1. The Private Sector and Improved Governance: Challenging some Myths through Empirics Daniel Kaufmann, WBI The World Bank www.worldbank.org/wbi/governance Presentation for Plenary Session: ‘Creating a Competitive Private Sector’, October 9 th, 2001 10 th IACC, Prague, Czech Republic Note: Some of the empirical work presented here is preliminary, and subject to a margin of error. Caution in interpretation is needed, and no precise ranking of countries is warranted.

2. 2 Challenging some Myths 1.Firms naturally tend to be competitive… 2.Investment Climate: wholly government-determined 3.Government Policies: the obstacle to competition 4.Governments discriminate against smallest firms 5.Key Implication, part I: Adopt more laws to deregulate, to demonopolize, and to penalize bribery 6.Key Implication, part II: Help Smallest firms directly The above 6 contain elements of myths; to be challenged

3. 3 Challenging the idealized view of the private sector as the ‘Investment Climate-Taker’: Recognizing the Problem of State Capture – The Private sector elite as the Business Climate-Maker? Putin’s statement to Russia’s business leaders, during their meeting in July 2000: “I only want to draw your attention straightaway to the fact that you have yourselves formed this very state, to a large extent through political and quasi-political structures under your control, so perhaps what one should do least of all is blame the mirror.”

4. 4 Defining State Capture Firms that shape the rules of the game to their advantage through illicit, non-transparent provision of private gains to public officials, including: –private purchase of legislative votes –private purchase of executive decrees –private purchase of court decisions –illicit political party financing Measuring State Capture (BEEPS, WB-EBRD)

5. 5 Measuring State Capture (BEEPS, late 1999) Only selected countries in transition shown here, for illustration; for details and full data set, see Hellman, Jones and Kaufmann, www.worldbank.org/wbi/governance

6. 6 ‘Captor’ Firms Get Big Gains – But only in High Capture States

7. 7 Yet Capture comes at a high Socio-Economic Cost

8. 8 2% 4% 6% 8% 10% 12% % firms 'purchase' legislative Domestic Investor With FDI % of firms that 'Purchase' Legislation and Decrees in Transition Economies Transnational Corporate Responsibility Matters as Well: Note: For transition economies, average of 20 countries. Source: Hellman, Jones and Kaufmann, 2000 (www.worldbank.org/wbi/governance)

9. 9 Towards a Solution: More Political Competition (and Economic Reform) Pace of Econ Reform Political Reforms

10. 10 Towards a Solution: Collective Action by Firms

11. 11 [Peru]

12. 12 Excessive Influence on the State: Main Source of state capture and grand corruption? [Peru] %

13. 13 Corruption in the Banking Sector (Selected countries -- Source: EIU, early 2001) Systemic corruption Honest Banking

14. 14 Higher Bribery in Banking where lax Financial Regulations (prelim., GCS 2001) Bribery in Banking Quality of Financial Regulations 1.406.20 1.00 5.70 ARG AUS AUT BGD BEL BOL BRABGR CAN CHL CHN COLCRI CZE DNK DOM ECU EGY SLV EST FIN FRA DEU GRC GTM HND HKG HUN ISL IND IDN IRL ISR ITA JAM JPN JOR KOR LVA LTU LUX MYS MUS MEX NLD NZL NIC NGA NOR PAN PRY PER PHL POL PRT ROM RUS SGP SVK SVN ZAF ESP LKA SWE CHE TWN THA TTO TUR UKR GBR USA URY VEN VNM ZWE r =.79

15. 15 Small and Medium - Sized Firms Are More Affected By Tax/Regulatory Burden (Source: Worldwide Enterprise Survey WBES '99/'00)

16. 16 The Underground Economy in Transition 10% 20% 30% 40% 50% 199019911992199319941995 Poland Russia Ukraine % Unofficial GDP Source: Johnson, Kaufmann and Shleiffer, 1997 31

17. 17 Some Implications 1. Segmented Corporate Sector: i) Competitive; ii) Captor; iii) ‘Black-hole’ Banking; and, iv) Underground/Unofficial Economy 2.Actions to Address Capture: i) Information attack involving competitive private sector; ii) Business Associations; iii) political competition 3.The ‘forgotten middle’: midsized firms – overall investment/business climate needs to improve 4.Collective responsibility: FDI as well 5.The ‘missing link’: Incentives for Private sector involvement in anti-corruption/anti-capture 6.Reclaiming the Underground Economy: incentives