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Types of Corruption in Emerging Markets

Corruption exists in every economy, whether a frontier market, emerging market, or developed market. Corruption, whether legal or not, corrodes respect for the people in power and hurts people who aren’t willing to play along. The common types of corruption include:

  • A blacklist is a group of companies excluded from trade. A company may be added to a blacklist as punishment for refusing to pay a bribe or for using corrupt practices to get ahead. The World Bank maintains a blacklist of firms that aren’t eligible to participate in projects it funds because of bad practices.

  • Black market is a catchall term for illegal trade. Every country has a little bit of black-market activity, and it’s a big concern for investors because

    • Counterfeit and cut-rate intellectual property products — movies, music, or brand-name clothes, for example — can cheapen brand value and erode profits.

    • Legitimate competitors may have a tough time staying profitable and aboveboard.

    • Poor customer service by black-market vendors may make consumers reluctant to spend money with any company.

    A high level of black-market activity may show entrepreneurial spirit that can be harnessed for good. Some black-market business owners are thrilled to go legit when a more stable or business-friendly environment emerges, and they often drive economic growth when they’re free to go aboveground. This is exactly what happened in Russia, China, and Eastern Europe.

  • Bribes and facilitation fees are exchanges of money or gifts to grease the wheels of commerce. Facilitation payments may be packs of cigarettes, small amouts of cash, or tchotchkes made willingly because they don’t cost a lot extra, and they help get the job done. A bribe is a large payment to someone with significant authority. Rather than $20 or a carton of cigarettes to a customs agent, the fee may be $20,000 to the chief of the customs agency.

    If you think you’re being asked for a bribe but aren’t sure, say that you need a receipt for your taxes or for your boss back home. If you’re refused a receipt, you’re being asked for a bribe.

  • Campaign and charitable contributions are often legal payments used in corrupt fashion. In the Unites States, for example, a business that wants a law changed gains access to a key lawmaker by making a large campaign contribution or giving a sizable amount to the senator’s pet charity.

  • Collusion is the practice of vendors getting together to divide bids. Collusion can help businesses in emerging markets get new customers, but it can also cause a business to be shut out. If businesses don’t compete on their merits, the market distortion can hurt everyone.

  • Overpriced goods can be a form of indirect kickbacks. A company agrees to buy supplies at prices higher than market value. Sometimes, a business pays higher-than-normal prices when dealing with a related company, such as a subsidiary or a company with shared board members. This practice may create advantages in managing exchange rates and taxes, or it may just be a way of spreading around wealth that would otherwise go to the shareholders.

    Camouflaging the bribe as a legitimate purchase launders the bribe into a tax-deductible, expense account–reimbursable form, but it’s still corruption.

  • Phantom jobs are held by employees who keep their job regardless of whether they show up or prove to be incompetent. Often an international company winning a contract may be required to hire a minimum number of local workers. This legitimate obligation provides the company with workers with local experience and the local economy with jobs. But when government officials request that the jobs be filled by people who receive a paycheck but don’t actually do any work, it’s expensive to the company and demoralizing to employees who do come to work and do a good job.

Industries that have the most corruption problems are construction, real estate, and oil and gas. All these industries tend to have contracts big in both scale and dollars. If you invest in these industries, you may run across anti-bribery restrictions more than in other sectors.

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