How corruption takes a toll on the bourse

According to Dr. Jerram: "Low corruption leads to high income per capita and high equity market valuations". The last is logical since low corruptions also tends to lead to high corporate governance, which improves valuations.

Malaysia had once the highest income per capita of all the countries in the below graph (in Asia only Japan had a higher income per capita). A huge effort is needed in fighting corruption and improving corporate governance, not only in words but in deeds.

Link between graft, per capita income and valuations: study

IF typically the stock market and the economy each seem to have a life of their own, consider how rife graft is in the country.

There's a close link between corruption perceptions, income per capita and equity market valuations, particularly for developing economies, according to findings by Richard Jerram, chief economist at Bank of Singapore.

Drawing on Transparency International's annual corruption perceptions index, Dr Jerram points to two countries in particular - Indonesia and India - that illustrate the 'potential benefits to economies, as well as equity and bond markets, from improving governance, and the hazards from heading in the wrong direction'.

Declining perceptions of corruption in Indonesia over the last 10 years - as reflected in an improving corruption perceptions index score during the period - have been accompanied by a rise in the country's investment-to-GDP ratio.

Views about corruption in India, on the other hand, have worsened in recent years and this has led to a decline in the investment-to-GDP ratio. 'This has been a major factor behind infrastructure bottlenecks that have led to persistently high inflation and a slowing trend growth rate,' says Dr Jerram in a report titled Honesty, Growth and Markets published yesterday.

The trends are also seen in the financial markets, he notes. The Indian equity market has weakened over the past four years, and remains 15 per cent below early 2008 levels. Indonesia's stock market, in contrast, is 40 per cent higher and its bond market has fared well, 'illustrating that the quality of growth is important and not just the absolute speed'.

The report also cites research findings about corporate governance being worse under corrupt governments, with firms from more corrupt countries trading at lower market multiples.

After all, corruption can be seen as a form of tax on economic activity, as it raises, in effect, the cost of doing business and reduces returns to investors, says Dr Jerram.

But, for the equity market, it is 'the change in the corruption perceptions index that seems to matter rather than the absolute level', he notes, comparing the findings for Indonesia with the trends for Malaysia, Thailand and the Philippines.

Only the Philippines perhaps shows promise - its 2011 corruption index was its best since 2004. 'Thailand is still trying to repair the damage from increased corruption perceptions from the previous Thaksin administration, while Malaysia is struggling to convince investors about its latest economic reform plan.'

Asked about the corruption perceptions trend findings for Singapore, Dr Jerram said the link is 'not particularly relevant for developed economies as other factors are more important for investment'.

But there is generally a close relationship between the corruption perceptions index and per capita GDP in Asia. 'Identifying countries that are successfully reforming and improving business conditions also points towards rising incomes and stronger capital markets,' he says.

The Business Times (Singapore), February 14, 2012