Title : Organizational Isomorphism and Corruption in Financial Institutions. Empirical Research in Emerging Countries.

Authors : Bertrand Venard, Mohamed Hanafi Professor. Audencia Nantes School of Management, France Research Fellow, Wharton Business School, USA. To be published in Journal of Business Ethics, (2008) 81:481498

Introduction The globalization of capital markets in the last 20 years has led to a historic degree of financial integration in the world. It is clear, however, that globalization is not conducive to a complete homogeneity of financial markets and institutions. Some local constraints still exist which restrain the abilities of the financial service environment worldwide. This is also true for emerging countries. On one hand, emerging countries desperately need good financial systems to sustain development. On the other hand, some countries have not been successful in building their financial systems, nor in attracting the necessary international investments. For example, Foreign Direct Investment (FDI) private capital flows to the sub-Saharan Africa region were either negative or negligible during the 1980s and 1990s (Rivera-Batiz, 2001). Recent crises in East Asia, Russia and Latin America have also shown the need for further development of financial markets in those areas. The reasons for weakness of financial structures in some emerging countries are numerous. Some financial weakness can be attributed to international financial investors who are not interested in investing in particular emerging countries. Other problems are related to the characteristic of recipient countries, but also to international financial market relative performances in which some markets attract financial investments at the expense of others. One area of concern is the quality of local financial institutions in emerging countries. Indeed, international creditors may be reluctant to invest in one specific emerging country because of doubts of the quality of its local financial institutions. For example, the importance of financial institution development received considerable attention in the context of economic restructuring in transition economies (Dornbush, Reynoso, 1989)(Sauner, Sommariva, 1993)(Szego, 1993).

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Corruption is also partly responsible for this situation. Corruption decreases the credibility of financial institutions and markets. Scandals and unethical behavior in financials institutions erode confidence in such firms. This could lead to decline of the financial institutions themselves. For example, crony-capitalism, the misallocation of financial resources to friends and relatives of government officials, are key components when considering the 1997 Asia Crisis (Mc Farlane, 2001). There are various reasons for the existence of corruption in emerging countries, including the low salaries earned by civil servants, the availability of economic rents from which bribes may be extracted, and the under-development of legal systems (Shleifer, Vishny, 1998)(Rose-Ackerman, 1978, 1999). An important area of research concerns the influence of institutions on corruption. Indeed, the main finding is that the higher the quality of the institutional framework, the lower chance for corruption (World Bank, 1997, 2000). Various institutions shape organizations including social, cultural, economic and political institutions (Scott, 1995, 2001). Organizations may conform to institutional constraints not necessarily for reasons of efficiency, but rather for increasing legitimacy, resources and survival capabilities (DiMaggio, Powel, 1983)(Meyer, Rowan, 1977). DiMaggio and Powell (1983) discussed isomorphism based on the assumption that organizations become increasingly similar through institutional forces. Relying on neo-institutional literature, this paper focuses mainly on the link between corruption and organizational isomorphism in financial institutions in emerging countries. Therefore, our aim is to examine the institutional reasons for corruption in financial institutions in emerging countries. Our model is based on empirical research in financial institutions in emerging countries. A questionnaire was administrated face-to-face to 70 top executives of financial institutions in 18 different emerging countries. The first section of the paper examines the literature review concerning corruption and organizational isomorphism in the context of financial institutions in emerging countries. The main findings of the theoretical literature review led us to an empirical research building. The second section addresses the empirical research and question of methodology. An innovative aspect of this paper is the use of the Partial Least Squares (PLS) technique. The paper progresses to an examination of the empirical results, with an emphasis on the description of the structural equation model results. This analysis leads to our conclusion. Theoretical Background Defining corruption is usually one of the first steps in studying the concept. But, the exercise is difficult since corruption occurs in many forms, with contrasting patterns and political implications (Johnston, 1997). Nye defined corrupted behavior as relying on transgression of legal norms (1967). Bribes occur when property or personal advantage is offered without the authority of law to a public official with the intention of getting the public official to act favorably for the briber at anytime or fashion in execution of the public officials duty (Turow, 1985). Without formal laws to define and prohibit certain acts, the questions of whether a given act is or is not corrupt would be a matter of opinion
