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M.Subbotin. Economic Damage.

Mikhail Alexandrovich Subbotin, candidate of economic sciences, senior research fellow of IMEMO RAN (Institute of World Economy and International Relations of the Russian Academy of Sciences), member of the expert councils of the Committee for Natural Resources and Nature Use and the Committee for the Economic Policy of the State Duma of the Federal Assembly of the Russian Federation.
The economic damage from the artificial criminalization of business:
an overview of contemporary trends

It is imperative to realize the scales of the administrative, enforcement and corruptional influence on business and the catastrophic consequences of such a comprehensive blow to the country’s economy, to its present and future.  In so doing, it is imperative to assess all three components - “artificial”, “criminalization”, “of business” – both together and individually:  their negative and even dangerous socio-economic consequences must be comprehensible to everyone.  Including both direct economic effects and indirect ones, which find their expression, first and foremost, in a demotivation of the honest conducting of business turnover on the basis of age-old base civilistic postulates (will, interest, presumption of good faith etc.).

The investment climate

In the Address of the President it was said:  “Our criminal legislation, like the practice of its application, must become more contemporary.  Criminal punishment – both at the level of the law, and also at the stage of its application by the courts – must be appropriate to the committed crime and, correspondingly, better protect the interests of society and the interests of the injured party”.

The country’s economic losses from the defects of its legislative system and practice of the application of the law can be provisionally divided into individual and general ones.  In the situation with the individual losses, one can speak about how much the country has already lost if there is at least one notional “Bill Gates” among the hundreds of thousands of convicted entrepreneurs.  In the general situation, what is being spoken of is that domestic business is abandoning the country in mass order, creating whole diasporas in different countries, while foreign business – is afraid to place its capital here.  As in the situation with the inscription on the bench:  “Fresh paint!”  Nobody is going to sit on it other than the most careless or absent-minded.

Ratings connected with rule of law and the protection of property ownership rights allow for two mutually interconnected processes to be understood:  the “non-arrival” of capital into the country and the departure of capital from the country.  What is the usual way of determining how many investors have not sat down on the Russian “bench”?  For this, various international surveys are conducted by the leading research centers and the corresponding country ratings are drawn up.

In the international ratings, the indices of the business and investment attractiveness of Russia in the overwhelming majority of situations are found at a low level, not corresponding to the country’s requirements and its hopes for modernization.  In particular, in a recent rating of the competitiveness of national innovational systems, Russia occupied 30th place out of 50 possible ones.  The leaders of the list – the USA, Sweden, Switzerland and Singapore.  Russia let the Baltic countries, and Czechia, and even Turkey get ahead.

A year earlier, in their annual analytical report “Index of Economic Freedom-2008”, the experts of the Heritage Foundation came to the conclusion that there is no freedom of the economy and entrepreneurialism in Russia:  our country occupied 134th position in this rating of 165 countries of the world, having ended up in the last, fifth group, into which the “least free” countries enter.  The degree of freedom of the economy was calculated by the arithmetic average mean of different indicators – freedom of business, trade, the financial sector, investments, labor, monetary and fiscal freedoms, as well as guarantees of rights of property ownership, the size of the bureaucratic apparatus and the degree of protection from corruption.  Not by chance is it said in one of the last reports of “OPORA Russia” that Russia is far from the only country in which the innovational system was not only was not developing over the past ten years, but has even degraded.

Because of the economic decline in the USA and Europe, the companies of these regions have begun to regard developing countries that are large or rich in oil as a possible prospective direction for the development of their business.  However, characteristic of the economic systems of such countries is weak protection of property ownership rights, a weak regulatory base and weak legal protection.  Oil-exporting countries in recent research by Maplecroft were segregated out into a separate, particularly risky group.  And even in it, Russia turned out to be in 20th place by degree of risk for foreign investments (even though its GDP is growing this year by 4% according to an IMF forecast), having ended up lower than Nigeria, Iraq and Angola.

Unfortunately, an underestimation of the danger of the situation that has evolved – just how much current legislation and application of the law in Russia do not correspond to elementary market conditions – is retained in our country (not only in the mass consciousness, but also, to a significant measure, even in the professional legal milieu).

