on government support if they fail to recover their costs. Some countries are corporatizing public sector service providers in order to separate the service provision and oversight functions and make the service providers more accountable. For example, corporatization is a key focus of China’s reform program in the water sector. However, government corporations are often politically more powerful than

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the government departments that are responsible for overseeing them, which in effect marginalizes the oversight function.

A second problem is that to hold service providers accountable, it is necessary to have a clear set of performance objectives or targets. If what is expected is not well defined, it is not possible to determine whether the provider is delivering what it is supposed to. Governments find it difficult to specify clear performance targets for public service providers because they are often expected to provide universal service, even when realistically they are not able to.

In recent years, many governments in the EAP region have introduced policies designed to improve public sector management. As we mentioned, these typically involve separation of functions between providers and oversight agencies, and formulation of formal performance targets and accountability regimes. The logic of such public sector management reforms is to replicate within the public sector the kinds of arms-length contractual relations that exist in the private sector.

However, if state institutions are set up as if there was a contract with a provider, it is worth exploring whether an actual contract with a private operator would deliver even greater improvements in the quality of oversight. There are a number of reasons why actual contracting might deliver more than the “as if” reforms:

Contracts with private sector service providers are likely to be more specific and more carefully thought through because private parties to the contract have a strong incentive to ensure that they do not sign up to any requirement they can not meet. Public sector operators are more likely to regard performance targets as broad guidelines. Moreover, since the “as if” contract with a public operator has no explicit termination provisions, incentives to perform are likely to be weaker.

In general, private operators may wield less political power than state-owned corporations, improving the ability of public bodies to exercise oversight. There is no doubt that in many countries there are significant elements of state capture by private interests, and that many private companies have considerable political influence. However, their positions are likely to be less entrenched than those of publicly-owned entities:

o It is often difficult for governments to criticize performance of public sector infrastructure providers since they themselves appoint Boards and control management. Hence, such criticism often backfires. Private entities are more vulnerable to criticism

o Many infrastructure services are provided with the participation of international operators. Many governments find it politically easier to impose tougher standards on foreigners

o Once private sector participation is accepted, replacement of one operator with another becomes more of a commercial and less of a political issue. It is easier to introduce and promote competition. By contrast, when

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infrastructure services are provided exclusively by public sector entities, any threat of competition is highly politicized.

This suggests that governments can provide better oversight when services are provided at arms length by private sector service providers. This creates a clear separation of functions between the government and service provider and makes it easier for governments to hold service providers accountable for their service commitments. In such instances, governments can focus their attention on the quality of regulatory agencies or special contracting monitoring units.

In particular, it is worth mentioning that in recent years the focus of attention in the design of oversight agencies has shifted from independent regulators – which are intended to mediate between the public interest and the interests of providers – to contract monitoring units, which are responsible for the implementation of contracts, which specify service requirements and tariff arrangements. The key difference is that regulators operate under a statute, and exercise quasi-judicial powers, frequently with wide discretion. Private operators have no option but to comply. By contrast, contracts include terms mutually agreed between the government and the operator. Specialized units which monitor compliance with contracts have no authority to step outside the terms of the contract.

The most suitable oversight mechanism will depend on a number of factors, for example, type and scale of the infrastructure project and whether it is publicly or privately developed and operated. To summarize the key requirements, improvement in accountability involves actions to:

Develop unambiguous objectives and service targets. Oversight is more effective when there are clear and measurable targets against which performance can be evaluated. This is more difficult for public sector service providers but can be done through good business planning

Develop arm’s length contracts. Oversight is more effective when there is a clear separation of functions. In many cases, this can be best achieved by contracting with the private sector

Identify appropriate institutional structure for oversight. The entity(ies) responsible for regulation or contract monitoring should be clearly identified, communicated to all, and given the authority to take actions when the service provider is found to be out of compliance or in breach of contract. In many cases, there might be more than one entity with regulatory authority. For example, there may be an economic regulator responsible for setting tariffs and monitoring service quality, but other organizations such as the health and environmental agencies may have responsibility for some aspects of service provision. These roles and responsibilities should be clearly defined to reduce overlap and ensure effective coordination

Give stakeholders a voice. Consumers have an important role in providing feedback on the quality of service they receive. For example, the Jakarta Water Supply Regulatory Body (JWSRB) conducts customer forums on a quarterly basis where the private service provider and consumers meet to discuss service related issues. In 2003, the JWSRB

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established the Jakarta WaterVoice which is modelled on WaterVoice in England and Wales. The WaterVoice committees monitor service quality and provide consumer input on an on-going basis

Public information on service provider performance. The regulator or oversight body should be required to provide regular reports on service provider performance in relation to the expected levels of service. This information should be made available to the public through appropriate channels such as being published in the newspaper and made available on the internet.

Box 4-4 : Decentralization – Are local governments more responsive?

Decentralization has been a main focus of public sector reform programs in many EAP countries. The objective of many decentralization programs is to move decision making for public services closer to the people, the idea being that local governments are in a better position to listen to community, understand their needs, and are more accountable to the community they represent. In principle, the community should be able to clearly see the link between the decisions of the government and the public services they receive and pay for, and when they are not happy with the performance of the government, they can vote the politicians out of office. However, there are a number of factors that hinder this process, including:

Lack of revenues. Although countries have sought to decentralize responsibility, often the fiscal systems have not kept pace and many local governments have very limited access to their own source of revenues. This makes it difficult for local governments to establish priorities and develop long-term infrastructure development programs. For example, in the post Suharto era, Indonesia embarked on a major decentralization program (“regional automony”), but local governments continue to rely on tax and revenue transfers from the central government (local governments only raise 5-15% of their own revenue)

Lack of capacity and information. Local governments often lack the technical expertise to properly analyze information or even to obtain sufficient information to make good decisions. Central governments may provide policy directions and technical support, but this is often insufficient

Little effective oversight. All governments find it difficult to uphold the commitments that are made. Too often they promise all things to all people, making it difficult to establish clear priorities and set well-defined targets for providing public services. This is even more difficult for local governments that are subject to intense pressures from competing groups within the community, and where local politician are often prone to capture by local elites who they depend on for political support

Degree of participation. The level of participation within a country will also influence the degree to which local governments are forced be responsive to the people. Some countries such as the Philippines have a more participatory process and local governments are required to hold public hearings. Nevertheless, as the case of the Philippines attests, even in countries with participatory traditions, the political process can still be captured by a small group of elites.

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4.4 The dark side of accountability

This section has so far focused on the tools that can be used to make various parties involved in the provision of infrastructure services more responsive to citizens’ concerns and needs. However, the introduction of such tools creates its own issues. Public accountability of government institutions is a messy business. When the opportunity is created for all voices to be heard, there is a risk of the public interest being drowned in the general noise. Processes which carefully elicit public views, share information with stakeholders, give stakeholders an opportunity to influence decisions and expose all parties to external oversight are slow moving, costly and uncertain.

Infrastructure investments require long-term commitment of significant capital. In general, an unpredictable investment climate – where property rights are not secure, and there is uncertainty over the credibility of governments’ commitments – would tend to lead to lower levels of infrastructure investment and higher costs of capital.

However, the predictability of investment does not necessarily lead to good social outcomes. For example, unaccountable, authoritarian governments can often provide more certainty and reach speedier decisions than open democratic systems. Such decisions may provide a good base for profitable investment, but may not necessarily be in the public interest. We will need to consider if there are examples of infrastructure investments in the EAP region that have been excellent deals for investors, but less than desirable for the taxpayers who had to under-write them.

In general, genuine rule of law and government accountability may create considerable uncertainty. Infrastructure investments would typically affect a wide range of interests. The need to consult and reach accommodation with these interests tends to add to the costs of the projects and reduce returns on investment. The ability of the affected interests to use the courts to defend their rights could introduce significant delays. Private sector firms lobbying for greater certainty of the investment climate often do not have the patience to see that, in the long-run, infrastructure projects that survive such open trials may be more sustainable.

Box 4-5 : Supreme Court Rules on “Gravely Abusive Contracts”

In the Philippines, the Constitution of the Philippines gives the judicial branch the duty (not simply the power or authority) to invalidate any act of any agency or instrumentality of the government if it is found that there was a grave abuse of discretion. This can happen when an act is done contrary to the Constitution, law or jurisprudence or when it is executed “whimsically, capriciously or arbitrarily out of malice, ill-will or personal bias.” This means that if there is corruption associated with the award or implementation of a contract, the Supreme Court can invalidate it.

Perhaps one of the best known cases of Supreme Court involvement is the US$650 million Concession Contract for the construction and operation of Terminal III at the Ninoy Aquino International Airport in Manila. The contract was awarded in 1997, and there were subsequent amendments and several supplemental agreements. Ruling on suits brought before the Supreme

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Court challenging the validity of the contract, the Court found that the Manila International Airport Authority (MIAA) gravely abused its discretion by entering into the contracts. It violated the bidding rules when it awarded the contract to an entity that failed to meet the financial requirements and the final version of the contract was substantially different from the agreement used in the bidding process (granting more benefits to the bidder than originally offered). It also violated other aspects of the law. The court found that the process had made a “mockery” of public bidding and nullified the contract.

More importantly, the trade-off may be between greater certainty and higher quality of decisions. In this context, it is often difficult to tell positive and negative influences of the governance structures on the investment climate apart. For example, the Philippines Supreme Court decision that suspended the concession contract for the Terminal 3 at Manila International Airport (see box above) can be interpreted both as a positive and a negative for the investment climate in the Philippines. The negative interpretation would emphasize the risk that future investors would question the sanctity of contracts in the Philippines, and would be less willing to invest. The positive interpretation would emphasize the message to private investors that attractive deals secured through corruption (these allegations are being investigated) will not be allowed to stand. This will encourage investors to seek transparent, competitive deals in the Philippines, and will over time lead to better social outcomes.

If we recognize that greater accountability can reduce certainty and increase the costs of decision-making (including the costs of delay), then the question becomes one of achieving the right balance. The balance needs to be struck between these costs and the benefits of greater legitimacy and quality of outcomes. Authorities need to:

Clearly define legitimate rights of all stakeholders, both to ensure that legitimate interests can be protected and that illegitimate claims can not be pursued

Define relevant stakeholders in each case in a way that achieves balance between inclusiveness and undue representation for those without a legitimate interest

Ensure that all parties with the ability to influence infrastructure decisions are externally accountable.

We will now explore issues raised by the above requirements in turn. First, it is important to be alert to the tendency to promote the rights of various stakeholders by vesting them with broad powers to veto investment decisions. For example, it is legitimate to emphasize the rights of local communities, particularly if they are relatively disenfranchised, with respect to site-specific infrastructure investment decisions. However, it is not obvious that the recognition of such rights should translate into giving such communities the ability to stop a development from going ahead or to hold it to ransom. Many NGOs, in particular, appear to confuse the concept of justice with the wielding of veto power.

In many instances, compulsory acquisition of property for infrastructure projects may be unavoidable. However, the protection of legitimate rights requires that such acquisition be accompanied by adequate compensation, and that the property is used for the claimed

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purpose. For example, it is common for property to be acquired in claimed anticipation of infrastructure projects, only to be re-sold or allocated on favorable terms for other uses.

Accountability procedures need to be designed in such a way that legitimate processes can not be used for the pursuit of illegitimate objectives, particularly for the purposes of delay and hold up. In practice, what this means is that the mechanisms for improving the legitimacy of infrastructure decisions, described in section 4.1, need to be carefully calibrated so that the decision framework does not become biased in favor of NIMBY concerns.