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only (Lapalombara, 1994). But Gibbons noted legality tells us little about the social significance of corrupted behavior (1981). Furthermore, critics have noted that legal norms differ in various countries. Other authors use the concept of social norms instead of legal norms. For example, Brooks defined corruption as a behavior by public official that deviates from accepted moral standards (1970). This moralist approach was challenged by social scientists (Leff, 1964) (Nye, 1967 : 417). Critics emphasized cultural relativism as opposed to a universal notion of corruption that deems an act morally wrong. Corruption is a cultural notion as some populations may refuse certain behaviors while others will accept them. In fact, some countries seem to be more tolerant than others regarding corruption. This cultural relativism may justify the acceptation of corruption in some countries as normal behaviors. From a legal perspective, researchers highlight the transgression of legal norms. From a moralistic view of corruption, some authors emphasize the wrongdoing, the deviation, or the non-respect of norms (Sajo, 2003). Recent views on corruption are in fact a mix of both legal and moralistic perspectives. For example, Holmes defines corruption as an action (or non-action) which should meet the following criteria: it is carried out by an individual or group of individuals occupying a public office, the public office must be one of responsibility and authority, the official must commit the act at least in part because of personal interest, the official must be aware that his actions or non-actions either are or might be considered illegal or improper (Holmes in Bull and Newell, 2003 : 193). In Holmes definition, we should note the focus on public corruption, personal interest and deviation of norms (illegal or improper. See above). Morris also defined corruption as a behavior by a public official which deviates from public interest (1991). This definition is quite similar to that of World Bank, a leading international body researching this matter, which defines corruption as the abuse of public office for private gain (World Bank, 1997 : 8). In this paper, we will define corruption as: a manipulation of powers of government or sale of government property, or both by government officials for personal use (Shleifer, Vishny, 1993) (Jain, 1998). Corruption and Financial Institutions At the economic level, the effects of corruption can be devastating. Among the various arguments in favor of a universal condemnation of corruption, numerous studies show the negative impact of corruption on economic development (Mauro, 1995)(RoseAckerman, 2002). The seminal author Rose-Ackerman noted that corruption introduces inefficiencies that reduce competitiveness (2002 : 1891). Most studies show a significant
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negative relationship between corruption and various measures of economic welfare, including per capita income, Gross Domestic Product, GDP growth, and innovation (Shleifer, Vishnu, 1993)(Mauro, 1995)(Rivera-Batiz, 2001). Numerous studies point to the close connection between the weak effectiveness of the state, especially in emerging countries and weak economic development, such as weak foreign direct investment development or industrial development policy failures (Keefer, Knoack, 1995)(Ades, Di Tella, 1997)(Wei, 1997)(Selowsky, Martin, 1997). Wei, for example, showed the negative effect of corruption on Foreign Direct Investment (1997). Since we focus on financial institutions in this paper, it is essential to examine the debate linking corruption and financial institutions. Here, we define financial institutions as banks and non-banks institutions such as pension funds and insurance companies. Corruption could have devastating effects on financial institutions and financial markets. For example, part of the banking system collapse in Japan in the 1990s can be explained by the existence of corruption (Kane, 1993). Kane noted the conflicts in which bureaucratic incentives make regulators reluctant to acknowledge and resolve financial institutions exposure to catastrophic risk (1993). The Japanese financial crisis was characterized mainly by banking fraud, bribery, extortion, and loan-sharking (moneylending at a very high interest rate)(Mac Farlane, 2001). Another example is the 1997 financial crisis in Asia, which was partly explained by widespread corruption in the region (Khemani, Meyerman, 1998). Indeed, corruption, cronyism and infiltration or organized crime could lead to financial crisis (Mc Farlane, 2001). The development of corruption in a country may also be linked to weak international integration of its financial markets (Edison et al., 2002). Despite the negative effects of corruption, there are various reasons to explain the importance of corruption in emerging countries. First, a key reason is that emerging markets have plenty of corruption opportunities (Rose-Ackerman, 2002: 1893). Among the corruption opportunities, we should note the classical scenario in which low-paid civil servants have the availability of economic rents from which they could extract bribes (e.g. asking money in exchange of the selection of a supplier for a Ministry). The process of economic development has also fostered new types of corruption. For example, emerging countries often have privatization programs, which could lead to corrupt behavior (Holmes in Bull and Newell, 2003: 195). Second, some emerging countries were formerly communist countries. Transition economies were quite corrupted during the communist period (Venard, 2001) (Holmes, 2003). Their clientelistic structures became even more virulent after the collapse of communism (Sajo, 2003). Corruption is increased by the existence of corrupted networks (Nielsen, 2003). Third, emerging countries are very often in the process of democratization (some proceeding quite slowly). The common understanding is that freedom of markets will lead to political freedom. But at the same time, democratization may breed corruption if it is accompanied by a weakening of state control and confusion among the population about the proper behavior in a context of increased freedom (Rose-Ackerman, 2001). Fourth, many emerging countries are characterized by the fact that the population believes in
