Corruption & DBS: Rent-seeking in fractionalized societies

Budget support increases corruption in fractionalized societies

Budget support can have direct consequences for corruption in a partner country. Several mechanisms through which budget support can affect corruption have been suggested. This section explores two mechanisms by which budget support can increase corruption, and one through which it can decrease corruption:

• Budget support increases rent-seeking in fractionalized societies
• Budget support shifts the political balance
• Increased public sector wages do not automatically reduce corruption

Budget support increases rent-seeking in fractionalized societies

In societies characterized by competing social groups, foreign aid increases the level of corruption. This is the conclusion of a cross-country study conducted by a World Bank economist, where ethnic fractionalization is used as a measure of social group competition. Though the result might apply to aid in general, the reasoning used to explain the result suggests that it is highly relevant for programme support in general, and budget support in particular.

The basic idea is that the social groups compete for a common resource, and the larger the resource is, the greater is the incentive for each group to deviate from a collective agreement on its use. An increase in the resource will therefore lead to increased rent-seeking activity, as the groups all try to appropriate a share of the common resource. The public budget can be seen as one type of common resource to be fought over, and as budget support directly increases the size of the public budget, it can promote rent-seeking activity. If aid is less than perfectly fungible (link to definition), a $1 increase in project support will lead to less than a $1 increase in public funds to be fought over, and project support will be less vulnerable to these types of mechanisms.

Countries characterized by ethnic (and possibly other) divisions, are therefore not good candidates for budget support. Accordingly, fiduciary risk assessments related to budget support, should include measures of fractionalization.

Budget support shifts the political balance

General budget support favours the central government over other institutions. In societies where the central government is subject to the effective scrutiny of parliament, the media, and civil society, this might not pose too much of a problem. However, one risk in the current reallocation of aid towards budget support, is that institutions other than the central government are marginalized. For instance, if less aid is channelled through NGOs, these may become less powerful in respect to the central government, and therefore be less able to hold the government accountable for its actions. And if the forces that hold the government accountable are weakened, a corrupt government can appropriate more of the public funds without facing serious consequences.

A reallocation of aid towards budget support, can thus shift the political balance in a way that facilitates political corruption. In assessing the appropriateness of budget support, donors should therefore look beyond the technical aspects of the PFM system, and also include analyses of the balance of power in partner countries, and how this is affected by different aid modalities.

Increased public sector wages do not automatically reduce corruption

It is sometimes argued that through increased public sector wages, budget support decreases corruption in the public bureaucracy. This requires two things. Firstly, that budget support is actually used to increase real wages in the public sector. Secondly, that the wage increases are effective in combating corruption. Domestic politics would determine whether the first conditions is met. And if corruption is sufficiently widespread, general wage increases would be very costly, and partial wage increases politically problematic.

Even if wages were to increase as a result of budget support, this does not immediately entail that corruption is reduced. Studies show that the wage increases needed to change behaviour in developing countries' public bureaucracies are huge. In addition, wage increases would in many cases have to be supplemented by other changes, in organization, control mechanisms and so on, to have an impact on corruption. In some cases wage increases may actually spur corruption, where the more attractive jobs are privately auctioned to the highest bidder. For more on wages and corruption, see Autonomy, Incentives and Patronage - A Study of Corruption in the Tanzania and Uganda Revenue Authorities (pdf).

One should therefore be careful in assuming that promises to use budget support on public sector remuneration are credible, and even if credible, that increased wages automatically reduce corruption.