Second, not every party should have standing in every instance. At the start of this section, we described the push and pull of accountability as the opposite of the hierarchical model of accountability. However, in some cases, structured and hierarchical relationships may be essential. For example, if a government agency responsible for contracting with infrastructure service providers has a clear structure of accountability within the broad system of public sector management, it would be inappropriate to expect that such an agency should also be directly answerable to consumers or to NGOs.

Finally, it is important to emphasize that all parties need to be accountable for the role they play. It is common-place to emphasize the accountability of public bodies or of private operators. However, the decision-making landscape in the infrastructure sectors in EAP countries is also heavily influenced by the international NGOs and the multilateral development banks and aid agencies. Quite frequently, it is these external players who set the policy agenda, both because they are better resourced than local participants, and because they possess superior institutional capabilities. This influence needs be tempered by accountability.

How can external parties be held accountable in practice? We would suggest a number of mechanisms with respect to NGOs:

Rules of standing. As we mentioned before, defining the relevant stakeholders and their legitimate rights is an important element of imposing order on the push and pull of accountability. In many cases, international NGOs with broad political agendas exercise undue influence in situations where there are no rules of how the public interest should be represented. If the rules of standing are clear, external organizations such as NGOs would either have to ensure that they represent recognized interests, or they may act in advisory capacity, and hence would be accountable to their “clients”

Information disclosure requirements. Just as corporate governance can be improved through information disclosure requirements, so the quality of representation of public interest depends on what those who purport to give voice to such interests have to disclose about their governance and funding arrangements

Formal rules for public hearings. Unrepresentative and unaccountable organizations are best at capturing influence through media and publicity, rather than operating within well structured processes, where views can be received and dispassionately examined. Active promotion by governments of formal participatory processes at all stages of decision-making about infrastructure would create an environment where the more

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accountable public voices would thrive, while the less accountable ones would be marginalized.

The accountability of the multilateral development banks is a more complex issue. Much has been written on the governance of these institutions, but this is outside the scope of this paper. Given the focus of this paper, we would suggest that the main mechanism to enhance the accountability of donor agencies is to promote their active participation in the accountability processes described above. In other words, multilateral development banks should be encouraged to make public submissions to the consultation processes and public hearings. Where they are directly involved in a project, they should be identified as a stakeholder, and be treated as such.

In general, concern about the role of the multilateral development banks is greatest in the environment where there are no formal decision-making and consultation processes, which generate fear of organizations like the ADB or the World Bank twisting the government’s arms away from the glare of accountability. By contrast, if the processes for identifying infrastructure projects, selecting providers and addressing legitimate concerns are well structured, concerns about back room maneuvers are less likely to persist.

4.5 Conclusion

The broad theme of this paper is that, subject to certain conditions being satisfied, well-structured and explicit contracts between the public and private sectors for the provision of infrastructure services can be a powerful tool for improving governance by promoting greater accountability and control of corruption.

This section has focused on the structures and processes that would promote accountability. Our discussion on improvement of accountability boils down to three elements:

Explicit and genuine processes to involve relevant stakeholders in decision-making, combined with clear rules on who has legitimate interests, and who has no standing. In particular, sustainability of PSP contracts requires significant up-front investment in consultation and information sharing as a means of establishing the legitimacy of the transaction. By contrast, many “heroic” privatizations, rapidly pushed through past the unsuspecting public, have proved to be not very durable

Transparent decision-making, with opportunities for challenge and review. If the quality of public policy with respect to infrastructure is to be reviewed, policy thinking at all stages of the process needs to be exposed to scrutiny and critique, while the public needs to know what information is being used by the public bodies for their decisions

Establishment of arms-length institutional arrangements between the organizations responsible for the provision of infrastructure services, and those who provide oversight. Again, competitive, transparent, arms-length contracting appears to be a particularly powerful tool for improving accountability

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5 The Way Forward

The purpose of this section is to bring together the ideas discussed in the rest of the report. The questions of accountability and control of corruption have received wide attention, and there is a tremendous literature discussing various aspects of these topics. Two themes run through much of this literature:

There is no single silver bullet. Improvements in accountability and control of corruption require numerous actions across a broad spectrum of policies.

It is impossible to create oases of integrity in some sectors – such as infrastructure – without achieving changes in the society at large.

The complexity of interactions and a broad range of actors involved in infrastructure projects, however, impose particular demands on integrity systems in the infrastructure sectors.

Figure 5-1 : Interactions which require integrity

Figure 5-1 illustrates the main parties involved in decisions about infrastructure, and highlights the main interactions between them, which together, generate service provision

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outcomes. Our analysis suggests that there are powerful inter-dependencies between the integrity of various actors involved:

It may be difficult to reduce corruption in the public sector, if the private sector itself is rife with corruption

While accountability of government agencies matters, it may be difficult to improve the overall outcomes without ensuring that all parties involved in decisions about infrastructure are accountable

Hence, the way forward for improving integrity in infrastructure must involve a co-ordinated set of policies which will reduce opportunities for corruption and improve accountability for all the participants in these complex interactions.

But where do we begin? Our analysis above suggests three catalytic concepts, around which more detailed policies can be built:

Transparent contracting arrangements between the government and infrastructure service providers are likely both to reduce corruption and to improve accountability. There are two ways to think of this. The first involves improvements to public sector management by separating oversight agencies from provider organisations, and setting clear performance objectives for the public sector providers. For example, one way to do this is to corporatize utility companies and to impose external regulations on them. The second, and we believe more compelling, way forward is to separate the oversight and delivery functions even more clearly through competitive procurement of contracts with private operators

The best way to ensure the integrity of the arrangements through which infrastructure services are provided is to ensure that all decision-making processes are open to scrutiny and challenge. This involves both making as much information as possible public (including, in particular, the terms of any contract), and creating well-structured processes through which legitimate views of stakeholders can be made heard. In particular, we emphasized the need not ensure that accountability is not reduced to an ex post search for the guilty party, but rather is built into the entire chain of decision-making, including consultation processes and exposure of planning and policy thinking to external challenge and review. Given the urgency of meeting growing infrastructure needs, governments should move rapidly to design and commence consultation processes, well ahead of seeking to secure financing for future projects

Scrutiny and challenge must not be allowed to degenerate into a general cacophony, where legitimate voices can be lost in the general din, and where accountability mechanisms can become tools for illegitimate ends, such as extracting rents from the opportunity to hold up projects. Hence, accountability arrangements need to be carefully balanced. In particular, we emphasize the need to develop clear rules of standing for various stakeholders involved in the accountability processes.

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6 Case Study - The Manila Water Concessions

A.1 Introduction

We have reviewed the Manila water concession to help identify the various governance issues around the successes and failures of infrastructure provision. We use the framework set out in Figure A-1 to systematize the lessons and analyze the information. This helps to address the following issues:

How do the governance issues impact at all stages of the project life cycle? To do this, we will focus separately on the project selection stage, the provider selection stage and the on-going regulation of the infrastructure entities

How are decisions about service priority, resource allocation, geographic location and other relevant issues made at the project selection stage? We need to understand: Who is involved in identifying needs and who is involved in identifying relevant interests? The focus here is on understanding the factors that may lead to poor quality infrastructure projects, or to projects that do not address the appropriate needs

What are the institutional arrangements which bolster the integrity of the process at the provider selection stage?

What are the key issues regarding on-going review and adjustment of infrastructure contracts involving predictability and the quality of dispute resolution arrangements?

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Figure A-1 : Framework for analyzing governance issues in infrastructure provision

A.2 Case Summary

In the 1990s, water supply coverage in Manila was one of the lowest among major Asian cities. Service was intermittent and non-revenue water was extremely high. The Metropolitan Waterworks and Sewerage System (MWSS), the public utility serving the Greater Manila areas, was unable to provide universal access and efficient service. In 1994, MWSS supplied water to only about two-thirds of Manila’s population for an average of 16 hours per day. Water losses were estimated at 56%. The sewerage network only served 8% of the

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population. MWSS was also financially unsound and heavily indebted, affecting its ability to raise additional investment capital needed to expand services.

With a population of 11 million that was expected to double in 30 years, it was unlikely that MWSS would be able to meet the demands of a growing city. Following the successful introduction of the private sector in the electricity sector, the Government sought to reform Manila’s water and sanitation sector and undertake one of the largest privatizations to date in water sector. The MWSS service area was divided into two separate zones (the East and West Zones) to facilitate comparison of performance between the operators. The two concessions were tendered through a competitive bidding process and awarded on the basis of the lowest tariff bids. In January 1997, MWSS entered into two 25-year concession contracts, one with Manila Water Company for the East Zone and the other with Maynilad Water Services for the West Zone. The total promised investment for the two concessions was approximately US$7 billion.

The concessions have improved water supply and have increased the number of connections. By mid-2001 the number of connections had increased from 740,000 in 1997 to more than 900,000. Water supply coverage increased from 67% in 1997 to 87% in 2002, serving an additional 2.15 million people. Water production increased and water availability increased from an average of 16 hours per day to 19 hours per day (21 hours per day for Manila Water). Customer service also improved markedly. However, both companies experienced financial difficulties in the early years of the contracts, created in part by the significant devaluation of the peso during the Asian financial crisis. This affected their ability to raise the expected investment capital and to deliver on the expected outcomes.

The experience of Maynilad has been particularly problematic. Maynilad assumed 90% of MWSS’s debt as part of the deal structure and was hit particularly hard with the peso devaluation because the loans where US dollar denominated. The company has experienced on-going financial and management problems, and in February 2003, Maynilad Water issued a notification of contract termination. The subsequent arbitration hearing did not find the Government at fault, and Maynilad was not allowed to withdraw from the contract. The company is working on restructuring options to address its financial problems, but it is likely that the contract will be terminated altogether. Manila Water has been able to overcome its financial difficulties and is planning to float shares on the Manila share market.

A.3 Project Selection

What are the roles and the accountability of state agencies responsible for infrastructure in initiating the projects? MWSS is the public utility in charge of the water supply and sewerage system in the city. It is a statuary government corporate entity with its own Board of Trustees, able to raise and retain revenue. In was clear that MWSS was generally failing it its mission to provide water supply and sanitation services for Manila. It was generally regarded as inefficient, unable to meet the demand for service, and was highly indebted.

The idea to consider the privatization of MWSS was prompted in part by several unsolicited proposals received in 1993-1994. This caught the attention of President Ramos, who supported private sector participation in infrastructure following the successful elimination

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of power outages through private sector involvement in the energy sector. The President instructed the Director of the Department of Public Works (DPW), who was also the Chairman of MWSS, to pursue the privatization option. Although the MWSS Board was involved in the decision-making, the privatization process was largely driven by the Department of Public Works.

The administration also helped to focus public attention on the water sector and the need to address looming shortages. In June 1995, the Congress of the Philippines adopted the Water Crisis Act of 1995 designed to improve water delivery, expand coverage and develop new water sources. The Government also included provision in the Water Crisis Act for the President to undertake the privatization of MWSS.

Are government objectives well articulated? The primary objectives of the MWSS privatization were to expand service coverage, improve service delivery, and increase operating efficiency. It was agreed early on in the process that the water assets would remain under MWSS control while the concessionaries would be granted the right to use the assets. The objectives were then reflected in the transaction structure and the contract requirements. For example,

The concessionaires were required to expand water supply coverage to 95% in the East Zone and 98% in the West Zone by the end of the concession agreements in 2021, provide 24-hour supply for all connections by mid-2000, guarantee pressure for all connections by 2007, and meet the national drinking water quality standards

In the latter part of the contract, the companies are expected to develop a sewerage system increasing coverage from the 7% in 1997 to 18% in 2006 and 62% by the end of the contracts. In the interim, the concessionaires are required to provide septic tank emptying services

Both water supply and sewerage system expansion must apply to all consumers, and not just to the wealthier areas and coverage targets were established by districts

Both concessionaires were required to include a local partner, as foreign companies were not permitted to own more than 40% of a utility company. Manila Water is owned by a consortium comprising the Ayala Corporation (the local partner), United Utilities, Bechtel Corporation, Mitsubishi Corporation, and BPI Capital Corporation. Benpres owns 59 percent of Maynilad, while Ondeo (an affiliate of Suez Lyonnaise des Eaux) and Lyonnaise Asia Water Limited each hold 20% of the company

Under the concession structure, the private companies are responsible for the operation, maintenance, and expansion of the water supply and sewerage network. MWSS remained the asset owner and retained some residual functions such as the responsibility for the development of new water supplies. A Regulatory Office was also established by the MWSS Board of Trustees to monitor the contract.

