SOE rot: a worldwide phenomenon
New evidence is that the more corrupt a country is, the more corrupt its SOEs are likely to be. And when management fails to act against corruption it tends to become normalised
Corruption and state-owned enterprises (SOEs) are virtually synonymous worldwide. But if governance and oversight can be tightened up, the performance gains can be significant.
In fact, SOEs can perform as well as private firms when corruption is low.
These are the key findings of a new International Monetary Fund (IMF) working paper "Governance and State-Owned Enterprises: How Costly is Corruption?"
The findings are pertinent to SA as the country grapples to repair its ravaged SOE portfolio, which has been at the heart of a systematised web of corruption for much of the past decade.
The government has embarked on a clean-up campaign. However, the danger that SOEs will fail to implement reforms or be slow to do so remains one of the chief risks to SA’s public finances and the economy.
The government has guaranteed R683bn of SOE debt. So far, more than half of these guarantees have been used, leaving the government exposed by a whopping 7% of GDP.
But SA is not alone in dealing with this scourge. In a 2018 survey by the Organisation for Economic Co-operation & Development (OECD), 42% of SOE respondents said corrupt acts or other irregular practices had occurred in their company during the previous three years.
And according to the OECD’s 2014 Foreign Bribery Report 81% of the observed instances of foreign firms that offered bribes to governments involved SOE officials.
Part of the problem seems to be that when governance is weak SOEs are more vulnerable to corruption than private firms because of the large sums of money that flow through them (particularly in the extractive sector), the proximity to government officials and politicians, and weaker oversight.
Conflicts of interest also open up SOEs to the risk of corruption. A typical example is when board members are hand-picked by public officials for political motives, either financial or otherwise. In the $2.95bn Petrobras scandal, for instance, Brazil’s state-owned oil company paid out millions in kickbacks to politicians, mainly members of the ruling Workers’ Party.
SA’s experience with state capture is another textbook case of how the appointment of politically connected individuals to SOE boards and management teams can be instrumental in eroding governance and financial controls to facilitate the wholesale looting of public funds.
In countries with very strong controls over corruption, performance in SOEs tends to be even higher than that of private firmsIMF study
Last week President Cyril Ramaphosa said the immediate challenge was to end state capture and tackle the corruption that has crippled SOEs, but that no "strategic" SOEs would be sold or allowed to fail.
Though many of these organisations are deeply in debt, they remain "valuable state assets with immense capacity" and the government is prepared to take drastic steps if necessary to restore them to health.
Ramaphosa pledged to ensure SOE boards and management are not subject to political interference, that the leadership "is fit for purpose", that good governance is enhanced, government oversight is more clearly defined and financial systems are strengthened "so that no corruption is possible".
All over the world, corrupt SOEs have certain traits in common: weak internal controls and processes, inadequate accounting and auditing methods and poor compliance and disclosure practices. They also invariably lack a culture of integrity and accountability. And when management fails to act against corruption it serves to normalise such practices, notes the report. "In short, the tone at the top matters."
For all these reasons, most empirical studies tend to find private firms perform better than SOEs. But strikingly, the IMF study finds SOEs perform as well as private firms — in the mining, electricity & gas, water and transport sectors — when corruption is low. In fact, in countries with strong controls over corruption, performance in SOEs tends to be even higher than that in private firms.
This finding will be welcomed by proponents of the developmental state model, which is the SA government’s chosen approach to growing the economy.
What it means
The profitability and productivity of SOEs are significantly lower in countries with high levels of corruption
However, the IMF paper provides ample evidence that corruption and SOEs go hand in hand all over the world. Between 2002 and 2017, structural benchmarks for reforming SOEs were contained in no fewer than 206 out of 240 IMF programmes (86%).
Though SOE programme conditionality is as likely in advanced economies as in developing economies once an IMF programme is in place, the more corrupt a country is the more corrupt its SOEs will generally be.
The good news is the IMF report finds evidence that reforming SOE governance and improving oversight by governments can improve their performance dramatically.
When implemented through IMF programmes, reforms to SOEs improved their operating profit margins by 1.4 percentage points on average.
The reforms also led to a roughly 5% reduction in costs and increased productivity growth by about $30,000 per employee.
The lesson for SA is that it’s possible to reform SOEs by introducing strict governance reforms and appointing the right people at the top. But as long as the country’s culture tolerates a high degree of corruption, state companies are likely to continue to reflect the same sad reality.