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widespread corruption. The population may witness the phenomenon and participate in it, believing that there is no way out. For example, in Russia 74% of people polled said they think that corruption among national government officials is worse now than under communism, in the Ukraine, the poll results were 87% and in Central and Eastern Europe 71% (Rose-Ackerman, 2001 : 413). Some emerging countries such as Russia are suffering such a deficit of institutional trust that even banks are widely viewed as unfair (Rose-Ackerman, 2001 : 439). Fifth, emerging countries have weak institutional frameworks, which constrain their ability to fight corruption. Institutional Perspective An important question to consider is why financial institutions adopt corrupted behavior. To answer to this research question, we have chosen to concentrate our analysis on institutional literature. It is true that institution building is one of the key factors in fighting corruption (Rose-Ackerman, 1978, 1999)(World Bank, 2000). The review of key research will enable us to develop our different hypotheses. Figure 1 summarizes our various hypotheses. INSERT FIGURE 1 Prior to the 1970s, most organization theorists formed their analysis on the internal functioning of organizations. One of the main features of the Classical School of Organizational Theory was to view firms as systems closed to their environments. Some early scholars such as Selznick (1949), Gouldner (1954) and Zald (1970) described the ties between organizations and their environments. The contingency theory school also began to examine the interaction between organizations and their environments (Lawrence Lorsch, 1967). However, key research was conducted by Di Maggio and Powel (1983). They tried to understand why firms are so similar today. They argued that this similarity is the result of organizations quests to attain legitimacy within their environments. The concept of legitimacy was already a central element in the work of Meyer and Rowan (1977). They defined legitimacy as a status conferred by social actors. From the view of a specific social actor, a legitimate firm is one whose values and actions are congruent with the social actor values and expectations (Pfeffer, Salancik 1978). In the effort for legitimacy, firms are following processes of organizational isomorphism or homogenization, divided by Di Maggio and Powel between competitive and institutional isomorphism. Competitive isomorphism is the pressure towards similarity resulting from market competition (Hannan, Freeman, 1977)(Aldrich, 1979). The degree of competition in an industry hinges on five forces: the threat of new entrants, the bargaining power of customers, the bargaining power of suppliers, the threat of substitute products or services (where applicable) and jockeying among current contestants (Porter, 1979, 1980). The intensity of competition is measured in this paper as the perception by financial institutions of two mains forces: competitors (local and foreign) and clients (Porter, 1980) (how the competition intensity is measured is explained in the methodological section, as
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for other variables). For example, Ades and DiTella found that corruption is higher in countries in which domestic firms are sheltered from foreign competitors by natural or policy-induced barriers to trade, with economies dominated by only a few firms (1999). Also, Evenett and Hoekman assess and compare the impact of eliminating discrimination and fostering greater domestic competition in procurement markets and enhancing transparency in state contracting (2004). In their analysis, they conclude that greater domestic competition on procurement markets and greater transparency will improve economic welfare. The business community as a whole can benefit from the decline of corruption, even if an individual firm may find it otherwise optimal to bribe in a corrupt environment (Wei, Kaufman, 2000). The orthodox hypothesis will be that the higher the competition between financial institutions, the lower the corruption. This hypothesis assumes that there is a linear relation between the intensity of competition and corruption. However, the relationship may be more complex. For example, Ades and Di Tella stressed that, in theory, the effect of competition on corruption is ambiguous (1999). Firms with high rents will imply that they will be more successful if they rewrite the bureaucrats incentive scheme. A heterodox perspective could predict that financial service firms may adopt a corrupt behavior in front of an increase in competition. Many emerging countries have been characterized by a lack of competition. This is especially true of former communist countries. Therefore, for the first time in the liberalization process when competition intensity increases, firms in emerging countries may try to secure rents with corrupt government officials. In the second phase, competition increases will lead to a decline of corruption. Considering the scope of this research concerning emerging countries, the competitive isomorphism perspective leads to our first hypothesis: H1: A positive relationship exists between the intensity of the competition for financial institutions and the level of corruption. Institutional isomorphism is the similarity among firms due to institutional constraints. Institutions are defined as the humanly-devised constraints that structure political, economic, and social interactions (North, 1990, 1991). They are the rules of the game, e.g. the prevailing explicit and implicit behavioral norms that create appropriate incentives for desirable economic behaviors (Rodrik, Subramanian, 2003). An important question to consider is how the mechanisms of institutions influence organizations. DiMaggio and Powel proposed three mechanisms through which institutional isomorphism occur: coercive, mimetic, and normative (1983). Coercive isomorphism refers to the fact the organization face pressures from other organizations on which a local organization depends. For example, firms could change their organizational structures in line according to the demand of powerful actors. We should highlight here that the use of coercive isomorphism by DiMaggio and Powel was an answer to the demand of Perrow, who noted that organizations should give more emphasis to the role of power in explaining organizational forms (1986 : 265-271). In their resource dependence model, Pfeffer and Salancik presented organizations as becoming either more or less powerful based on the extent to which others depend on