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A.4 Provider Selection

Are there transparent competitive processes?

The Government had little experience in privatization projects of this scale. Because of the size of the transaction and the need to gain public support, the Government opted to tender the concessions based on a transparent bidding process and asked the International Finance Corporation (IFC) to act as the transaction advisor. The tender process was managed by the Office of the Secretary of the Department of Public Works and Highways, who at that time was also the Chairman of MWSS, on behalf of the Philippine Government.

Fifty groups expressed interested but only four consortiums were pre-qualified: the Ayala Group comprising Ayala Corp., Bechtel, United Water, and Mitsubishi (the current Manila Water Corp.); The Lopez Group comprising Benpres Holdings and Lyonnaise des Eaux (the current Maynilad Water Services Inc.); Aboitiz Equity Ventures and Compagnie Generale de Eaux; and Metro Pacific and Anglian Water International. The Government took a year to analyze the technical and financial qualification of the fifty groups that submitted prequalification documents.

The concessions were awarded following a competitive bidding process, based on the lowest tariff bids. In January 1997, the four consortiums submitted their bids. It turned out that the Ayala group (Manila Water) submitted the lowest bids for both the East and West Zones. Because there was a restriction that both concessions could not be awarded to the same company, the Ayala Group was granted the concession for the East Zone and the West Zone was awarded to the Lopez group (Maynilad), which was the second lowest bidder.

The Government opted to award the contracts on the basis of the lowest price because this is the most straightforward and transparent method. The Government wanted to make sure that the public would understand the procedure, and reduce the opportunity for challenges that the bidding process was less than transparent. However, the bids price came in significantly lower than expected, giving rise to concerns that the companies submitted “dive bids” in order to win, i.e., bidding a low price to win the concession but then fully expecting to be able to negotiate an increase in the tariff once the concession was in operation.

A.5 On-going Review and Adjustment

Are there clearly articulated rules for on-going regulation? The contracts provide for the establishment of a separate regulatory office, the MWSS-Regulatory Office (MWSS-RO) to undertake key regulatory roles, including monitoring and enforcing compliance with the concession contracts and approving rate adjustments. The responsibility of the MWSS-RO is specified in the contract. Although established as a separate body, the MWSS-RO reports to the MWSS Board, and therefore strictly speaking it does not function as an independent body. Its recommendations must be approved by the MWSS Board of Trustees.

The MWSS-RO regulates on the basis of the provisions in the concession agreement. In many cases, these requirements are well specified. However, there have been some issues.

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For example, although the service requirements are specified in the contract, the way to measure compliance is not defined in sufficient detail. This has led to disputes over how to measure performance. An example is the coverage target which is set on the basis of percentage of population served. Initially, it was agreed to use a formula of 9.2 persons served per connection; however, many feel that this has resulted in a significant overestimation of the actual percentage of the population served. Efforts to change how this is calculated have been resisted by the concessionaires.

What is the accountability of the decision-making bodies?

Because of the conflicts between the between the private companies and MWSS, the MWSS-RO has taken on an important role in administering and interpreting the contract. Some have claimed that the MWSS-RO has in fact taken on wider powers than was intended under the original contract, while others believe that the RO has not done enough to regulate the contracts. While the MWSS-RO is responsible for monitoring and enforcing the contract, its decision must be approved by the MWSS Board of Trustees. This has made it difficult for the MWSS-RO to hold MWSS to its obligations under the contract. In principle, MWSS is accountable to the Government and the public under the laws that govern its activities.

Are there appropriate appeal procedures?

Over the life of the contracts, there have been several attempts to amend or reinterpret the contract. These have been controversial and tested all of the organizations involved in the process.

The concession agreements include provision for international arbitration, and this provision has been used twice. One of the concerns with the very low bids received from the bidders was that they would turn around and try to renegotiate the contract to improve the financial terms. Early in the contract, Manila Water sought to redefine how the appropriate discount rate (ADR) was defined (the ADR determines the interest rate paid on the deferred recovery of costs and is tied to what is considered to be a “fair” rate of return). The ADR implicit in Manila Water’s bid was 5.2%. Manila Water petitioned the RO for an increase to 18%, but the RO refused saying that this formed a key part of Manila Water’s bid prices and therefore should not be adjusted until rate-rebasing (the comprehensive review of the tariffs that is carried out approximately every five years). Manila Water brought the dispute to an Appeals panel which granted a new ADR of 9.3%. MWSS and the MWSS-RO challenged this decision, saying the court of Appeals overstepped its authority by ruling on a substantive matter that was within the authority of the MWSS-RO rather than on a procedural matter. The issue went to the local courts where it still remains; however, the issue became moot during the first rate re-basing because the ADR was adjusted during this process. However, this case caused serious internal disagreements within the MWSS-RO and affected its ability to function effectively for some time.

The second arbitration hearing followed Maynilad’s efforts to terminate the contract. In February 2003, Maynilad filed a notice of termination, seeking to return the operation of water system to the Government. The matter went to arbitration to determine fault and establish the basis for termination settlement. The Government was widely expected to lose the case, but in November 2003, the arbitration court ruled that the company had no ground

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to terminate the contract. Maynilad was subsequently asked to pay P8 billion to the Government of past debts and honor its 25-year concession contract. The MWSS still has access to the US$120 million performance bond from Maynilad and plans on using it to pay for Maynilad’s concession fees. Maynilad tried to block MWSS from calling in the performance bond, but this was recently lifted by the courts.

Contract Renegotiation and Amendment

While arbitrations have been sought to clarify interpretations under the contract, there have also been several attempts to amend the contract. Because the Asian financial crisis hit shortly after the concessions became effective, both concessionaires experienced serious financial problems. Maynilad was particularly affected because it had assumed the lion’s share of the US dollar denominated debt. Maynilad requested an amendment to the concession agreements to allow them to immediately recover the specific foreign exchange losses created by the devaluation of the Philippine peso. After a protracted and controversial process, Amendment #1 to the contract was approved. The Amendment also authorized the lowering of expansion targets and relaxation of some performance targets, including non-revenue water targets. In other words, the parameters of the original bid were modified, allowing the concessionaires to increase prices while reducing service.

In light of Maynilad’s financial difficulties and efforts to withdraw from the contract, Maynilad submitted a proposal for a second amendment (Amendment #2) in 2003, authorizing the Government to own a majority of the company through a debt to equity swap. This amendment has not been approved by the National Economic and Development Authority. The proposed amendment has created significant controversy and led to legal proceedings; however, little of the content of the amendment has been made public. Only the creditors and concerned parties of the case have had access to it, even though a petition before the Supreme Court seeking to compel the Quezon City Regional Trial Court to make public the details of the revised compromise agreement has been filed.

A.6 Lessons

Seven years later, the Manila privatization appears to have generated confusing results. On the one hand, the concessionaires have significantly improved water supply and increased the number of connections. In particular, they have increased access in poor areas. Both concessionaires have adopted special programs with lower cost schemes to provide service to poor households. Manila Water estimates that it provided access to water to 500,000 in poor areas between 1998 and 2003, representing over half of its new connections. On the other hand, water tariffs have increased and service levels are still inadequate.

Although the concession contracts are virtually the same for both concessionaries, Manila Water is now performing reasonably well and has been able to work through many of its initial problems. But Maynilad has not been able to overcome its problems, resulting in a likely contract termination. Maynilad blames the MWSS for its financial problems. It claims that the MWSS-RO did not respond quickly or effectively to the crisis caused by the currency devaluation and MWSS did not uphold its responsibilities of developing new water sources. A delayed rate-rebasing, which postponed tariff increases, also contributed to the financial woes. Nevertheless, Maynilad has failed to achieve the same operating efficiencies

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as Manila Water and its cost to produce and sell a cubic meter of water is almost twice as high. This suggests that the problems stem from a combination of factors.

There are a number of lessons from this case:

Although in hindsight it is possible to critique the contracts, at the time the contracts were drafted they represented some of the best current thinking, and even today many feel that the core contract has held up. The difficulty was how to respond to challenges and enable the contracts to evolve when issues arose. The MWSS-RO has played an important role in monitoring the contracts and working with the parties to find solutions to problems, but at the beginning it was a new institution with no experience in regulation. The arbitration mechanism has been used as a way for the parties to seek third party input to resolve a conflict

The experience underscores the importance of setting clear performance targets and defining the way to measure performance. When clear targets are established in the contract, it is relatively straightforward to determine whether they are being fulfilled. This reduces the discretion in determining whether the operator is performing. This is also important for public accountability. In this case, how to measure the targets was not well defined and has created significant controversy and doubts about the performance of the operators

It was very important to have public support for the privatization process. In this case, initial negative press prompted the Government to bring in a public relations firm to provide information to the public about the privatization. However, it appears that the objective was not as much to engage the public in dialogue about whether it was the right approach, but to explain the benefits of privatization. Because of this, the promise of lower tariffs became very important in order for the Government to “sell” the benefits of privatization. Unfortunately, this has backfired, because even though tariffs did decrease initially, and quite substantially, they have increased over time. While this was to be expected, it provided critics with further evidence that the public was misled

Transparency in the bid process was very important to gain public support. The concessions were awarded partly to limit the discretion in the selection of the winning bid (and hence reduce suspicion of corruption) and partly because of the desire to demonstrate that the private sector would result in lower tariffs. Some believe that this resulted in bids that were financially unsustainable, contributing to the financial woes of the companies.

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Case Study References Basilio Jr., Robert J.A. “MWSS plan may lead to water interruption.” The Manila Times. June 29, 2004. Basilio Jr., Robert J.A. “MWSS postpones decision on Maynilad.” The Manila Times, June 25, 2004. Danao, Efren L. “Maynilad – a ‘crony deal’.” The Manila Times. March 28, 2004. David, Christina C. 2000. “MWSS Privatization: implications on the price of water, the poor and the

environment.” Discussion Paper Series No. 2000-14. Manila: Philippine Institute for Development Studies.

“The Design of the Manila Concessions and Implications for the Poor”. No date. Case study from

Conference on Infrastructure Development – Private Solutions for the Poor: The Asian Perspective. PPIAF/ADB.

Dumol, Mark. 2000. The Manila Water Concession: A Key Government Official’s Diary of the World’s Largest

Water Privatization. Washington: The World Bank. Esguerra, Jude. No date. The Corporate Muddle of Manila’s Water Concessions: How the world’s biggest and

most successful privatisation turned into a failure. A study for WaterAid. Manila: Institute for Popular Democracy.

Inocencio, Arlene. 2002. “Manila: Water and Sewerage Concessions.” Case study in Beyond Boundaries:

Extending Service to the Urban Poor. Manila: Asian Development Bank. Available at www.beyondboundaries.adb.org

Llorito, David L. and Meryl Mae S. “Maynilad: a model in water privatization springs leaks.” The

Manila Times. March 26 2004 (Special Report). Madrilejos-Reyes, Honey. “Debt-laden Maynilad seeks help from court.” The Manila Times.

