# **2.2 The Nature of the Utility Sector and Sources of Rents**

There are reasons to believe that infrastructure provision is particularly prone to grand corruption. Many infrastructure services are natural monopolies, involving significant fixed costs. Related to this, competition in these sectors is seldom subject to antitrust control to the same degrees as other industries.<sup>7</sup> The level of technical complexity, combined with complex financial contracting, provides numerous ways of hiding corrupt transactions. Governments play a significant role in construction, supply and regulation of utilities. Regulatory decisions and the awards of concessions are often based on non-transparent decision processes which provide significant latitude to officials, and corruption can easily be hidden behind discretionary bureaucratic judgments or populist political decisions. During the pilot survey, some reported experiences of “informal award criteria.” In one of the countries, although the formal rules and criteria appeared professional, the companies competing for a concession often reportedly had informal meetings with very senior government officials – an arrangement that might facilitate ‘grand corruption.’ Box 1 suggests some cases of governance failure in the private provision of infrastructure, some of which have involved allegations of corruption.

In addition to the presence of considerable rents which can provide financing for corrupt payments, the high sunk costs of infrastructure investments provides additional incentives to bribe to reduce political uncertainty. In all infrastructure provision, with the partial exception of mobile telephony, there are long pay-back periods associated with sunk-cost investments. Alongside the political sensitivity of infrastructure pricing and access, the long payback period makes the pricing of risk a significant part of any investment decision. Negotiation of pricing (of services or infrastructure) or related factors that will determine the rate of return of the investment, will hinge on political risk calculations. Attempts to preserve that rate of return from direct or indirect expropriation may involve a mitigation strategy involving payoffs to decision-makers.<sup>8</sup> Infrastructure services vary in terms of the contributions of the public and private sectors (See Tables 1 and 2). At one end of the spectrum, mobile telecommunications services are provided privately and under a competitive regime in the vast majority of countries. There is comparatively little pressure to provide services at below cost or to subsidize access. Although some telecommunications sub-sectors frequently remain in government hands and subsidy mechanisms for access exist in a number of countries, the predominant roles for government in the sector are to (i) distribute rights to limited spectrum and (ii) ensure fair competition between providers. This suggests that the largest opportunities for rent extraction involve the issuance of spectrum licences and the process for setting interconnection prices (which is technically complex with no one obviously superior approach). In addition, in countries that retain public ownership of the fixed operator and/or limited international rights, the privatization and license issuance processes in these sub-sectors will also provide opportunities to extract rents.

At the other extreme, very few water and sanitation firms worldwide operate under full private ownership, with concession and management models predominant. Competition _in_ the market is

> 7 See Cave and Crother (2004) and Harker and Waddams Price (2004) for discussion about the link to collusion, and Celentani and Ganuzab (2002) and Comte, Lambert-Mogiliansky and Verdier (2005) on corruption and collusion in procurement, whereas Rose-Ackerman (1978), Shleifer and Vishny (1993) and Ades and Di Tella (1999) all suggest a greater role for corruption in environments of limited competition.

> 8 See Wells and Ahmed (2007) for examples of bribery to reduce political risk in infrastructure investments. See Harstad and Svensson (2008) for an analysis of rent seeking versus corruption, and the importance of hold-up problems. During interviews as part of the pilot study it was claimed that arbitration is no solution to hold-up problems. According to one respondent: _“Verdicts can be made in foreign courts but they are not enforced in this country.”_

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