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them for resources (1978). DiMaggio and Powels concept of coercive isomorphism refers to the fact that organizations adopt structure mandated by other organizations on which they are dependent. In fact, an organizations need for legitimacy is a function of its needs to extract resources from the environment (Meyer, Rowan, 1977). Not only is a local firm dependent on other organizations, but it is also dependant on its complete institutional environment. Thus, coercive isomorphism also refers to the pressures on organizations to conform to the social expectations of the whole society and not only other organizations. Therefore, scholars have stressed the existence of different business systems which generate a coercive isomorphism on organizations. The concept of business system has been proposed by Whitley as a means of conceptualizing the close connection between dominant social institutions and the coordination of economic activities (Withley, 1994:154). The development of this concept was prompted by specific cases studies in Asia and in Europe, highlighting the existence of various business systems (Withley, 1992, 2000). The business system is in particular the set of external institutions which constrain any organization to adopt an organizational form. Our hypothesis is that the more executives view their national business systems as adapted to pursue their economic activities, the less likely they will feel a need to use corrupted behavior to achieve their objectives. The idea of quality of the business system refers then here to a more market-friendly system. It is true that emerging countries have witnessed different systemic transformations and are still more or less business-friendly. This is especially true for transition economies (Sachs, 1996). Indeed, corrupt environments can contribute to unethical organizational behavior (Nielsen, 1996, 2003). Our hypothesis is therefore: H2 A negative relationship exists between the quality of the business system and the level of corruption Some elements are important to differentiate various business systems and therefore their ability to reduce the organizations tendency to use corruption in its economic activities. Key factors are legal framework, law enforcement and the quality of financial markets within a country. Legal framework is an important institution in the analysis of any business system (Scott, 1995). Legal environment is a key element of economic development and is much needed by emerging countries. For emerging countries, it is crucial to create laws and legal bodies that properly protect private property and enforce contracts between private parties, but also limit the ability of an official to prey on private property. It also includes the creation of regulatory institutions that deal with competition, securities markets, banking, trade, patents and so on (Shleifer, Vishny, 1998). For example, Kondra and Hinnings noted that governments have an interest in heavily regulating banks and brokerage firms to constrain potential outcome (in particular, to minimize the possibility of organizational death)(1998). Thus, the legal framework is particularly important in the
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study of the business system of financial institutions in emerging markets. Therefore, our hypothesis will be: H2a A positive relationship exists between the quality of the legal framework and the quality of the business system If laws are important, they are useless without enforcement. Therefore, the ability of governments to enforce laws is crucial to assess the quality of the institutional environment, especially in its ability to influence corruption. North emphasized the importance of efficient judicial systems to enforce contracts, a crucial determinant of economic growth (1990). To evaluate the quality of law enforcement, we used the quality of the public service in general as a proxy. It should be noted that it is difficult to assess the quality of law enforcement if the respondent has never been involved in any legal action. Therefore, we assumed that the stronger the public services, the stronger the ability of law enforcement. A set of questions was asked to each top manager such as could you please rate the overall quality and efficiency of services delivered by the judiciary / courts ? or could you please rate the overall quality and efficiency of services delivered by the police ?. This discussion leads to the following hypothesis: H2b A positive relationship exists between the quality of the public services (proxy for law enforcement) and the quality of the business system Financial systems are among the key institutional features structuring institutional environments (Zysman, 1983). Whitley has also evaluated financial systems as key institutions that affect business systems (1999). The quality of financial markets is an important part of any economic system. Thus, the fact that a specific financial institution is doing business in a non-developed financial market should influence its behavior. For example, low international financial integration has been associated with an increase in corruption (Edison, et al., 2002)(financial international integration is the degree to which an economy does not restraint cross-border transactions). Also countries where corruption is rampant will suffer from low rates of return to capital before the liberalization of international financial transaction (Rivera-Batiz, 2001). Of course, financial markets vary in a number of dimensions. A critical feature deals with the processes by which capital is more or less easily available (Whitley, 1999 : 49). In this paper, the high quality of a given financial market is thus an evaluation of its various key components which imply that capital is easy for firms to access. Thus, our hypothesis will be: H2c A positive relationship exists between the quality of the financial market and the quality of the business environment. Another institutional isomorphism is mimetic isomorphism. There is an important emphasis in institutional literature on mimetic isomorphism (Mizruchi, Fein, 1999). Mimetism is to copy the actions of business peers (DiMaggio, Powel, 1983). For example, Haverman showed that firms tend to imitate behavior of successful peers by following them into similar markets (1993). Greeve examined how decisions of banks