November 15, 2003. Montemayor, Carla A. “The Manila Water Privatization Fiasco and the Role of Suez

Lyonnaise/Ondeo.” The Philippine Water Vigilance Network (Bantay Tubig). 20 May 20, 2003.

Rosenthal, Shane. 2001. “The Manila Water Concessions and Their Impact on the Poor”. New

Haven, CT: Yale School of Forestry and Environmental Studies.

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http://www.beyondboundaries.adb.org/

7 Annotated Bibliography

Philip Keefer. 2004. “A review of the political economy of governance: From property rights to voice”. World Bank Policy Research Working Paper 3315.

Paper review: “This paper reviews the known effects of governance on development, the interrelationship among the different dimensions of governance, and the origins of “good” governance.” What matters: This paper provides a good review of many institutions’ definitions of governance. The most common definition of governance is: “the extent to which governments are responsive to citizens and provide them with certain core services, such as secure property rights and, more generally, the rule of law; and the extent to which the institutions and processes of government give government decision makers an incentive to be responsive to citizens.” But these definitions usually forget to say that: “Governance is first associated with establishing causal relationships between economic development and particular performance characteristics of developing countries […]. These characteristics include, especially, such phenomena as the security of property rights, the performance of bureaucracies and the predictability and credibility of government decision making. Second, governance is associated with establishing causal relationships between the underlying institutional characteristics of governments (typically, democracy or voice and accountability) and either the performance of governments (e.g., with respect to the rule of law) or economic development, or both.” The paper also highlights the important impact different types of governance can have on investment and therefore on economic growth and development. For example, it says that investors will prefer investing in countries where there are rules to secure their rights, even if the price paid is higher tax rates. As well, they will more readily invest in countries where governments are more predictable and credible, and where they do not fear expropriation. Finally, bureaucratic efficiency and honesty, as well as “voice and accountability as governance” (“governments that pay little attention to citizens’ concerns-[…]-are less likely to pursue policies that further social welfare”) are important factors to attract investment.

David Dollar, Mary Hallward-Driemeier, Anqing Shi, Scott Wallsten, Shilin Wang, and Lixin Colin XU. March 2003. “Improving the Investment Climate in China”. Washington : The World Bank.

Paper review: This paper aims at explaining why China performs better than other developing countries in terms of economic growth. To do so, it examines what the authors call the “investment climate” of China, which is made of China’s main institutional factors and policies. What matters: When describing the investment climate of China, the paper deals with “regulatory burden, governance and corruption”. The authors explain how a country’s general governance structure and business-government interactions are important factors for a good investment climate. By general governance structure and business-government interactions, they mean “[…] the burden firms face in complying with regulations, the quality of the services provided by these regulations and the extent to which

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corruption is associated with the procurement of such services.” To explain how these governance structures influence the investment climate, they use the five governance indicators (Kaufman, Kraay, and Zoido-Lobaton, 1999-2002): - Government effectiveness measures bureaucratic delays, competence of officials, the

quality of public service delivery and the independence of the civil service from political pressures. This grouping of indicators covers the elements needed for the government to design and implement good policies

- Regulatory burden includes the number of regulations within a market, the number of markets that are regulated, competition policy measures, and price controls. This captures more of the outcomes of the policies and provides a sense of how market friendly the business environment is

- Rule of law captures the extent of crime, property rights, tax evasion and the legal system’s effectiveness. It indicates the enforceability of contracts and the predictability of rules.

- Corruption measures include the frequency and size of irregular payments - Political instability and violence measures the incidence of coups, assassinations, riots,

armed conflicts and provides a measure of the likelihood of a violent overthrow of a governing party.

Finally they come up with a graph, on which “the outer web indicates the best performance and the inner web the median measure for the 174 countries for which measures were available. Thus, the larger the country’s web, the better its governance is measured to be.”

The implication is that investors are more likely to invest in countries where the governance structure is measured as being good.

Scott Wallsten and Jeffrey Lewis. 2003. “Domestic Policies to unlock Global Opportunities”

Paper review: This paper is similar to the paper of David Dollar, Mary Hallward-Driemeier, Anqing Shi, Scott Wallsten, Shilin Wang, and Lixin Colin XU (March 2003)“Improving the investment Climate in China”, and it describes the importance of having a right “investment climate” in order to improve economic growth. What matters: In chapter 3, the paper shows that private investment and especially Foreign Direct Investment have decreased during the last 20 years in developing countries. This is due, but not entirely, to the influence policies have on the level and productivity of investments. They state: “One critical dimension of the domestic policy environment is whether the government operates with transparency, credibility, and stability. Good

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governance—including independent agencies, mechanisms for citizens to monitor public behavior, and rules that constrain corruption—is essential to development (World Bank 2002).” They especially emphasize the fact that countries with stronger rules of law have more FDI. - “Transparency is among the most important components of the domestic

enabling environment. Transparency relates to both the actions taken by authorities and the broader business environment of the host country. A nontransparent business environment increases the cost of information, diverts corporate energies toward rent-seeking activities, and can be conducive to corruption.”

- “While these factors affect all participants in the host country’s business sector, they are arguably more discouraging to outsiders who are not privy to locally available information and who have other choices about where to invest.”

- “Corruption can deter foreign investors by increasing transaction costs and by raising uncertainty regarding the enforcement of contracts, the predictability of operating costs, and the likelihood of obtaining needed licenses and permits. […] Corruption and poor governance often go hand in hand with lack of investor protections and with poorly functioning institutions, thereby deterring competition and investment. No investor—domestic or foreign—is likely to risk assets if there is a high probability that those assets will be arbitrarily seized.”

David Bloom, David Steven and Mark Weston. “Recasting Governance in Asia” The Daily times, Pakistan August 30, 2003.

Paper review: The paper first defines the notion of governance as “the way in which decisions that affect the public interest are made”. The authors explain that governments in Asia now have to face new challenges: “The global economy has changed dramatically, […] Increased flows of goods, money, and knowledge around the world mean that foreign organizations and individuals become more influential, making it increasingly difficult for national governments manage their countries by themselves.” This is the reason why governance has become a key factor in a country’s pace of development because it determines the new rules of the game that are needed to face such challenges. According to the authors, “A "back to basics" approach is vital in three inter-linked areas, in which national governments must take the lead: minimizing corruption, enforcing property rights, and consistent application of the rule of law. Few (Asian) countries score strongly here.” All actors – governments, civil society and private sector – have a role to play in strengthening what they call the “social capital” (the networks, norms, and social trust that facilitate cooperation and coordination for mutual benefit). The government has an important role to play in the sense that it needs to acknowledge its limits and to allow “private enterprises to flourish”. The private sector needs to moderate the influence it has on government decision-making. And finally civil society, that gives a voice to communities that government cannot reach, should avoid frequent conflicts. Finally, the paper underlines the positive aspect of thinking of “governments as being in competition” with each other because they try to provide “a more effective service to their people than other governments.”

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Quest Technology, Inc. and Dr. Robert Schmidt, J.D. Ph.D. for the National Association of Industrial and Office Properties. 2000. “Financing Regional Infrastructure”

Paper review: This paper is based on a “[…] project to examine the planning for and the financing of infrastructure systems on a regional basis, […]” in the USA. What matters: By comparing two regions of the USA that have integrated regional operational structures (Portland and Minneapolis-St. Paul) and two that have not (Atlanta and Las Vegas), the paper shows that “there is little evidence that regional (integrated) forms of governance will reduce citizen costs or encourage public sector efficiency. Competition among public service providers is a much more effective tool for accomplishing those goals.”

Scott Wallsten. 2003. “Of Carts and Horses: Regulation and Privatization in Telecommunications Reforms”. AEI-Brookings Joint Center for Regulatory Studies.

Paper Review: “In the early 1990’s many advocated quick privatization of state-owned monopolies in developing countries, assuming that market institutions would develop once firms were privately owned. More recent thinking emphasizes establishing institutions conducive to promoting competition before privatization. To date little empirical work has informed the debate. This paper addresses this gap by testing whether establishing a regulatory authority prior to privatizing incumbent telecommunications firms matters. I find that countries that established regulatory authorities prior to privatization saw increased telecom investment and telephone penetration compared to countries that did not. Moreover, investors paid more for telecom firms in countries that established a regulator prior to privatization.” What Matters: The author states that “too much independence from political influence is harmful. For example, if consumers’ preferences are at all expressed through the political system (and clearly in many countries they are not), then divorcing politics from regulation could, in principle, make it easier for the already-organized privatized firm to capture the regulator. That is, under this scenario the regulated private firm has close contact with the regulator, carefully controlling the flow of information. Consumers, meanwhile, have much less access since their interests would come to the regulator through the political system. In this case the firm could easily capture the regulator, with little recourse by the government”.

Michael Cohen, reviewed by Mac Taylor, for The Legislative Analyst’s Office (LAO). 2002. “Water special districts : A look at governance and public participation”

Paper review: This paper explains the difference of purposes, governance structures and financing mechanisms, that can exist among the water special districts in California that all provide water delivery, waste disposal, flood control services and water conservation. What matters: The paper highlights how the difference in governance structures creates different tensions and tradeoffs among the water special districts. The difference in governance issues lies in the fact that some districts are independent and others are dependent, some are elected and others appointed by officials and

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finally some focus only on water and others work on many responsibilities. To illustrate the difference between dependent and independent structures, the paper explains that dependent districts spend less time on a water problems, for example, than an independent one would because the water problem are simply be one problem to treat among a long list of other problems. On the other hand, a dependent water district has better “economies of scale” by using the city or country infrastructure. Finally, the paper reviews the current practices of the water districts to attract and encourage public participation such as making information available as much as possible to the public, or “attending government (from other countries) and nongovernmental organizations’ meetings and holding public workshops.”

Elena Petkova, Crescencia Maurer, Norbert Henninger and Frances Irwin, with John Coyle and Gretchen Hoff. 2002. “Clothing the Gap. Information, Participation, and Justice in Decision-making for Environment”. Washington: World Resources Institute. Paper review: In this book, the authors address the status of access to information,

participation, and justice in nine countries around the world [Chile, Hungary, India, Indonesia, Mexico, South Africa, Thailand, Uganda, and the United States], asking the question: What have national governments done–and what do they still need to do–to create effective systems of public participation in their countries? […] The authors pilot-tested an innovative methodology to assess how well governments are performing in improving public access to environmental decision-making.

What matters: The book provides a framework that was designed to generate indicators assessing the performance of national governments in implementing key elements of the three access principles (information, participation and justice) defined in the 1992 Earth Summit’s Rio Declaration. The frame work is organized in four major parts : (1) general legal and institutional conditions for public participation; (2) access to information; (3) participation in decision-making affecting the environment; and (4) capacity-building efforts for informed participation. Access to justice is captured by grouping relevant research questions from each of the four parts into clusters that reflect the extent to which citizens can seek judicial redress if their rights to information and participation are denied. Findings: (1) effective national public participation systems share common elements and [that] governments can learn from each other; (2) […] governments in the nine countries […] over the past decade have worked to introduce relevant legislation and develop infrastructure for implementation of the access principles. (3)[…] citizens still have only limited opportunity to participate in economic decisions that affect the environment and their well-being.

Recommendation: The authors recommend that the governments devote more time and energy to the practice of access, rather than focusing primarily on the law. More resource must be devoted to capacity building both on the supply side –the training of governments officials, the creation of the appropriate institutional infrastructure–and on the demand side–empowering non-governmental organizations to organize public demand for information and to elicit better performance from governments.

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Jianping Zhao. 2000. “The private Sector and Power Generation in China”. World Bank Discussion Paper 406.

