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Trade Barriers And Distortions As A Root Cause Of Bribery – A Focus On China

I do not normally cite Chinese criminal defendants; in fact, I never have.

Yet, individuals from all circumstances in life are capable of recognizing the big picture and when such individuals with actual experience with the root causes of bribery make a valid point, we should at least take notice.

As highlighted in this recent Wall Street Journal article, Liu Tienan (the former head of China’s National Energy Administration and Senior Director in the National Development Reform Commission) admitted to accepting bribes in connection with various projects.  As noted in the article, “in his three decades at NDRC, Mr. Liu became one of the most powerful party officials running an agency that is rooted in China’s Communist past and that still decides which companies can expand and how banks should allocate loans.”

As noted in the article, at a hearing Mr. Liu reportedly testified that reducing official power is key to curbing corruption and stated “the major point, which is based on my own experience, is to give the market a great deal of power to make decisions.”

As Tom Fox observed on his FCPA Compliance and Ethics Blog, “it is almost if Lui is channeling his inner FCPA Professor when he speaks against artificial barriers to market entry.”

Indeed, I have long maintained that trade barriers and distortions are often the root causes of bribery and a reduction in bribery will not be achieved without a reduction in trade barriers and distortions.

These barriers and distortions – whether complex customs procedures, import documentation and inspection requirements, local sponsor or other third-party requirements, arcane licensing and certification requirements, quality standards that require product testing and inspection visits, or other foreign government procurement practices – all serve as breeding grounds for bribery.

The formula is not complex.

  • Trade barriers and distortions create bureaucracy.
  • Bureaucracy creates points of contact with foreign officials.
  • Points of contact with foreign officials create discretion.
  • Discretion creates the opportunity for a foreign official to misuse their position by making bribe demands.

Several FCPA enforcement actions demonstrate this point (see my article “Revisiting a Foreign Corrupt Practices Act Compliance Defense” pgs. 619-625).  In addition, as highlighted in this prior post, there is a positive correlation between regulatory burdens when doing business in a foreign country and corruption in that foreign country.

In short, removal of trade barriers and distortions can help reduce bribe demands and the focus of the anti-corruption community should be less narrowly focused on pounding the pavement for more enforcement of FCPA-like laws (see prior posts here and here).  Among other things, enforcement of FCPA-like laws only addresses the supply of bribes, not the demand of bribes, or the root causes of many bribes.  More energy and attention should be spent on encouraging nations to eliminate trade barriers and distortions.

Back to Liu’s comments and how various trade barriers and distortions in China can serve as the root cause of bribery and corruption.

For instance, why is the Hollywood film industry under FCPA scrutiny for its practices in China?  It probably has something to do with the fact that “Hollywood studios have spent more than a decade working their way into China past government quotas, censors, and ever-changing regulations.”  (See here).

More comprehensively, consider a recent report by Covington & Burling detailing “market access restrictions and other restraints on foreign investment” in China.  As noted in the firm’s release:

“[Covington] developed an unparalleled database of publicly recorded laws, regulations, and other measures containing provisions that frame or limit foreign investment in China. The Covington team searched hundreds of thousands of measures issued by 80 central government agencies and five representative provincial-level governments, and in the process identified hundreds of provisions restraining foreign investment in China.

Beyond published measures, we reviewed key trade publications and conducted interviews with industry groups to identify and catalogue administrative practices that also may have a restraining effect on foreign investment. As foreign business leaders in China are well aware, many of the biggest obstacles to foreign participation in the Chinese economy are imposed unofficially by government officials exercising legal or extralegal discretion.

[…]

To facilitate our ability to identify restraining measures, we defined the following three categories of restraints:

Category 1: Restraints that favor domestic investors or investments over foreign investors or investments;

Category 2: Restraints that favor state-owned investors or investments over privately-owned (including foreign-owned) investors or investments; and

Category 3: Restraints that possibly favor domestic investors or investments over foreign investors or investments, depending on whether foreign-invested enterprises (FIEs) established in China would be regarded as “Chinese” entities and therefore deemed eligible to receive, on an equal basis, benefits made available to such entities.

[…]

[Covington’s] manual review process identified over 800 restraints, which could be divided into three broad groups:

Pre-establishment restraints that impede market access for foreign investment;

Post-establishment restraints that treat foreign-invested entities less favorably; and

Broad policy statements that potentially result in less favorable treatment for foreign investors and investments during both the pre-establishment and post-establishment stages.

We found that within these three groups, restraining measures in China could be further subdivided into (i) four types of pre-establishment restraints – discriminatory local partner/equity requirements, market entry restrictions, approval process restraints, and technology transfer-related measures –and (ii) three types of post-establishment restraints – differentiated treatment through targeted enforcement, government financial support, and government procurement. In addition, we determined that the large number of broad policy statements we identified also constitute an important group of restraints, even though they do not mandate specific discriminatory treatment in and of themselves, because they often lead central government agencies or local governments to promulgate discriminatory measures or to exercise their administrative discretion in ways that disadvantage foreign investors and investments.

Investment activities by foreign businesses are also subject to restraining administrative practices, which reflect the following three characteristics of China’s administrative system:

Industrial policies explicitly designed to support the development of domestic industries and champions;

Relatively opaque approval processes led by officials explicitly mandated to help China achieve its industrial policy goals; and

The absence of effective recourse if approval authorities have not complied with international commitments or China’s own regulations.”

For a complete copy of the Covington report see here.  (See also this prior post which highlights a similar publication from Covington on “China’s Approval Process for Inbound Foreign Direct Investment”).

In short, Liu is right.

Key to achieving a reduction in bribery and corruption is eliminating trade barriers and distortions.

This problem of course is not China specific.

As noted in this recent op-ed in the Wall Street Journal by India’s Prime Minister Narendra Modi, his new administration is committed to “eliminating unnecessary laws and regulations, making bureaucratic processes easier and shorter, and ensuring that our government is more transparent, responsive and accountable.”  (See also here as relevant to India).

Although trade barriers and distortions are often a root cause of bribery, I am not confident that there will be a broad consensus to eliminate such trade barriers and distortions.  After all, as highlighted in this recent post, trade barriers and distortions are used by all governments as “carrots” and “sticks” to accomplish selfish domestic goals whether political, economic or national security.

That is fine on one level, but so long as this dynamic persists, a reduction in bribery will not be fully achieved because trade barriers and distortions are often the root causes of bribery.

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