The orientation toward state investments does not justify itself; therefore the resolution of the problem of large-scale investment needs to be conducted with the help of attracting private capital, both domestic and foreign.  Furthermore, experts name state corporations, becoming ever more widespread in Russia and undermining equal conditions for competition on the market, as one of the substantial risks for investors.

Raiderism – encroachment on another’s property

The criminalization of economic activity in many ways feeds corruption, which in its turn is a means for the implementation of raider takeovers and the decaying of the state apparat.  President Medvedev has already proposed making the punishment for “raiderism” more severe, up to and including imprisonment.  The disease of “raiderism” has given metastases throughout the entire country; people should be locked up in jail for such actions.  “Indeed, now this evil exists not only in the capitals, it exists in ordinary provincial towns, and this shows that this disease has given metastases already”, – said Medvedev, commenting at a meeting with the leadership and representatives of the TPP (Chamber of Trade and Industry of Russian Federation) on an appearance by the head of the chamber, Yevgeni Primakov, who had noted that “‘raiderism’ has gone deep into the heart of the country, into the provinces”.  And deputy chairman of the Federation Council Svetlana Orlova, has declared to the President that “participating in the scheme of a takeover, as a rule, are workers of organs of state”, as well as lawyers, notaries, realtors, appraisers and commercial-court receivers.

“The practice of investigating criminal cases of raiderism shows that in nearly all situations, assistance to the raiders is rendered by officials of the organs of state power and local self-administration”, – confirms head of the Investigative Committee under the Procuracy (SKP) Alexander Bastrykin.  “With respect to many criminal cases, the investigators see court decisions that are unjust in their essence, in which the right of property ownership to the taken-over property is recognized as being with the raiders’.  Not infrequently, employees of the law-enforcement organs also render ‘assistance’ to the usurpers – they seize carriers of information with registers of shareholders, and then enter changes in them.  Contract criminal cases are initiated to aid the raiders.  Nor do representatives of elected organs disdain participation in raider takeovers”.  In so doing, the head of the SKP noted that “dangerous methods of raider takeovers of property at the present time do not fall under criminal-law prohibitions at all”.

In 2009, the number of audits for enterprises was reduced; in 2010 the punishments for certain so-called “economic crimes” were softened.  And still, according to assessments, a mere 10-16% of the criminal cases initiated by the organs of the police under economic articles end with a court decision – the remaining 84-90% of economic cases are either not solved, or do not get to a court, or fall apart already in the course of the trial stage.  President D. Medvedev hopes that the measures being proposed by him for the development of alternative measures of restraint will allow for “the opportunity for corrupt employees of the law-enforcement organs to make use of ‘tossing’ someone into jail with raider objectives to be blocked at least partially”:  “We all know, there are enough of such examples.  They first put someone in a ‘zindan’ on a competitor’s tip-off, and then let him out from there for ‘dough’…  It is high time to bring this lawlessness to a stop”.

However, the situation continues to deteriorate:  “economic” cases, as before, are fabricated only in order to make them the object of bargaining between employees of the law-enforcement organs and the persons under investigation.  In so doing, pressure on entrepreneurs is not always exerted at the initiative of the employees of the law-enforcement organs themselves:  contract charges are used by other entrepreneurs for bad-faith competition.  According to the data of Minekonomrazvitiya (Ministry of Economic Development and Trade), in 2009 the organs of the procuracy received 37 000 applications on the conducting of non-planned audits of entrepreneurial structures, but refused to sanction half of them, inasmuch as there were no lawful grounds for an audit; among them, in Moscow the quantity of refusals comprised 77%.

Experts from the Russian Union of Industrialists and Entrepreneurs (the RSPP), having surveyed more than 1200 businessmen throughout all of Russia, came to the conclusion that business has been squeezed by the power to the periphery of economic and political life and the unenviable role of “milk cow” has been assigned to it.

Corruption and its negative consequences

Corruption – one of the socio-political factors of country risk; a high level of corruption lowers the competitiveness of a country in the world arena.  One usually identifies several groups of reasons for corruption, among which are:

·        weak capabilities with respect to the fight against corruption because of the inappropriateness of Russian legislation and the low efficiency of the law-enforcement system;

·        a crisis situation in the economy, where uncertainty of rights of property ownership, rent-oriented behavior and monopolism rule;

·        the peculiarities of the national mentality and the state of public morality.