Paper review: “This paper discusses issues and problems related to private sector involvement in China's power sector. The first part, a summary of the conference held in Beijing June 22-23, 1999, stresses that despite the problems encountered and the impact of the Asian economic and financial crisis, China's power sector remains attractive to investors because of its size, growth potential, and the improving business and regulatory environments. The discussion at the conference highlighted the need for more transparency in the implementation of the reforms and regulatory framework, streamlining of the project approval process, and improving creditworthiness of power offtakers. The second part, a paper prepared by Jianping Zhao on private power development in China, assesses the current status and future prospects of private sector involvement in China's power sector. It outlines the key characteristics and indicates some future developments for the different forms of private sector participation that have emerged and developed since the early 1980s. It, finally, provides a review of some concerns voiced by investors and provides a preliminary assessment of their impacts on future investments.”

What matters: Through the example of the power sector in China, the paper illustrate how much the governance structure of a country can affect the level of infrastructure investments. Investors carefully monitor threats and uncertainties that could endanger China’s economic growth and stability. To do so, they observe indicators such as “China's competitiveness and related stability of the Renminbi, social and economic impacts of the reform of the state-owned enterprises (SOEs), emerging difficulties faced by financial institutions at the provincial level (ITICs), and government policies and regulations, especially those related to infrastructure investments, that would reduce China's attractiveness compared with other countries.” The decision-making processes of the government and the private sector will vary in function of the nature of their governance, then this will have an indirect influence on these indicators, and so finally on the level of investment in the country. For example, “foreign developers and international financiers, project development and implementation remain very difficult in China despite acknowledged successes during the last decade. The project approval process is cumbersome and less than fully transparent; the underdevelopment of the legal and regulatory framework greatly increases the uncertainty and risks relating to the projects; the requirement of increased domestic content limits the ability of project developers to involve Export Credit Agencies and to introduce technological innovation; the potential breaches of support agreements (especially dispatch of the units to ensure adequate revenues) and payment defaults caused by insolvency of large state-owned enterprises are undermining financiers' confidence in the "sanctity" of power purchase agreements.”

A major shift in the government’s decision-making occurred in China in the early 1980’s when the country, after decades of isolation and closed policy, decided to gradually open its power sector to private and foreign investors. This process has had a great influence on infrastructure investments: “34 large projects involving private developers, with an installed capacity of over 26 gigawatts (GW), were operational or under construction; and (b) 25 power companies, with an installed capacity exceeding 12 GW, were listed on domestic and foreign markets. By any accounts, this is a great achievement in a country where private investment has been legal for less than five years, noted Yukon Huang in his introductory remarks.”

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This reform went through different steps, in the 1980’s the government decided to decentralize the responsibility of the power sector to provincial and regional authorities, to change the financing mode from budget allocation to loans. Then in the 1990’s the government began to reform state enterprises, adopting a new strategy for the power sector (greater commercial orientation, incentive for independent power producers, development of a legal framework, economic pricing of electricity, stronger environmental monitoring). And finally in the mid-1990’s, the government undertook a series of reforms that led to a greater autonomy of the power enterprises toward the state and greater sources of private financing of the power industry. One step still hasn’t been taken and remains a major obstacle to the private investment in power infrastructure is the long and complex project approval process.

J. Hellman, G. Jones, D. Kaufmann, and M. Schankerman. April 2000. “Measuring Governance, Corruption, and State Capture: How Firms and Bureaucrats Shape the Business Environment in Transit on Economies” (World Bank Policy Research Working Paper 2312)

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Paper review: Based on the Business Environment and Enterprise Performance Survey (BEEPS), “The search for effective methods of combating corruption has led to an increasingly wide recognition that corruption is fundamentally a problem of governance. Corruption thrives where states are too weak to control their own bureaucrats, to protect property and contract rights, and to provide the institutions that underpin an effective rule of law. Consequently, recent studies of corruption have tended to focus on key characteristics and policies of the state, especially the extent of state intervention in the economy and the degree of discretionary power of bureaucrats. Yet the recognition that corruption is a symptom of the underlying weakness of the state, while important, has shifted the focus of analysis away from firms. The links between corporate governance and national governance have been largely unexplored.” What matters: This paper is firm-oriented because: “the firm-level perspective provides one of the first opportunities to analyze empirically the problem of “state capture,” that is, the efforts of firms to shape and influence the underlying rules of the game (i.e. legislation, laws, rules, and decrees) through private payments to public officials. There has been analysis of how firms in the transition economies use their political influence to distort both the legal framework and the policymaking process in an effort to gain concentrated rents with detrimental consequences for the economy and society at large.”

J. Hellman and D. Kaufmann. December 2002. “The Inequality of Influence”. Draft for Presentation at Stratford Corruption Workshop, World Bank.

Paper review: “This paper develops a proxy measure of the inequality of influence on the basis of survey evidence from 2002 Business Environment and Enterprise Performance Survey (BEEPS). We refer to the resulting inequality as crony bias in the political system that can be measured at both the firm and country level. We examine the impact of crony bias at both the firm and country levels on three indicators of institutional subversion: 1) perceptions of and interaction with courts; 2) security of property rights; 3) tax compliance; and 4) bribery. What matters: We find a consistent pattern in which the inequality of influence has a strongly negative impact on assessments of public institutions that ultimately affects the behavior of firms

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towards those institutions (in the way that it creates “less secure property rights, reduces sales growth for the less influential firms, higher barriers to entry for small firms and lower growth in regions where state capture is particularly pronounced”). - “Crony bias at both the firm and the country levels is associated with a significantly more

negative assessment of the fairness and impartiality of courts and the enforceability of court decisions”. Because courts are “the public institutions most susceptible to subversion as a result of severe inequalities of influence, since their effectiveness is so closely based on expectations of impartiality and their ability to enforce decisions on all participants.”

- “Further, firms that report crony bias are significantly less likely to use courts to resolve business disputes. Such firms are shown to have less secure property rights than more influential firms. We also find that crony bias is associated with lower levels of tax compliance and significantly higher levels of bribery.”

- “Tax compliance is a broader indicator of the subversion of public institutions as it reflects both the firm’s willingness to contribute to the development of public institutions as well as the effectiveness of the state’s capacity to collect taxes.”

David Hall and Steve Davies, Public Services International Research Unit (PSIRU). 1999. Corruption and Whistle-blowing – a background note for TUAC

Corruption definition: Corruption covers two notions: - Misappropriation, of the public money by officials/politicians […] - And Bribes usually paid by private companies to obtain contracts, or contracts on more

favorable terms. […] Most of this paper focuses on the second form of corruption. The sectors most affected seem to be construction and defense equipment, but this probably reflects the dominance of these sectors in government procurement. Especially with the growth of privatization, corruption is also found in other sectors, e.g. water. The paper also adds that corruption is both a north and south problem, as well as a public and private sector problem.

Whistle blowing definition: Corruption is most attractive where the risk of detection is low and/or the penalties for detection are slight. Whistle blowing should increase the risk of detection, and thus acts as a deterrent to corruption, as long as the penalties of detection are significant e.g. procurement bans. Whistleblowers can also strengthen the enforcement agencies, by providing better information flows which increase the chances of successful prosecutions […]” Different types of whistleblower: - Direct employees of companies (whistleblowing on their employer or politicians or officials) - employees of governments or agencies (whistleblowing on politicians or officials, and/or

companies) - aid worker employed by foreign government (e.g. by development agency of Sweden, Australia

etc) - NGO employees (whistleblowing on companies, officials, politicians) - Employees of multilateral agencies e.g. World Bank (whistleblowing on companies, officials,

politicians) - Accountants and auditors (an important category: they must see the evidence going across their

desks - auditors and their staff should be able to whistle-blow on their clients, whether public authority or company)

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- Consultants, academic researchers - Member of the public

Haut Conseil de la Coopération Internationale (HCCI), République Française. Report adopted on September 24th 2002 at the 22nd Réunion Plénière. “Gouvernance démocratique et coopération internationale” (“Democratic governance and international cooperation)

Paper Review: This paper is part of the work the Government of France did to reinforce its international cooperation policy. It aims at clearly redefining the notion of governance and its derived notions such as “good governance”. What matters: First, the paper gives a definition of governance, saying that it is “all the techniques of efficient and transparent management of human, economic and environmental resources.” It is “[…] the capacity of human society to arm themselves with systems of representation, institutions, processes and social bodies in order to auto-manage themselves in a voluntary way.” Then the paper moves on to the notion of “Democratic governance”, in the sense that governance requires a “capacity of consciousness (referring to a voluntary will), of organization (referring to institutions, social bodies) and of conceptualization (referring to representation systems).” This notion covers four main domains: - “governmental, legislative and legal institutions - relations between the public and the private sector - the decentralization of the power - the civil society”

It is also based on the basic principles of separation of power in states of law: - Transparency, free access to administrative documents (information freedom) and guaranty of

fair administrative justice and decision-making. - Accountability, responsibility of the deciders and the control of the administration, public

markets,[ …] - Empowerment, notion of consultative administration in the way that citizen are the one making

the decisions whether concerning local or micro-projects or the development of the civil society (essentially through NGO, free unions, free press[…])”

But, the fundamental notion on which governance is based is the respect of Human Rights.

The paper cites Marie-Claude Smouts, Research director at the Centre National de la Recherche Scientifique (CNRS) and member of the HCCI. She says that : - “Governance is neither a system of rules nor an activity, but a process - Governance is not based on domination but interests compromises - Governance implies both public and private actors - Governance is not fix but relays on continuous interactions”

Through the example of France, the paper reviews the ways countries should use to improve democratic governance:

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- Fight against corruption - Ensure taxes are regularly being paid - Independent justice - Independent medias - Free unions.

Zdenek Drabek from the WTO and Warren Payne from the Economic Consulting Services, Inc. 1999.“The impact of transparency on Foreign Direct Investment”.

“Non-transparency is a term given in this paper to a set of government policies that increase the risk and uncertainty faced by economic actors foreign investors. This increase in risk and uncertainty stems from the presence of bribery and corruption, unstable economic policies, weak and poorly enforced property rights, and inefficient government institutions. Our empirical analysis shows that the degree of non-transparency is an important factor in a country's attractiveness to foreign investors. High levels of non-transparency can greatly retard the amount of foreign investment that a country might otherwise expect. The simulation exercise presented in the statistical part of this paper reveals that on average a country could expect 40 percent increase in FDI from a one point increase in their transparency ranking.[…]

The lack of transparency has been used by some observers as an argument towards redirecting foreign aid among countries. For example, in their study of foreign aid flows, Alesina and Weder (1999) show that foreign aid is not necessarily offered to the least corrupt governments. They further argue that donors should rethink their aid policies if they are truly serious about encouraging "good governance” […]

The lack of transparency has been also tied to the financial turmoil first witnessed in Mexico and later in Asia and other parts of the world. Following these financial crises, it is now widely recognized that the availability of timely and complete information is crucial in order to avoid the kinds of violent instability of financial markets that we have witnessed in recent years.”[…] The lack of transparency has for us five different origins. First, economic policymaking will be seen as non-transparent if it is subject to corruption and bribery. By definition, bribery involves illicit payments which are never "advertised", or made otherwise public even though corruption may be sometimes so widespread that "everyone knows". Bribery is non-transparent not only because it is normally illegal but also because the non-transparency strengthens bargaining positions of the beneficiaries from these illicit payments. The second important element of non-transparency arises in the area of property rights and their protection within a given country. The lack of copy right protection, the existence of patent infringement and lack of enforcement of contracts are all examples of what constitutes poor protection of property rights. The protection of property rights is vital for firms to pursue new investment and research in order to ensure that firms will see return from their investments The third and fourth aspects of non-transparency relate to the level of bureaucratic inefficiency within the government and poor enforcement of the rule of law. These two factors can pose severe barriers to business. If the quality of government service is unpredictable, companies' exposure to additional risks is increased. Moreover, their ability to cover against these

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risks impeded due to the unpredictable nature of government service. OECD (1997b), for example, shows that bureaucratic inefficiency and weak rule of law impede economic activities by imposing additional costs on economic agents. Delays in licensing, the inability of the courts to enforce contracts and the capricious and arbitrary enforcement of rules and regulations, all reduce economic efficiency and effectiveness. Finally, the fifth origin of non-transparent economic policies has a great deal to do with the conduct of economic policies per se. Economic policies are likely to be treated as non-transparent if they are subject to unpredictable policy reversals […]” For example, in countries such as Indonesia, “[…] the lack of transparent policies has been suggested to be one of the main reasons why foreign investors have demonstrated extreme caution to invest and for capital flight.”[…] “[…] It must be also recognized that the question of transparency can go even beyond individual economic agents – such as firms, governments, public policy institutions or even individual governments.” Finally the paper asks the question of whether the measures taken to improve transparency should be confined to national legislation or should they be part of multilateral agreements? Their answer: “a multilateral agreement on investment is likely to lead to a further reduction in trade and investment barriers. This, in turn, will be conducive to more transparency and less corruption. We are not suggesting that the agreement would have to specifically target corruption as one of its objectives. This may or may not be the case. What we are only suggesting at this stage is that less corruption would most likely be a by-product of a transparent multilateral agreement on foreign investment.”

