Corruption and The Economy of Favours

After having wandered around 40 or more countries in my career, it's hard not to notice the differences in the way people live and work.  While it's my work that has taken me on these journeys - I have never missed the opportunity to be a tourist.

My assignments are generally related to due diligence and fraud prevention.  For my new clients, I'm generally working on asset recovery after the fraud. 

This work has introduced me to many different methods of conducting business, and the inherent problems with trust required in all business relationships.  My observations on commercial culture has led me to some possibly interesting insights into the less structured and more organic way our relationships, as well as ethical and legal intuitions, evolve.

There are strong intergenerational cultures that intervene as silent partners in all commercial relationships.  I'm reminded of the ‘Recapitulation theory’ – the remnants of previous practices that are retained while adapting new skills in response to general evolution and revolution of life.  Following is a short summary of what I think I understand from what I have seen…

Economies of Favour

Family

We live our lives in the families we are raised in.  It is within this family that we find meaning and purpose.  The family is where we first experience interpersonal and commercial skills, support, and trust.

Tribe

Tribes are extended families.  Parents, grandparents, aunts, uncles, cousins, and in-laws are all part of the tribal structure.  As a member of the tribe, fidelity is expected and understood – as well as mutual support and direct opportunities with other members of their tribe.

Friends

Unlike the family and tribe, friends we associate with by choice.  The bonds between friends are built by shared experience, success, and failure.  Often times these informal ties are as strong or stronger than those with the family and tribe.

Broad Based Groups

Social alliances are built through religious assemblies, such as churches, temples, and mosques - or more secular organisations, such as service clubs, unions, and political parties.  Alliances can be built on foundations as informal as shared knowledge, such as employment within a common industry, or a similar educational background.

Economies of Merit

In stark contrast to ‘Economies of Favour’, ‘Economies of Merit’ value objectivity in commercial relationships – at least as an ideal.  Selection based upon credentials issued by impartial agents is the epitome of a merit based selection process.   Credentials include degrees granted in formal education; specific certification in fields such as nursing or auto repair; and licensing, in fields such as aviation and law.  Credentials alone vouch for the abilities of the person presenting them.

When contemplating the relative value of economic relationships, it is important to remember that we are human.  We think both intuitively and rationally.  Our intuition is based upon a collection of life experiences and some evolutionary programming that allows us - actually encourages us - to make quick decisions.  We make judgments about people based upon their address, car, dress, religion, ethnicity, weight, speech, and thousands of observable attributes that science has yet to even catalogue.  I would intuitively guess that we make 80 per cent or more of our decisions based upon these intuitive processes.  Rational decision-making forces us to stop, think, make calculations, conduct research, compare and evaluate information.  Humans are often too lazy to make rational decisions - especially when we have a good hunch what the final answer will be.

As risk-averse lazy decision makers, we have a tendency to choose the path of least resistance, hiring and working with people and companies whose observable traits and conduct feel familiar to us – family, tribe, friends, and others who engage our sentiment.

People raised in the West view the world through a warped lens, as their family and tribe have assured them that they were all born equal, and will have equal access to all commercial opportunities.  Our government, the media, and educational system reinforce this view.  Following this idealistic precept, we conclude that any decision not based upon merit is inherently flawed - and no doubt corrupt!

The Developing Commercial World

As centralised economies transition to market based economies, risk and transaction costs are transferred from the state to the individual - and it is at this point where hereditary heuristics serve the individual as a defense against the uncertainty of change.  It should be no surprise that, almost invariably, refuge is found in the economy of favours. 

Without equal access to regulated services and recognition under the rules of law, people will revert to systems they can understand and control - an economy of favours.  If Herman controls the apartments, Carol the jobs, and William the phone connections - they will barter what they control within their family, tribe, and friends – and for a fee, others.

As economies transition toward merit and market oriented structures, old habits and allegiances die-hard.  People who worked together during the hard times are more likely to work together in the good times, as the relationships have already been developed.  Even in the United States, the most vocal proponent of merit, the economy of favours is alive and well.           

Example 1:

A small company bid on a government contract for the provision of consulting services.  The bid was straightforward; the government was looking for a consultant credentialed in a specific field.  While the consulting firm that submitted the low bid had demonstrably more experience than their competition, the contract was awarded to the firm with the most government experience.  The selection committee made a conscious choice that the shared government experience was an asset.  There was a comment on the record made by a member of the selection committee - believe it or not - that by recognition of government experience, members would be advantaged in seeking employment with the firm.  No money changed hands, there was no bribe, no overt pressure, no deal - just a tacit wink and nod toward the economy of favours.

In my experience working in places such as the Middle East and North Africa (MENA), Latin America, China, and the Caribbean - what those in the West view as symbols of a developed economy, are in reality underpinned by an economy of favours.

Criminal corruption exists everywhere.  Cash for opportunities, cash for licensure, cash for buying products and services - bribes and kickbacks abound.  These emoluments are often disguised as commissions, booking, lobbying, or consulting fees.  While these under-the-table arrangements are almost universally illegal (culturally differentiated only by the degree of punishment), it does and will continue to occur.  This being said, the real danger to an economy is not criminal corruption – the real danger is a system that institutionalises favouritism.

This social division is more apparent in MENA than anywhere else at this time.  A large segment of the population, only by accident of birth, is not participating in the emerging prosperity.  This disenfranchisement is particularly dangerous when the excluded have no hope of participation. 

As OFC professionals we will continually be confronted with dilemmas in developing economies.  If we assist those who are anchored to the past, we are often inadvertently promoting havens for corrupt people and practices.  Those left behind - not being a part of the fortunate families, tribes, and consortiums – are not unaware of how marginalised they have become. 

In summary, we must be more aware.  We need to be students of the world. We need to make a finer and clearer distinctions in our practices, policies, and governance - to address the selection of clients we choose to assist - and to define our role in advocating for, at all turns in our commercial life, a worldwide merit based free market economy.

L. Burke Files DDP CACM
Mr. Files is an international financial investigator and due diligence expert who has run cases in over 130 countries and has visited over 100 countries. Mr. Files has tackled investigations running from a few hundred thousand dollars to over 20 billion. Along the way, he became familiar with the knowledge of what people need to do, for due diligence, preventing corruption, and to avoid helping criminals launder money. He brings this experience of hands-on investigating and problem-solving experience to his lectures on Due Diligence, AML, and Anti-Corruption. Prior to founding FE&E, Inc., he served as the Director of Corporate Finance for American National an investment bank focused on development stage venture capital. He was also employed by Oppenheimer/Rouse as a commodities specialist trading customer accounts in Agri-Business, 24-hour gold and silver, and foreign currencies. Mr. Files has authored six books, and many white papers and articles. He has been quoted in major publications including The Guardian, The Financial Times, Forbes, US Newsweek, and more. He is the author of the award-winning book Due Diligence For The Financial Professional 2nd Edition. Mr. Files serves on the board of directors for several private companies, funds, and non-profits. The companies include Unicus Research a specialty advisory service for fund managers and family offices, SGS Glazing a specialty glazing design and estimating firm, and NSI a premium spirits company.