The Procuracy-General of Russia too has elaborated its criteria for attributing concrete crimes to the ranks of corruptional ones toward the end of last year:

·        the commission of a crime by special subjects:  official persons of the organs of power and administration, the law-enforcement organs, the judicial system, the armed forces, civil servants and administrators;

·        a connection between the act and the official position of the subject, a departure from his direct rights and obligations or the abuse of them;

·        the mandatory presence in the subject of a mercenary motive (the act is connected with the receiving by him of property rights and benefits).

According to the data of the FAS, the number of cases about restriction of competition is growing.  The violators are acting with ever greater sophistication, there are more and more violations and 53 % of them are committed directly by the organs of power.  The most popular “bureaucratic” corpora delicti of offenses – this is the introduction of restrictions for the creation of a business or for the free movement of goods, instructions on first-order deliveries, groundless demands on goods and businessmen themselves etc.

Corruption – a general term, signifying the use of one’s position in society for personal objectives.  According to the neo-institutional approach to determining corruption, under corruption is understood a variety of opportunistic behavior by an official, arising in consequence of a high level of asymmetry of information between citizens (the principals) and officials (the agents).  Such an approach allows the factor of the institutional milieu, conditioning the structure of the transaction costs of the parties and allowing the mechanisms for curbing corruption, to be included in the analysis.

The economic losses from corruption are huge.  According to the approximate computations of Harvard University scholars, corruption increases the cost of goods and services by 5-15%.  Losses from corruption in the sphere of state orders and procurements comprise approximately 30% of all budget expenditures on these items.  According to the assessments of Russian law-enforcement organs, commercial structures in individual sectors of industry (oil, gas, rare metals) spend up to 50% of profit on paying off official persons.  According to the most modest computations, the summary losses from corruption in our country comprise no less than 20 bln. dollars per year (there exist assessments according to which the losses from corruption comprise around 70 bln. dollars per year).

According to the assessments of the RSPP, in every third company auditors demand an excessive number of documents; many officials now do not even come up with excuses for extortion, but act out in the open.  According to the words of businessmen, over a year the number of direct or indirect allusions to payment for the “services” of officials has grown more than two-fold.  30% of businessmen complain about such lawlessness.  In so doing, it has become more difficult on the whole to get through an audit without claims on the part of the auditors.  This managed to happen for but 13% of surveyed merchants.  A couple of years ago, their proportion was 2 times greater.  The rest were forced to pay:  either fines, or graft.

Business carries losses, but accepts these rules of the game as long as it still has the opportunity to get profit.  In the conditions of economic crisis, the situation became worse:  if in 2008, the majority (45%) of entrepreneurs believed that one needs to comply with the law for successful work, then in 2009, coming out in first place (69%) was the opinion that one needs to comply with the “rules of the game”.  In so doing, entrepreneurs began to turn to criminal structures for the “resolution of problems” (an increase from 3 to 11%), while the role of the court fell from 80 to 66%.

The World Bank subdivides corruption into two varieties:  administrative and so-called “state capture”.  “State capture” infers actions of companies (both private and state ones), some groups or separate individuals aimed at providing individual firms, sectors or a narrow circle of persons with preferences and advantages by way of exerting influence on laws, edicts and other elements of state policy.  As a result, the state acts not in common interests, but in private ones.  Administrative corruption, having the very same objectives and rules, signifies the “intentional introduction of distortions in the process of execution of laws and rules”.  The given kind of corruption is measured in the proportion of income funds that companies spend on bribes.  In particular, in Eastern Europe firms annually spend 2.2% of income on average on unofficial payments to officials, and in Russia — 2.8%.

There exists a quite widespread opinion that corruption can be defeated with the help of a strong state, a dictatorship.  Things are actually just the opposite, however.  The majority of corruption researchers considers that one of the reasons for its spread is “excessive” state intervention in the economy; that is, various restrictions regulating and controlling the rules imposed on free economic agents.  Furthermore, it is paradoxical, but a fact:  with extremely tough and economically little-grounded regulation, corruption can play even a positive role, contributing to the overcoming of excessive administrative barriers.  Which, by the way, as a rule, are created for this very reason…

Recently, the Procuracy-General directed a report to the Council of Europe organization “Group of countries against corruption” (“Greco”) on the execution of 26 recommendations given out to it by European experts in December of 2008.  From the report, it follows that Russia has executed only 12 of the recommendations in full; eight are executed in part, six not executed.