Asian Development Bank and the OECD. 1999. ADB/OECD workshop on combating corruption in Asia/Paci ic Economies. f

Review: The workshop recommendations to fight against corruption, include: In the public sector: - develop comprehensive national strategies for combating corruption - strengthen law enforcement mechanisms, including the role of the judiciary and provide witness

protection programs - increase transparency through the establishment of competitive public procurement procedures

and encourage the adoption of international rules in this area - improve conditions for international investment through simplification of government procedures, - improve transparency and accountability in budget preparation, execution, and oversight of

expenditure - develop codes of ethics in public administration to be enforced by strong sanction; - strengthen procedures for an effective and merit-based civil service, particularly recruitment,

promotion and pay - adopt "Freedom of Information" laws and provide access to public information - strengthen parliamentary oversight, independent audit and investigative bodies to be backed by

sufficient human and financial resources.

In the private sector: - establish public-private partnerships to develop anti-corruption strategies, goals and processes - promote good corporate governance on the basis of international standards and principles

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- strong commitment by top management of companies to implement anti-corruption strategies - develop and implement codes of ethical conduct and ensuring their effectiveness through internal

control mechanisms, training of personnel and sanctions - accounting and auditing rules and standards to ensure transparency in business transactions; - build coalitions for business integrity, including business ethics centers.

In the Media and Civil Society - mobilize civil society (media, NGOs, business, labor, and professional associations) to monitor

good governance - create an anti-corruption network of NGOs to share information on regional/country anti-

corruption initiatives - conduct surveys of businesses, consumers and public opinion to provide feedback for delivery of

public services and fostering competition - implement education programs aimed at fostering an anti-corruption culture in society - enable the media to effectively exercise public scrutiny - improve ethical and professional standards of journalists and promoting training in investigative

journalism. “Taking action against corruption in Asia and the Pacific”. 28-30 November 2001. The Asian Development Bank and the Organization for Economic Co-operation and Development.

Paper review: This paper presents a number of the presentations for the 2001 ADB and OECD conference in Tokyo on the fight against corruption in South East Asia. The agenda of the Tokyo conference aimed to support endorsing countries in defining their individual Action Plan implementation strategies […]. The themes approached during the conference were: - Promoting reliable and accountable States - Preventive and enforcement measures to fight bribery - Strengthening civic participation in the fight against corruption What matters:

- Cambodia’s secretary of state’s speech, Sum Manit, highlights the need to take a country’s historical context into account when developing country-specific programs to tackle corruption, and to follow a holistic approach that provides for preventive as well as enforcement measures.

- Barry S.J. O’Keefe’s presentation describes how anti-corruption agencies have been set up in Cambodia and Papua New Guinea thanks to the initiative of the Australian Agency for International Development.

- Clay Wescott’s focuse on the establishment and enforcement of adequate and effective information disclosure policy by the ADB. Highlighted the fact that the most important precondition for effective implementation of information disclosure rules includes education, constant dialogue between concerned parties and the use of modern communication technologies.

- Lim Guan Eng, links political patronage and corruption in Malaysia, because political parties and corporations in this country are very close. […] An independent

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judicial system based on the rule of law is [also] a crucial prerequisite, as illustrated by recurrent failures of enforcement of the relevant laws in Malaysia and elsewhere in the region.

- Narayanan Srinivasan, focused on the role the judiciary has on improving the investigation and prosecution of bribery. He shows that regional cooperation in relation to training investigative bodies can be mutually beneficial and can contribute to better international cooperation in such matters.

David Hall, Public Services International Research Unit (PSIRU). 1999. “Privatisation, multinationals, and corruption”

Paper review: This paper criticizes the role OECD countries and international institutions and donors play in the fight against corruption. According to the author, corruption is not a problem of politically lax cultures but it is increasingly driven by the powerful economic incentives multinational companies gain from contracting-out and privatization. The problem is that OECD governments, “do not routinely enforce laws against their own multinationals, if they perceive there is a commercial disadvantage in doing so.” In addition, organizations such as the World Bank and its “evangelical pursuit of privatization, regardless of any consequent corruption” lead to inappropriate behaviors. The author argues that the World Bank approach is “unbalanced” because “The growth of privatization itself, encouraged by the World Bank and others, places far more lucrative contracts and concessions on offer - and so companies have more frequent, and greater, incentives to offer bribes. The Bank is aware of this […]”. And “Yet the Bank is sponsoring and encouraging privatization and public-private joint ventures by providing guarantees for projects, especially infrastructure projects, which may be extremely valuable to the companies concerned.”[…] “The Bank’s position is even more contradictory in projects where it partners with companies which have been convicted of corruption. One example is Aguas Argentinas, where the Bank, through its International Finance Corporation (IFC), is an equity partner alongside Lyonnaise des Eaux and Générale des Eaux, both of which have had executives convicted of bribing French public officials to win contracts”. Furthermore, the author underlines the fact that in 1996, when the World Bank proceeded to a number of ‘spot audits’ in selected countries, to try to uncover any corruption that might have been involved in Bank-sponsored projects, it appeared that the “The World Bank’s chosen corruption investigator was itself convicted of paying bribes - in one of the countries it had been asked to investigate.” Cf. the case of ‘Société Générale de Surveillance’. The paper also criticizes the position of the international organization, Transparency International. “TI focuses largely on the ‘passive’ corruption of government officials who accept bribes, rather than the ‘active’ corruption of the corporations who pay them. This is reinforced by two factors: first, multinationals have a propensity to use legal action against any statement which could harm their business interests, but politicians rarely do so; second, TI is bound to find it hard to criticise its own supporters in public.” The author considers that TI’s table of countries that are perceived as corrupt by business executive is “unjustly biased against developing countries” in the words of TI’s own newsletter (TI Newsletter, December 1998).” He also thinks that “TI does not deal with the fact that the growth of

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privatisation creates far greater incentive for corruption. These problems are well illustrated in its (TI’s) March 1999 newsletter (the latest at the time of writing). Under the heading ‘Corporate News’, it reports three cases of companies’ ethical policies, and the only case where a multinational’s behaviour has already been exposed by the US congress. It apparently did not notice the reports in the French press of systematic corrupt cartels operated by three multinationals, for example. The section ‘Corruption News’, by contrast, consists of a series of items arranged by country, including the most tenuous allegations against politicians (such as a précis of an article in an Egyptian newspaper, which accuses South Africa’s then president-elect Thabo Mbeki of being soft on corruption, with no substantiating evidence, is reported prominently under the headline ‘South Africa: Mbeki protects allies’). Public sector companies accused of corruption are named, as in a report on Japan; multinationals, however, are not. For instance, the newsletter fails to mention that the largest quoted company in Pakistan, partly-owned by the multinational National Power, faces prosecution for corruption – something frequently reported even by the Financial Times (22 February 1999) - but does report relatively minor cases of passive corruption by public officials.” The author illustrates its position with four case studies: - Uganda: AES, Norpak hydroelectric schemes - Jakarta: water concessions - Indonesia: the electricity contracts - Pakistan: Hubco. The author finally concludes on a moderated note saying that: “The OECD Convention is welcome in that it may reduce the propensity of multinationals to compete by bribery. Nevertheless OECD countries do not, and cannot realistically be expected to, take the lead in applying sanctions against their own multinationals for winning contracts corruptly. Similarly, the World Bank’s statements against corruption, and such sanctions as it has taken, are also welcome, as they can only increase the risks associated with acting corruptly in Bank contracts. However, it appears that the Bank’s encouragement of privatization is given far greater priority than acting against the corruption which has been stimulated by this very policy. The most effective actions are thus those initiated in developing and OECD countries themselves. They include three elements: - “economic deterrents.” The author here gives the example of Singapore which government

banned five companies, Siemens, Pirelli, BICC, Tomen and Marubeni, from bidding for any government contracts for five years after having been convicted of active bribery.

- “democratic transparency” Here the author gives the example of Thailand. “Thailand’s electricity privatization program now has to convince local people to get approval. In 1997 Thailand passed a new constitution, of which a principle is decentralization and local participation. Big development projects are subject to public hearings, and elected local councils must give their consent. This places the emphasis on transparency and accountability.”

- “resistance to privatisation”: “It is a well-established principle that a public sector provision of a given service is an effective way of removing the economic incentive for corruption. This was a key part of the original rationale for placing services under municipal or national control. Successful opposition to privatisation in a number of countries - for example, the rejection of water privatisation plans in Panama and Brazil - is one way to remove a potential source of corruption.”

Miriam A. Golden, Department of Political Science, University of California at Los Angeles. . 2000. “Political Patronage, Bureaucracy and Corruption in Postwar Italy”.

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Paper review: “1. Political patronage is a form of constituency service that serves the electoral needs of incumbent politicians; 2. Political patronage may be conceptualized as the individuization and personalization of what are elsewhere packaged as pork barrel allocations. Pork barrel allocations involve targeting collective benefits to a specific electoral district. Political patronage involves the individuated delivery of the same benefits to a specific, named clienteles; 3. Political patronage and political corruption should be analyzed as different games, distinguished in the first instance by the relevant actors involved. Systems of political patronage involve legislators, bureaucrats, and voters whereas systems of political [corruption] involve legislators, bureaucrats and businesses, who are the actors paying the bribes; 4. The patronage game is a self-enforcing equilibrium; 5. Widespread political corruption can therefore emerge out of a patronage system only when some exogenous factor causes a change in the payoffs, affecting at least one of the following three:

(a) the extent to which businesses are willing to pay bribes as part of the cost of doing business with the public sector; (b) the extent to which politicians have incentives to seek additional, illegal financial resources; (c) the extent to which politicians enjoy a large collective incumbency advantage and do not fear exposure by a credible political rival;

6. It therefore follows that systems of systemic political corruption will collapse if businesses stop being willing to pay bribes; 7. Businesses will stop being willing when international economic competition changes the incentives facing them so that they can no longer afford to pay the excessive \taxes" represented by bribery.” “It is businesses that pay the bribes and kickbacks and that in exchange receive the contracts for public works. It is politicians who orchestrate these exchanges, and bureaucrats who serve as the crucial intermediaries in them. (See the useful discussions in (Jain 1998; Gambetta 2001).) These activities provide the settings for political corruption. Voters, by and large, are uninvolved in political (as opposed to bureaucratic) corruption.”