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were influenced by mimetic isomorphism in their branch location decision (2000). Another example of empirical survey concerning financial institutions is a study conducted by Haunschild and Minner (1997). They found that the likelihood of using a particular investment banker for an acquisition was related to the number of other acquiring firms that had previously used that banker. In favor of the mimetic hypothesis, we should also stress the impact of reference groups on corruption (Rose-Ackerman, 2002). The reference group for a given financial institution is the group of financial institutions present in its market. Corruption is not only an individual action, it is also a social action influence by the behavior of others social actors, especially within corrupt networks (Nielsen, 2003). Thus, if the financial service industry shows an important amount of unfair behaviors (not only corrupted behavior), a specific financial institution will certainly imitate this behavior and will use corruption as a means to achieve its economic objectives. Our third hypothesis is therefore: H3 A positive relationship exists between unfair behavior by competitors in the financial service industry and the level of corruption. The last institutional isomorphism mechanism is normative isomorphism. DiMaggio and Powel viewed it as a result of professionalism involving two processes. First, members of a profession receive similar training, which socializes them into similar worldviews. Second, members of a profession interact through professional and trade associations, which further diffuse ideas among them. Normative isomorphism corresponds to internalisation of norms, but also societal pressures by members of other organizations, which imply at least some degree of external coerciveness (Perrow, 1986). Here is a weakness of the DiMaggio and Powel framework. As pointed out by DiMaggio and Powel themselves: this typology is an analytic one: the types are not always empirically distinct (1983 : 50). Mizruchi and Fein stressed the ambiguity of the various institutional isomorphism mechanisms (1999). For example, Rosenzweig and Singh noted that legal framework is a strong environment pressure for subsidiaries of multinationals and could be described as a coercive pressure for isomorphism (1991). However, a legal framework is also a norm and could be used to proxy normative isomorphism. This reflects an inherent ambiguity in the DiMaggio and Powel thesis, an ambiguity they recognized by noting that the three forms of institutional isomorphism are to be considered ideal-types. Due to the ambiguity of the normative isomorphism, we have not specified a hypothesis for this isomorphism. Politicisation of Economic Activity Studying the influence of institutions on corruption leads to the examination of governments role in the process. On a macroeconomic level, political intervention leads to a transformation of firms institutional context. The role for governments is to create the right institutions, to set up the rules of the game and to ensure that the rules of the game are respected. Some authors have described the phenomena of the politicisation of economic activity, defined as a situation in which politicians and bureaucrats intervene in firms to exercise of control
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over them (Johnson, Kaufman, Zoido-Lobaton, 1998). However, the government could restrict itself to providing public goods, such as regulation and law enforcement and leave, at the same time, most allocation decisions to the private sector (Frye, Shleifer, 1997). State intervention could be therefore a positive factor in fighting corruption. On a micro-economic level, governments can be interventionist in a way that is not very well organized and can have a large number of bureaucrats pursuing their own agendas, such as asking for bribes. Authors named this type of government intervention: the grabbing-hand model (Shleifer, Vhisny, 1993; Frye, Shleifer, 1997). As a matter of fact, government intervention designed to correct market failure requires the use of bureaucrats to make decisions but may create opportunities for these bureaucrats to be corrupt and demand bribes themselves (Acemoglu, Verdier, 2000). In emerging economies, the first period of liberalization of the economy is characterized by an increase of competition and the improvement of the institutional framework. This could lead to an increase of politicisation of economic activity. The politicization of the economy could be necessary to make sure that the rules of the game are respected. As a matter of fact, government intervention in financial institutions decisions could be done to make sure that these firms respect the rules of the new system. For example, financial oligopolies in former communist countries may try to secure their economic rents through unfair business practices (such as corruption). The state reactions could be to promulgate and enforce new laws, but also to control financial institutions decisions in order to avoid the creation of unlawful cartels. Another case may arise, the tendency of financial institutions to build new monopolies through mergers and acquisitions and use corruption in order to safeguard such monopolistic situations. The government may refuse the constitution of new trusts within emerging countries, thereby interfering at that point in their private decisions. Therefore, to fight corruption the state may have to intervene in financial institutions decisions. Our last hypothesis is therefore: H4 In emerging countries, a negative relationship exists between the level of politicisation of economic activity and the level of corruption.