Prejudices and the decriminalization of business

The establishment of entrepreneurialism in modern-day Russia took place in complex economic and legal conditions.  An important distinguishing feature of this period was the conflictive character of mutual relations between the state and entrepreneurs, conditioned by their activity and the imperfect legal field, when the massif of legislation was based on an understanding of the economy as planned, based exclusively on state property ownership and protected by the state from the participation in it of private property ownership; protected, including by way of direct criminal repression.

Even after the state had recognized the right of private property ownership at the legislative level, including the right to conduct entrepreneurial activity on its basis, the general idea of the “criminality” of private business continued its existence both in the state consciousness and in the everyday one.  Such an atavistic negative attitude toward private entrepreneurship was also reinforced by the fact that the formation of market institutions at times outpaced the formation of the corresponding legislation, thereby leading ordinary entrepreneurial actions outside of the formal framework determined by the law.

Decriminalization of business is imperative for overcoming the prejudices against private property ownership in general and the impression formed in the mass consciousness in the course of the reforms of the ’90s-2000s of entrepreneurialism as semi-criminal or even criminal activity, causing harm to the state and society, and of entrepreneurs themselves – as people of low morality and engaged in an activity found on the fringe or beyond the bounds of the law.

Not dependent on the state, not under control, private capital continues to evoke apprehensiveness in society and among state structures.  As a result, mechanisms for the dependence of business on official persons, including by means of unlawful levers of pressure, are consistently being formed.  That is the very methods of realization of power are being criminalized.  Such a mechanism in the most obvious form is in effect in the sphere of taxation, where conditions for the violation of the law are artificially created.  After all, in such a situation, it is very easy to exert pressure on entrepreneurs:  inasmuch as they do not pay additional taxes into the state budget, then, correspondingly, they do not have legal protection, and are led out into the criminal sphere.  There also exist a multitude of other methods of leading business out beyond the framework of the law.  And as a result, the problem of the protection of the property ownership and personal liberty of the entrepreneur arises acutely.

Mass violations of legislation – this is a sort of a form of strike by entrepreneurs, i.e. a form of protest against irrational measures of state regulation.  Such mass violations ought to lead to a change in legislation without procrastination and an automatic re-examination of previously initiated cases.  Otherwise, one can lock up all of those who, irrespective of their personal qualities, are providing for the development of the economy, pay taxes and create jobs.

In post-Soviet societies, as a rule, they do not like rich, successful people and acknowledge private property ownership with difficulty.  Businessmen are perceived of nearly as enemies of the people, and this psychological tradition makes business dangerously dependent on the political situation.  Concrete businessmen, just like concrete representatives of other professions, may not rouse great sympathy.  But it must be firmly grasped that it is precisely the entrepreneur who is – the provider:  all the rest can be smart, strong and remarkable, but it is not they who organize the production process that brings in money.

As the classic of modern-day neo-institutionalism, O. Williamson, ironically noted, beings of limited reasoning ability and not-irreproachable morality need social institutions.  A significant part of institutions – traditions, customs, legal norms – is called upon to reduce the negative consequences of limited rationality (reflects the fact of the limited nature of human intellect, and of the recognition that a person’s knowledge is always incomplete) and opportunistic behavior (forms of violation of obligations taken upon themselves, for example evasion from the conditions of a contract).  In the absence of problems of limited rationality and opportunistic behavior, the need for many institutions would simply fall by the wayside.

In the West, the base principles of mutual interrelations between the power and property owners formed long ago and, as an axiom, it is accepted:  you can not touch property ownership, property ownership - is sacred.  Rule of law and a positive psychological attitude in society in relation to entrepreneurship – this is the real mechanisms for the protection of the business-sphere.  Although the need for protection by the law, for the rule of law is a universal interest of all citizens, irrespective of their material situation.

Together with this, the image of entrepreneurialism as a whole, just like the image of any concrete company – this is a part of a business’s capitalization, while overcoming a negative image also costs money.  Therefore, the attitude of the state toward business, the assessments of top official persons in the mass information media, not only create (or do not create) a favorable atmosphere for a country’s economic development and for expanding the activity of companies, but also have an impact on their investment opportunities, and thereby either promote investment activity, or dampen it.
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