Charles D. Adwan “Controlling the supply side of corruption.” The Daily Star 04 June 2004.

Paper review: “Corporate governance creates a transparent system, where the whole process of providing corrupt payments or gifts is quickly exposed, and therefore becomes unsustainable. This burden will add to the actual financial strains that corruption places on the competitiveness and growth of a company. Many companies are already aware of such a burden, as Lebanese Transparency Association's survey shows that over 43 percent of surveyed companies consider bribing government officials as an obstacle to their business. The ignorance of the cost of corruption translates in the survey's respondents' reaction to a question on whether they are willing to substitute corruption with tax increases. Over 50 percent rejected any increase and only less than 7 percent of the respondents would accept an increase over 20 percent in government taxes in case corruption was abolished. Although research has shown that "an increase in host country corruption from a low level, such as that in Singapore, to a higher level, as in Mexico, has the same negative effect on inward FDI as raising the corporate tax 50 percentage points."”

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Jean-François Arvis, Ronald E. Berenbeim. 2003. “Fighting Corruption in East Asia:Solutions from the Private Sector”. Washington: The World Bank.

Paper review: This book shows how the public sector initiatives to fight against corruption are not enough. Selling itself as a Guidebook for improving the fight against corruption from the demand side, this book provides the reader with series of case studies, illustrating its recommendations. What matters: The first part of the book is focused on compliance systems and their implementation. To “cut off corruption’s supply side”, new laws, regulations or market pressure are not sufficient. Most company-based programs for fighting fraud and corruption rely on ethics and the implementation of compliance systems. These systems typically consist of statements of values, company codes of conduct, training programs and decision-making and reporting mechanisms. This approach was pioneered in the 1970s by US Multinational corporations after revelations of unethical practices and in response to the 1977 US Foreign Corrupt Practices Act. The implementation of such system in firms has now spread, and an increasing number of companies outside the US have adopted such systems, mostly after the 1997 OECD convention against corruption. The second part uses case studies to describe some companies’ Ethics programs and the way how they implemented them. These case studies are (1) Business Ethics Programs and Anti-bribery Initiatives of Japanese Companies: Changes in Legislation and Corporate Efforts; (2) Kobe Steel; (3) Sumitomo Corporation; (4) Toyota Motor Corporation; (5) The Chinese Art of Guanxi in Business; (6) Jardine Matheson; (7) CLP; (8) LG Electronics; (9) Government-Led Ethics in Singapore and Its transborder impact; (10) ABC Healthcare Corporation; (11) NATCOM; (12) ABB Group; (13) Royal Dutch/Shell Group; (14) Société Générale de Surveillance; (15) Suez Group.

Vinay Bhargava, and Emil Bolongaita. 2004. “Challenging corruption in Asia : Case studies and a framework for action”. Washington: The World Bank

Paper review: “[…] this book aims to provide policymakers with a functional framework to help them design and implement anticorruption agendas that are relevant to the national context. It seeks to encourage policymakers to learn and draw from a global menu of anticorruption instruments.[…] different countries require differentiated policies. Because of the historical, political, economic, and social differences among countries, there is no one-size-fits-all anticorruption agenda. What the analytical framework offers is a practical approach to drawing lessons from the global experience of anticorruption tools and instruments and to crafting and implementing an appropriate reform agenda effectively.” What matters: The book first gives an analytical framework for improving the effectiveness of national Anticorruption Policies and Programs. It proposes a six-step approach for an anticorruption system that would be adapted to the country. These six steps are: - Analyze a country’s governance and operating environment (essentially by examining various

aspects of a country’s political, economic, social, and historical experience)

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- Review the global menu of anticorruption instruments. - Select anticorruption instruments according to a country’s governance environment. - Build broad coalitions to develop and implement anticorruption policies and programs - Establish accountable leadership and management of anticorruption policies and programs - Monitor and evaluate feedback about anticorruption policies and programs. Then the books uses four case studies to illustrate how corruption affects all types of countries even when considered as “clean”. For that they chose to compare Korea, which is considered to demonstrate relatively good governance, the Philippines and Thailand that demonstrate fair governance, and Indonesia that demonstrates poor governance. Eleven points emerge form the four case studies: - All four countries have a history of corrupt practices embedded in collusion between public

officials and private interests. With the partial exception of Korea, they suffer from medium to high degrees of State capture and administrative corruption. As a result, anticorruption measures emanating from the executive branch of the government have generally not been successful in those four countries.

- In Indonesia, Korea, and Thailand the public’s access to information was severely restricted until recently. This made active public and media involvement difficult to accomplish and generally hampered efforts to expose corruption. […] but the recent opening up of space for public and media involvement has led to success in exposing and pursuing corruption cases. […]

- In Indonesia and the Philippines, the justice system has not been effective in successfully prosecuting cases of alleged corruption involving high-ranking political and government officials. This demonstrates weak rule of law […] which has resulted in a palpably poor track record of convictions in alleged corruption cases. In this regard, anticorruption should not rely on investigation and enforcement but on corruption prevention by reducing the scope of and opportunities for corruption.

- The Indonesia and Philippines case studies discussed the significant role that political fundraising plays and the ways in which it leads to state capture. Political corruption naturally weakens and subverts the will to combat corruption in general. […] as long as high state capture persists, the anticorruption measures initiated by the executive branch are not likely to be effective. Anticorruption champions would be well advised instead to invest resources in civil society initiatives to generate pressures for increasing transparency and accountability of public institutions. In this regard, it would be critical to build broad-based coalitions to shift the balance of forces that are often disproportionately in favor of corrupt elements as a result of their own networks and resources.

- The cases showed instances when nongovernmental organizations and the media, individually or jointly, have played a role in exposing corruption and have mobilized public opinion for anticorruption action. These successes were made possible in part by constitutional and legal reforms that created enabling conditions for civil society initiatives. The reforms, in effect, served to provide added protection, if not ammunition, to anticorruption coalitions that are often outgunned, figuratively and sometimes literally. Further efforts in this area would be useful in improving effectiveness in challenging corruption in poor- to fair-governance countries.

- […] reforms anchored on accountability by legislative assemblies are prone to be weak in poor to fair governance environments.

- The case studies show that availability and accessibility of information is a prerequisite for effective civil society action. Experience in all the countries studied testifies that credible and

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detailed information on corruption has been effective in mobilizing public opinion and forcing accountability on high-level public officials.[…]

- The case studies discussed the role of different types of accountability institutions that are independent of the executive branch. In Korea and Thailand such institutions are showing some early success, whereas in Indonesia and the Philippines such institutions have been blunted by vested interests. In some cases the institutions themselves have become instruments of corruption. […]

- All four countries have laws on the book to increase the public’s right to know, the freedom of the press, and the disclosure of information. However, Korea and the Philippines seem to be farther along in that direction. The existence of enabling legislation has been a highly effective tool in promoting public access and thus in combating corruption.

- All four case studies addressed the proposition that cultural factors somehow make corruption acceptable. In all cases that proposition is being disproved by growing social movements against corrupt practices. To be sure, in poor to fair governance environments such as in Indonesia, the Philippines and Thailand, the challenge of making corrupt practices unacceptable remains. In that regard, programs such as social marketing campaigns and investigative journalism have helpedshift popular attitudes against corruption and those attitudes have been helpful in building broad-based anticorruption coalitions.

- In all four countries public awareness about the harmful consequences of corruption and the pervasiveness of corruption in the country is at high level, fueled by media and civil society initiatives. In such a situation investing further resources in increasing the supply of quality information about incidences of corruption and increasing the capacity of media and civil society initiatives may not necessarily be as important as putting resources in other more relevant anticorruption measures.

Tim Lindsey and Howard Dick. 2002. “Corruption in Asia. Rethinking the governance Paradigm”.

Paper review: The book shows that the anti-corruption agenda cannot be achieved without domestic political will and policy tailored to the local conditions. Only gradualism and careful planning can deliver the “clean” domestic legal system and bureaucracy needed to ensure new laws passed are actually implemented. And that may mean working with corrupt state systems to effect real change. The book establishes new theoretical frameworks for understanding corruption and governance and tests them through case studies of Indonesia and Vietnam, two very different Asian states but both experiencing the dramatic transitions typical to the region. It issues a challenge, arguing that more will be achieved sooner by better understanding of political, legal, commercial and social dynamics of East Asia – not as they are meant to be but as they are. What matters: Indonesia case study: - corruption is mostly due to the fact that salaries are quite low in the country and

so people are looking for extra rent. - “money politics”, term used to describe the purchase of political favours or influence. What part

of “money politics” can be considered as corruption? Paying money for a legislative vote or to buy a governmental office is one thing. Donating to a political campaign is another. Although it is a complicated issue, “ordinary money” politics, I think, should not count as corruption. By “ordinary” I mean the use of money to support particular candidates or

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particulars parties. Politics is about power, gaining it and using it. We can no more separate money from politics than we can separate stargazing from stars. Abnormal money politics would, however, include using money to buy votes or offices, under-the-table transactions to procure governmental decisions, and the like.[…] In Indonesia, [...] people vote for a parties rather than individuals then anyone wanting a seat can simply pay the party to designate him or her as the elected official […] the nature of ‘money politics in Indonesia is closely tied to its electoral system- and there is a lot of ‘money politics’ going on.

- There is a deep need for domestic coalitions for reform, because Indonesian elites are using unreformed “black” state to delay, deflect or negate reforms of any kinds.

- Traditional agencies have failed and are reluctant to reform, then the Commission is seen by many as the last hope for a law enforcement agency that will really fight corruption. The Commission must not, however, be seen as the only means to this end. Existing law enforcement agencies must undergo reform at the same time and the Courts, in particular, should be a major focus of such efforts.

Vietnam case study: - Even though the country has been undertaking, at an incredibly fast rate, a wide

process of liberalization, Vietnam still has many barriers of entry for foreign companies (inadequacies of the legal framework, pre-eminent position of SOEs in the economy, corruption and a long history of hostility to foreign interests). Unfortunately, with greeter freedom came even greater corruption.

- Personalism is considered as a vital means of bridging party and state to induce uniform policy implementation and ensure party paramountcy. […] Corruption is dangerous in Vietnam where it compromises party-state prestige and unity, promotes decentralization of public decision-making.

J.Edgardo Campos. 2001. “Corruption: The boom and bust of East Asia” Paper review: Taking a different perspective, this book asks and attempt to answer how these

countries were able to attract enormous amounts of investments and enjoy rapid growth over a thirty-year period despite being perceived as hotbeds of corruption. As conventional wisdom would have it, high rates of investment are inconsistent with high levels of corruption. While this may be true in general, the chapters in this volume suggest that we need to look into the nature of corruption. Different types of corruption have varying effects on investment.

What matters:

- […] It is not only the level of corruption that affects investment but also the nature of corruption. Corruption regimes that are more predictable–in the sense that those seeking favors from government do obtain those favors–have less negative impact on investment than those that are less predictable. In many of East Asia’s miracle economies, corruption is said to be well organized and systematic so that the degree of predictability is relatively high. […] However, the chapter also points out that whatever the degree of predictability, more corruption necessarily means less investment. Hence to justify corruption on the basis of the East Asian paradox is misleading.

- Highly authoritarian regimes have governed each of the three countries discussed above. [(China, Korea, and Indonesia)] One is thus tempted to reduce that democratizing these regimes will improve governance and reduce corruption. Economic historians indicate that over the long haul this

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is likely to be the case. Yet if world history is any guide, the transition period is likely to be very long. And in the transition, things may not get better until much later.[…] The case study on Philippines shows that democratization tends to distribute power and political influence even more widely across different groups. This creates more so-called veto points in the decision-making process and potentially leads to gridlock. In the absence of firmly established democratic institutions, it leads to what Shleifer and Vishny (1993) call an “independent monopolist” regime of rent-seeking and corruption that significantly increases transactions costs […].

