Economic Growth

Christine Lagarde: It's time to tackle weak governance and corruption

Christine Lagarde, Managing Director of the International Monetary Fund, and Bank of England Governor Mark Carney attend the World Economic Forum (WEF) annual meeting in Davos, Switzerland January 26, 2018. REUTERS/Denis Balibouse

Corruption is detrimental to a country's economic growth and especially affects the poorest in society. Image: REUTERS/Denis Balibouse

Christine Lagarde
President, European Central Bank
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The IMF Executive Board has just endorsed a new framework for stepping up engagement on governance and corruption in our member countries. Let me talk about why this is important and what it means for our work.

Costs of corruption

We all know that entrenched corruption is economically pernicious, undermining the ability of countries to deliver inclusive and sustainable economic growth.

The paper we have just issued presents empirical results showing that high corruption is associated with significantly lower growth, investment, FDI, and tax revenues. Sliding down from the 50th to 25th percentile in an index of corruption or governance is associated with a fall in the annual rate of growth of GDP per capita by half a percentage point or more, and a decline in the investment-to-GDP ratio by 1½–2 percentage points. Our results also show that corruption and poor governance are associated with higher inequality and lower inclusive growth.

It is not hard to understand these findings. We know that corruption weakens government’s ability to tax, and distorts spending away from valuable investments in areas like health, education, and renewable energy, and toward wasteful projects with short-term payoffs. We know that it acts as a tax on investment—or worse, because of the uncertainty about demands for future bribes. We also know that corruption causes young people to underinvest in skills and education—because getting ahead depends on who you know not what you know. We know that corruption hurts the poor, hinders economic opportunity and social mobility, undermines trust in institutions, and causes social cohesion to unravel. Corruption is a major obstacle to attaining the Sustainable Development Goals.

Stepped-up engagement

Given all of this, the IMF’s stepped-up engagement against corruption is justified and timely. Importantly, this work on corruption will be embedded in our general work that promotes good governance in key areas such as public financial management, financial sector oversight, and anti-money laundering.

This broader focus is necessary. Governance weaknesses are harmful in their own right, but they also open the door to widespread corruption. To be truly effective, anti-corruption strategies must go beyond merely throwing people in jail. They require broader regulatory and institutional reforms. At the end of the day, the most durable “cure” for corruption is strong, transparent, and accountable institutions. In the famous words of Louis Brandeis, “sunlight is said to be the best of disinfectants; electric light the most efficient policeman.”

An added benefit of this broader approach: because corruption tends to be strongly correlated with more general lapses in governance and is often hard to measure, we can use governance weaknesses to help corroborate corruption assessments.

I should point out that this is not a new topic for us. We have had a governance policy in place since 1997, and it is a good policy—our review found that its principles are the right ones. This policy calls upon us to address governance and corruption issues when they have a significant macroeconomic impact. It calls upon us to work with partner institutions, especially the World Bank, in areas of their expertise and not to interfere in politics or in individual enforcement cases.

Yet while these principles are sensible, our review found that implementation was uneven. We did not always hold members to the same standard for similar actions. Our analysis too often lacked clarity.

This is going to change. We have now adopted a framework for enhanced engagement on governance and corruption that aims for a more systematic, evenhanded, effective, and candid engagement with member countries.

As a first step, we are developing a clear and transparent methodology for assessing the nature and severity of governance weaknesses. We will be looking at a broad array of indicators—the quality of the budgetary institutions that handle taxing and spending; the soundness of financial sector oversight; the integrity of central banks; the transparency and impartiality of market regulation; the predictability of those aspects of the rule of law that are vital for economic health, especially contract enforcement; and the adequacy of frameworks to fight money laundering and terrorism financing. We will also assess the severity of corruption directly, of course.

The next step will be to assess the economic impact of these identified governance and corruption fault lines and provide country-specific policy recommendations in response. Importantly, we will consider this over a longer time horizon, given that poor governance and corruption harm the economy not just through short-term disruption, but also through slow institutional decay. For our lending programs, we will be looking at whether problems hinder the ability of countries to implement their economic reforms.

Supply side of corruption

There is one additional element. It is a basic truism that—to adapt a phrase from Milton Friedman—corruption is always and everywhere a two-handed phenomenon. The flip side of every bribe taken is a bribe given. And funds received through corruption are often funds concealed outside the country—often in the financial sectors of major capitals. It is quite possible for countries to have “clean hands” at home but “dirty hands” abroad.

To truly fight corruption, therefore, we need to address the facilitation of corrupt practices by private actors. To do this, we will be encouraging our member countries to volunteer to have their legal and institutional frameworks assessed by the Fund—to see whether they criminalize and prosecute foreign bribery and have mechanisms to stop the laundering and concealment of dirty money. I am gratified that nine countries—the entire G7 plus Austria and the Czech Republic—have already volunteered for this assessment. This is a major vote of confidence in the new framework.

Have you read?

Now that we have the full support of our members, we must turn to implementation. In our surveillance and in our lending programs, expect to see more assessment and discussion of governance and corruption. We will also be stepping up our capacity development in these areas, to help countries strengthen their regulatory frameworks and institutions.

Our goal here is to be candid, rigorous, transparent, and evenhanded. In turn, that gives us more credibility and allows us to do our job even better.

To hark back to Brandeis, I am confident that this stepped-up engagement will do for governance and corruption what investment in solar technology does for the environment—harness the immense power of sunlight to put the global economy on a healthier and more sustainable path. If it works as planned, there should be progressively fewer dark corners left for corruption to hide. I look forward to working closely with our member countries to make this a reality.

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