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Privatisation and corruption

9 July 2019

The article at a glance

Privatisation of state-owned enterprises in IMF loan conditions can increase corruption through a ‘vicious circle’ of weaker institutions and increased incentives, says …

Category: Insight

Privatisation of state-owned enterprises in IMF loan conditions can increase corruption through a ‘vicious circle’ of weaker institutions and increased incentives, says a new study co-authored at Cambridge Judge Business School.

Dishonest businessman secretly giving money to his someone in the dark.

Privatisation of state-owned enterprises as a condition for International Monetary Fund loans can increase corruption in the developing world by limiting the capacity of state institutions to curb corrupt behaviour, says a new study co-authored at University of Cambridge Judge Business School.

While IMF pressure can force developing countries to implement anti-corruption policies, privatisation as part of IMF loan conditionality reduces corruption control by creating opportunities for corruption alongside weakening state institutions, says the study just published in the journal Regulation & Governance.

“While market-liberalising reforms may reduce corruption in the short term, they tend to be detrimental in the long term,” says the study, which is based on 4,500 loan-related IMF documents in 141 borrowing countries between 1982 and 2014. “Overall, these results challenge the IMF’s ‘house view’ that structural conditions are uniformly beneficial for corruption abatement.”

“These findings offer policy lessons regarding the design of conditionality, which should avoid large-scale privatisation, especially under conditions of weak accountability,” says the study, which is based in part on research at the Centre for Business Research at Cambridge Judge Business School.

“We interpret these results as evidence that privatisation creates highly concentrated rents that increase corruption risks, while at the same time creating incentives among rent-seeking elites to weaken state capacity. This leads to a vicious circle of weakening institutions and increasing corruption, which is hard to break because corruption is a collective action dilemma,” the study says.

The study’s statistical model is based on three elements: corruption control, the IMF programme involved, and the number of privatisation conditions. In measuring corruption, the study uses such indicators as the International Country Risk Guide corruption control index and the Varieties of Democracy corruption index, backed up by other measures such as Transparency International’s Corruption Perceptions Index.

The study says that opportunities for corruption in privatisation exist throughout the process, “from inception to tender and sale of public assets” – often due to information “asymmetries” caused by outsiders having less information than insiders such as managers and public officials.

The research verifies that the effects found are driven by privatisation conditions, rather than IMF conditionality more generally, by applying the same methodology to other policy areas such as revenues, public sector employment, and trade and price liberalisation.

The study – entitled “Bad governance: how privatization increases corruption in the developing world” – is co-authored by Dr Bernhard Reinsberg of the Centre for Business Research at Cambridge Judge Business School and Glasgow University; Dr Thomas Stubbs of the Centre for Business Research at Cambridge Judge and Royal Holloway, University of London; Alexander Kentikelenis of Bocconi University in Milan; and Lawrence King of the University of Massachusetts (Amherst).

Dr Bernhard Reinsberg, lead author of the research, said: “The IMF is doing important work to build more resilient institutions in developing countries, such as tax administrations, independent regulators, and audit offices. However, the irony is that the IMF undermines all this good work through its lending programs. Policy conditions in these programmes are often designed without considering their unintended consequences on corruption.”

Co-author Dr Thomas Stubbs added: “The IMF needs to carefully consider how their reforms interact with the existing balance of power among local actors and the domestic institutional arrangements that underlie the political order. Policies are not applied in a vacuum. Our research shows that an appreciation of domestic political economy enables us to understand how policies designed to ameliorate corruption can in fact have the opposite effect.”