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Opportunity loss from corruption

Two days ago, this broadsheet reported on Socioeconomic Planning Secretary Karl Chua’s estimate of the total economic cost of the coronavirus pandemic and lockdowns. The National Economic and Development Authority (NEDA) cited a total cost of P41.4 trillion representing foregone growth drivers such as consumption, private investment, and human capital investment for 2020 and the next 40 years at net present value.

Without the pandemic and economic lockdowns, the NEDA report shows what could have happened to the Philippine economy. Instead of gross domestic product (GDP) of P19.5 trillion in 2019 contracting to P17.9 trillion in 2020, it could have grown to P21.4 trillion. With economic scars, the 40-year opportunity cost combined would be equivalent to almost two years of output.

With foregone opportunities, NEDA believes that “it may take 10 years to catch up to pre-COVID-19 trajectory” in terms of financial investments.

Corruption is another source of missed opportunities. This is more sinister because it is committed by those in authority, whether elected or appointed, and most probably supported by those around them.

A pioneering study by Paolo Mauro (“The Effects of Corruption on Growth, Investment, and Government Expenditure”) of the IMF in 1997, nearly a quarter of a century ago, attempted to pin down the reality of public sector corruption.

Mauro argued the obvious, that we should worry about corruption. He traced the seminal research on corruption all the way to the 1960s when economists preferred to call it “rent seeking.” Mauro concluded that quantifying the extent of corruption and putting value to it was rather difficult. Corruption is done in secret unless exposed by those with authority to audit relevant transactions.

Joint annual meetings of the IMF and the World Bank in the 1990s invariably harped on governance and corruption, calling it a “cancer” that must be excised. The only available metrics of corruption were those supplied by private rating agencies based on the responses of locally consultants. No one could fault the results for being subjective because there was hardly any other option.

The context of corruption is very interesting.

Mauro explained, in the Fund’s simplified version, that “since much public corruption can be traced to government intervention in the economy, policies aimed at liberalization, stabilization, deregulation and privatization can sharply reduce the opportunities for rent-seeking behavior and corruption.” This fundamental cause resonates even in the Philippines today when reported cases of corruption involved official interventions that would thwart the tenets of competition and liberal markets.

Liberalized importation of rice, for instance, made a handful of middlemen unhappy but all rice-eating Filipinos rejoiced when rice prices dropped and inflation weakened. Farmers have started to benefit from the support coming from the rice tariff collection.

Sin taxes had an impossible time in Congress because big money was involved in sin products like liquor and cigarettes. Once they were in place, taxes from this source helped promote fiscal sustainability and the Philippine economy turned the corner before the pandemic.

Corruption is indeed rent seeking because those who are bribed are policy makers who can make policies or change the regulations to suit the interests of the corrupting party. Mauro wrote that “throughout the world bureaucrats and people in authority are indefatigably maneuvering to position themselves in a tiny monopoly where they can be bribed for issuing a license, approving an expenditure or allowing a shipment across a border.”

Another good material on corruption focusing on the Philippines is the article by Emmanuel S. Dios and Ricardo D. Ferrer, “Corruption in the Philippines: Framework and Context” published in January 2000. The authors used Susan Rose-Ackerman’s (“Corruption and Development,” 1998) table on types of corrupt states to show the interesting dynamics of corruption. Normally there are few bribers to a few recipients. Since there could be whistleblowers, one could spread the largesse to more recipients and produce a Mafia-dominated state.

Transaction-wise, corruption targets bids, purchases, and auctions as well as sale of policies, laws, and regulations, among others. As example, corruption in public procurement results in bid-rigging, overpricing, or even over-purchasing. Sale of public policy involves changes in ownership rules.

Like the pandemic, corruption has economic consequences. The literature contains instances when corruption could have some constructive use like incentivizing bureaucrats to perform better than without bribe. But its negative impact trumps its efficiency value.

Recipients of public spending could lose what has been earmarked for them. Due to corruption, both investment and economic growth could drop. Like a tax, corruption discourages economic activity in a sense similar to what community quarantines do to business and mobility. Unlike a tax, corruption is unpredictable and unreliable. One of the parties may not deliver on his commitment.

De Dios and Ferrer replicated Mauro’s approach and used his equations for the Philippines but with a great difference: the level of corruption is modified to mimic Singapore. This means if we are able to reduce the extent of this insidious practice, we could expect a 6.6 percentage point increase in the ratio of investment to GDP and a 1.65% increase in annual per capita GDP growth at that point in the past.

In addition, revenues could drop and spending could get bloated resulting in unsustainable fiscal deficits. Under-provisioning of public goods and over-provisioning of something unwanted, or unnecessary, happen.

How does the Philippines compare with other countries in terms of Transparency International’s Corruption Perception Index?

Based on the table compiled by TAKE-PROFIT.ORG, in the last five presidencies, only President Fidel V. Ramos and President Benigno Aquino III managed to increase their scores from the year they started their administration to the end of their terms.

For the year 2020, of the 180 countries assessed, the Philippines scored 34 points that brought it to 115th place. In the ASEAN, those which rated higher include Singapore, Brunei, Malaysia, Indonesia, Thailand, and Vietnam. The Philippines was specially mentioned with these remarks: “with a score of 34, efforts to control corruption in the Philippines appear mostly stagnant since 2012. The government’s response to COVID-19 has been characterized by abusive enforcement, and major violations of human rights and media freedom.”

We recall that in August 2019, before the pandemic, Deputy Ombudsman Cyril Ramos reported his personal calculation that the Philippine government lost around P1.4 trillion in the previous two years, or P700 billion a year, because of corruption. This was about 20% of the annual budget of the Philippine government.

This were estimated as the equivalent of 1.4 million housing for the poor, medical assistance for around 7 million Filipinos, or a rice buffer stock for over a year.

From another angle, somebody estimated that a kilometer of road, 11-meters wide or two-lanes on each side, would cost around P100 million. This means we could have additional 7,000 kilometers of road — that is all the way from Ilocos Norte to Bicol, seven times. Many years ago, the Department of Education estimated an average of about P1 million per classroom in the public school, although Senator Frank Drilon challenged this amount. Without corruption, we would have at least 700,000 classrooms more.

Today, the anomaly in the Pharmally transactions with the Procurement Service-Department of Budget and Management could also involve corruption. Public documents from the Securities and Exchange Commission prove Pharmally is undercapitalized but it managed to win billions worth of contracts. Its deliveries were certified even without inspection. Its pricing was not exactly competitive. Rent seeking was clearly present. With a level playing field, the government would not have to pay more than necessary. Lost from these transactions that produced luxury cars, among others, were more kilometers of road, more classrooms, more medical assistance, or more rice buffer stock for our people. Obviously, following Rose-Ackerman scheme, the pandemic crisis presented an opportunity for corruption.

Diwa C. Guinigundo is the former Deputy Governor for the Monetary and Economics Sector, the Bangko Sentral ng Pilipinas (BSP). He served the BSP for 41 years. In 2001-2003, he was Alternate Executive Director at the International Monetary Fund in Washington, DC. He is the senior pastor of the Fullness of Christ International Ministries in Mandaluyong.

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