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Wednesday
Jan102018

Robert Clark: Not all corruption indexes are created equal

Any company doing business abroad is going to face corruption risk. Businesses have a responsibility to know where those risks are and to decide how to confront them.

One response is simply not to do business in high-risk countries. This risk-averse strategy has two drawbacks. For the company, it can mean forgoing worthwhile business opportunities. More globally, it can deprive struggling economies of much-needed foreign investment—or, worse, leave the market open to bad actors with no pretense of ethics.

A more assertive approach is to examine the specific nature of the bribery risk in a given country and take cost-effective measures to mitigate those dangers. Doing that, however, requires more than a single gauge of the perceived level of corruption. You need to know what causes the risk in order to determine both how those causes relate to your particular business model and what kind of safeguards you should deploy.

It was recently observed in the FCPA Blog that a number of companies are citing Transparency International’s Corruption Perceptions Index in their SEC filings, using the index’s ratings to give notice of the perceived or potential risk in the markets in which they operate and invest. While noting that the CPI has been subject to criticism, the post concluded that “until there's something better . . . it’s a useful tool.”

First published in 1995, the CPI has indeed largely succeeded in its aim of raising awareness of global corruption. It has commanded the attention not only of the public at large, but also of national governments concerned with their countries’ reputation and of a business community under increasing pressure to demonstrate due care in responding to corruption risk.

But certain limitations are also evident. For one thing, the express aim of the CPI is to assess per­ceived corrup­tion generally, rather than the particular bribery-related risks faced by busi­nesses. Further, in pro­viding a single score for each country, the CPI gives little indication of what can be done about the corruption there—how governments can improve the ethical climate, or how busi­nesses can mitigate risk. It signals that something needs to be done and stokes the motiva­ting fire of public opinion. But for companies making decisions about where and how to invest, the CPI yields general awareness rather than specific solutions.

TRACE has developed the Bribery Risk Matrix to supply more detailed information about country-specific business bribery risk. It breaks the risk down with separate scores for the various contributory elements -- such as bureaucratic leverage, ineffective law enforcement, lack of govern­mental transpar­ency, and limited public oversight capacity -- while maintaining the summary value of a top-level score. As a way to assess the nature and degree of risk in world markets, we believe it to be a robust and nuanced alternative to the CPI. (You can read more about the TRACE Bribery Risk Matrix here.)

One might ask, though, whether it really matters: given the inherent uncertainties in measur­ing bribery risk and perceived corrup­tion, are the results all that different? An initial compari­son of the two score-sets might appear to support that conclusion:

 Each point in the above chart represents a different country appearing in both the CPI and the Bribery Risk Matrix, while the blue line shows a best-fit curve showing their correlation (using local polynomial regression). (The CPI scores have been inverted so that low numbers are “good” and high numbers are “bad” for both indexes.) Although the comparison shows some outliers, the two seem by and large to be closely matched.

Looked at another way, however, we find potentially significant divergences. The following charts show the Matrix scores and the (inverted) CPI scores plotted against each country’s per capita GDP:

 

The overall trend is clear: wealthy countries (those closer to the right on each chart) tend to receive better ratings than poor countries. But there is a difference in the two curves as they move leftward, with the CPI scores visibly trending higher than the corresponding Matrix scores. The difference may not be huge, but it underscores a criticism noted in the earlier-mentioned FCPA Blog post: that the CPI “unfairly creates an expectation of corruption in certain countries.”

If this really does reflect a systemic tendency in the CPI to overstate the corruption risk for poor countries, it could affect not only international development agendas, but also the strategic decisions of individual businesses. In the aggregate, by using a tool designed to measure overall perception of corruption rather than the risk of business bribery, companies may lose out on opportunities in developing markets due to an inflated perception of risk.

This is, of course, a rough and preliminary analysis. But it does highlight one major point: there are other ways to gauge business-related corruption risk than relying solely on the CPI.

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Robert Clark, pictured above, is the Manager of Legal Research at TRACE International, where he oversees a team of lawyers responsible for the production of analytical content. He is the co-editor of What You Should Know About Anti-Bribery Compliance.

In an effort to further refine and improve its assessment of transnational bribery risk, in 2018 TRACE will be providing grants for independent academic research into the Bribery Risk Matrix methodology.