The Malaysian case study shows that rapid financial liberalization, […] altered the Malaysian economic landscape so drastically that institutions could not possibly adapt to the changes quickly enough. […] This created a deep and wide institutional gap that led to the crisis. Financial liberalization required changes in regulatory and legal institutions, and these changes directly challenged the institutional arrangements that underpinned the country’s economic governance system, i.e., arrangements that had rent-seekimg and corruption at the very core of the country’s “shared growth” phenomenon. Hence the required changes could not be expected to emerge quickly.

Michael H. Wiehen, member of TI, for World Commission on Dams. 1999.“Transparency and corruption prevention on Building Large Dams”

Large dams are probably no more prone to corruption than other large investment projects, but also no less so. Wherever large financial commitments are called for, and especially where there is a high degree of technical complexity and a large number of contracts and parties involved – all characteristics of large dam projects – then it happens frequently that firms will try to influence the decision making in their favor by bribing officials, or by colluding with their competitors, or both. […]The complexity of large dam projects means that on the host country side, several ministries and departments will be involved (power and energy, agriculture, roads, environment, to name just a few), and even if there are no active rivalries between the various offices, the management of such a project offers numerous opportunities for disconnect, inadequate cooperation and collaboration, confusion, and thus for a serious lack of transparency and undetected and often even undetectable manipulation and abuse. There is a similar complexity of the contracting structures (many different supply, construction and consultancy contracts, often with joint ventures involving several companies, a mix of domestic and foreign-based firms etc) as well as of the financing structures, especially when several outside financiers, including international financial institutions, are involved, each with its own procurement guidelines and preferences. […] Another reason why large dam projects so often are targets for corruption efforts is the fact that so many economic and social players may benefit, or suffer, from the way the project is carried out, or indeed from the decision whether it is carried out at all or not – such as the people living, or otherwise benefiting from activities going on, in the project area, the beneficiaries of irrigation water or electric power, and many others. A large dam project affects many financial and social interests, and one should not be surprised that normally there will be significant efforts to influence the decision making.[…]

Problems encountered by Major Investment P ojects […]: rIn stark contrast to these examples stands the Airport Core Programme (ACP) in Hong Kong, which includes a brand-new airport on reclaimed land, a railway link with the city, a new harbor tunnel and a new town. This massive investment program was completed over about eight years (1991-1999) on schedule and within its budget of about US$ 21 billion. The most remarkable

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achievement is that this investment program was carried out with practically no corruption – largely due to the existence of four factors: - the existence of a clear and strict Prevention of Bribery Ordinance and of a strong, central anti-

corruption institution (the Independent Commission against Bribery or ICAC), which has impressive legal powers and adequate (one is tempted to say, generous) staff resources to carry out its tasks and whose track record has led to HongKong’s reputation as a low corruption zone backed by vigorous enforcement;

- the existence of clear rules for: (1)the selection/procurement of consultant and construction services and of equipment supplies, (2) for the effective supervision and monitoring of the implementation of all contracts, (3) for the enforcement of accountability among the Government’s own staff and the consultants and contractors, and (4) for Dispute Resolution;

- the establishment, for ACP purposes, of special institutions such as the New Airport Projects Coordinating Office (NAPCO) and the Engineering and Associated Consultant Selection Board (EACSB); the NAPCO had a flying dispute resolution team, which stepped in whenever a problem occurred; and

- a favorable working environment, including appropriate salary levels among government servants, a high degree of professionalism and pride among the officials, a relatively small society in which businessmen caught bribing or otherwise trying to manipulate the processes find it difficult to obtain other business, making any effort at corruption a high risk activity.

Some of these factors, especially the first three, can easily be recreated by any government desirous to eliminate corruption in the country. Others may take longer.

Vito Tanzi and Hamid Davoodi. 1998. “Roads to Nowhere: How corruption in Public Investment Hurts Growth” For the IMF.

Paper review: Corruption has a negative effect on growth: “1. Corruption can reduce growth by increasing public investment while reducing its productivity. 2. Corruption can reduce growth by increasing public investment that is not adequately supported by nonwage expenditure on operation and maintenance. Evidence also shows that higher corruption is associated with higher total expenditure on wages and salaries. Wages and salaries are a large component of government consumption, and higher government consumption has been shown to be unambiguously associated with lower growth. 3. Corruption can reduce growth by reducing the quality of the existing infrastructure. A deteriorating infrastructure increases the cost of doing business for both government and the private sector (congestion, power outages, accidents) and thus leads to lower output and growth. 4. Corruption can reduce growth by decreasing the government revenue needed to finance productive spending. […]”

Then the authors formulate four hypotheses, about the origins of corruption, and say that none of them can be rejected: “Hypothesis 1. Other things being equal, high corruption is associated with high public investment. Hypothesis 2. Other things being equal, high corruption is associated with low government revenue. (In the sense that it contributes to tax evasion, improper tax exemption or weak tax administration).

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Hypothesis 3. Other things being equal, high corruption is associated with low operation and maintenance expenditures. (Because new investments are more costly and so bring bigger commissions if in terms of percentage). Hypothesis 4. Other things being equal, high corruption is associated with poor quality of infrastructure.”

Narayan Manandhar. 2004. “Democracy and corruption”.

Paper review: “[…]. There are both possible positive and negative effects of democracy on corruption and vice versa. On the upside, democracy is said to curb corruption by ensuring the accountability of politicians and civil servants through checks and balances, provided by institutions, elections, civil society and the media. On the downside, democracy is said to increase corruption through the need to fund political parties, find supporters and respond to interest groups. Regular elections can also lead to a ‘get it while you can’ mentality among those who see public office as a means of personal enrichment. Similarly, corruption is said to harm democracy by weakening institutions, diverting resources and decreasing legitimacy. However, corruption is also said to foster democracy when it allows access to power those who may not ordinarily gain access, such as minority groups. Of these four hypothesized relationships, the last one, i.e., corruption helping the minority to grab power is difficult to churn.”

“The question that needs to be answered is does democracy breed corruption? […] If corruption were the product of a democratic set-up, as Senior Advocate Ganesh Raj Sharma posits, “There would not have been corruption in dictatorial regimes.” In fact, we have seen that more serious corruption takes place under authoritarian regimes. This is the reason why corruption is rampant in the police, in the army and in the court. This is because they have a near closed system.”

Transparency International, Emil Bolongaita. 2003.“Global Corruption Report 2003, Southeast Asia Chapter”.

Paper review: Report on corruption in 11 different countries of Southeast Asia: Brunei, Cambodia, East Timor, Indonesia, Laos, Malaysia, Myanmar, the Philippines, Singapore, Thailand and Vietnam. What matters: The degree of corruption determines the quality of governance. But if it is recognized that corruption has negative effects on investment, the fight against it can as well have. For example “Singapore’s strong state has kept the level of corruption low but has limited political freedom and access to information.” On the other hand “Indonesia has seen political reforms and a burgeoning of civil society, but the weakness of the state has limited the effectiveness of anti-corruption measures. Meanwhile, poor governance and corruption are systemic features of communist-ruled Vietnam and Laos, the transition economy of Cambodia and military-ruled Myanmar.” Then the paper highlights the fact that usually “the ability of governments to push through corporate governance reforms is greatest where political opposition is weak, such as in Malaysia and Singapore.” And that the fight against corruption is linked to the economic growth

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that Southeast Asia enjoyed prior to the 1997 financial crisis. “Years of successive growth produced an informed middle class that became natural members of the civil society organizations now pushing for greater transparency and accountability.” Then the paper reviews the different efforts made to combat corruption on a national and international basis (help of the Asian development Bank, the Organization for Economic Co-operation and Development (OECD), World bank, Financial Action Task Force (FATF)…) Finally the paper reviews the roles that the private sector and the civil society play. For example, for the private sector the paper gives an example for each country including the followings, “Singapore’s private sector behaves by the book because the incentives and disincentives for doing so are clear and credibly applied. In Malaysia, by contrast, many of the enterprises that have prospered are nominally privately owned but, in many ways, remain ‘political businesses’ that owe their growth to the preferential treatment they receive from the ruling party, if not outright ownership by political officials.” Concerning the civil society, the paper states that “there are considerable variations in the strength of civil society across the region (Southeast Asia)” and gives examples for each country.

Transparency International, Mark Findlay. 2003. “Global Corruption Report 2003, The Pacific Chapter”.

Paper review: Report on corruption in Australia, Fiji, New Zealand, Papua New Guinea, Samoa, Solomon Islands, Vanuatu and other Pacific Island countries. What matters: The author explains how the Pacific Island Countries (PICs) operate within a culture of dependence as a consequence of post-colonial international aid programmes or the injection of foreign business capital. Since monetary stability is thus limked to external sources, the monetarisation of traditional relationship is exacerbated; this trend, in return , creates opportunities for corruption. Over the past year, national and multilateral donors have used aid as a tool to influence governance in the Pacific, not always with the most constructive results. […]Despite a general decline in aid commitments, PICs receive relatively high levels of foreign aid.21 Donors have sought good governance assurances in their programmes, largely in response to the corruption opportunities inherent in the aid system. Counter to the desired effect, some of these programmes – such as cash cropping – have tended to destabilise subsistence cultures and create further opportunities for corrupt commercial transactions. The paper then review the case of Australia and how its police is corrupted; the Nauru money laundering; the PNG media war on corruption; the ADB and OECD initiatives to fight against corruption in the region-with the forum held in Tokyo; or the nature of the electoral system in the Salomon Islands and Vanuatu, which is such that a parliamentarian can’t be re-elected, and then the tendency is to get rich quick once at the office. This electoral system therefore provides a recurring stimulus for the corruption of public officials.

Corruption Perception Index, Transparency International. 2003.

Paper review: The survey shows that nine out of ten developing countries urgently need practical support to fight corruption. But it also shows that corruption affects

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rich countries as well. Peter Eigen, Chairman of TI, has stated that efforts should be taken in both developed and developing countries to reduce corruption, but as well by international institutions such as IMF, World Bank … "Donor countries and international financial institutions should take a firmer line, stopping financial support to corrupt governments and blacklisting international companies caught paying bribes abroad." Bangladesh is the country which has the highest rate of corruption. After that in SEA are Indonesia, Vietnam, the Philippines, India, Thailand, Sri Lanka, China, South Korea, Malaysia, Taiwan, Japan, Hong Kong, and finally Singapore ranking number five, after Finland, Iceland, Demark and New Zealand.

East Asia Barometer 2001-02

CORRUPTION LESS UNDER NEW REGIME: EAST ASIAN COUNTRIES

Q. We would like you now to compare the present system of government with the one our country had under [most recent authoritarian rule]. In terms of whether corruption in politics and government is under control, would you say things are:

A. Much better now; Somewhat better now; Much the same; Somewhat worse now; Much worse now. Much worse

now Somewhat worse now

Much the same

Somewhat better now

Much better now

Don't know

Thailand 1 5 21 52 18 3Hong Kong 3 20 42 21 2 13Korea 7 27 43 22 1 -Taiwan 8 12 24 35 9 12Mongolia 11 23 34 27 5 -Philippines 11 17 42 22 7 -EAST ASIA mean

13 19 29 26 6 7

Japan 19 23 22 22 4 10P.R.China* 42 25 4 9 1 19* In P.R. China the question introduction was: "We would like you to compare the system of government we have today in China with the one we had before ‘reform and opening’ in 1978". # In Japan, most recent authoritarian rule refers to pre-1945 regime

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