Methodology To answer our research question, the methodology was a direct collection of data through face-to-face interviews. Interviews were conducted with company managers or owners in site visits in 18 countries. Most respondents were in the top management of their firms with 36% chief executives, presidents or general managers and 24% holding other executive positions (most commonly directors of various divisions). The remaining 40% had managerial positions such as finance managers. The survey was done from June 1998 through August 1998 as part of the EBRD (European Bank for Reconstruction and Development) and World Bank Business
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Environment and Enterprise Performance Survey. Since our research focused on the link between organizational isomorphism and corruption, the period of time is not crucial. Our objective is to test theoretical hypotheses concerning corruption in various national contexts and not to describe corruption in emerging countries at the end of the 1990s. Table 1 gives the list of countries and the number of interviews by country. The diversity of the 18 countries allows us to test our hypotheses in various national contexts. All firms participating in the survey are financial institutions divided equally between banks and insurance companies, plus one investment fund (See Table 2 for details about the sample). As usual for such an industry, the majority (nearly 40%) of financial institutions were located in the capital city of their respective country. The other financial institutions were in large cities with 20% in towns of more than 250,000 inhabitant and 24.3% in cities of between 50,000 and 249,999 inhabitants. The size of the firms varied from large enterprises of more than 200 employees (23% of the sample), average companies between 50 and 199 employees (27%) and smaller firms below 50 employees (50%). Most participating financial institutions (71%) were private firms, the remaining 29% were state-owned firms. 29% could seem quite high but is normal considering that most countries involved in the research are former communist countries, which, at the time of the survey, were going through a new privatization process. At the early stage of privatization, many financial institutions remained owned by the state.

INSERT TABLE 1 & 2 The interviews were conducted face-to-face using a specially designed questionnaire. A test of the questionnaire was done through several interviews. After the test, companies were contacted by phone to arrange an appointment with the prospective respondent. Interviews were conducted face-to-face using the specially designed questionnaire to assess the level of corruption. Most interviews lasted between one and two hours. The questionnaire was divided into two parts. The first part concerned the description of both the firm and the respondent. For example, questions were asked about the firm location, the respondents title, the main area of activity of the firm, etc. The second part contained 70 questions designed to assess various elements of the business environment, the importance of corruption and various elements concerning experiences and practices regarding corruption (See Table 3 for question examples). The interviews were carried out at respondents offices. In order to elicit answers from respondents about such sensitive issues as corruption, some precautions were undertaken. On the one hand, the anonymity of both participating firm and respondent was stressed at the beginning and during the interview process. On the other hand, it was pointed out to respondents that their answers to the questions didnt imply that they either approve or condone the use of unofficial payments to bureaucrats. Furthermore, questions were asked concerning firms like yours and not directed specifically about the firm of the respondent. This indirect questioning made respondents less reluctant to answer. Finally, respondents did not have to give exact answers but were asked to give a number corresponding to a chosen answer. For example, to the question How often do firms like yours nowadays need to make extra, unofficial payments to public officials to gain government
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contracts?, a card was shown to the respondent with the various possible answers of the scale, from never to always. If the answer was always, rather than having to say always, the respondent just had to give a number, which is a less emotionally charged answer. Examples of various questions are given in the Table 3. It should be noted that most studies on corruption relate to country-level measures based primarily on the perception of external actors (Hellman, Joes, Kaufman, 2000 A & B) (Lancaster, Montinola, 2001). Indeed, two main methodological perspectives exist. The qualitative perspective uses generally single, in-depth analysis and examines the complexity of the context of corruption. The quantitative perspective tries to test specific hypotheses using samples of countries. Indeed, much research occurs at a macrocorporate level, with the nation-state as the unit of analysis (Lancaster, Montinola, 2001). The idea is usually to understand the link between variables characterizing a country and its level of corruption. Seldom are the studies using data directly collected from organizations. This is obviously an added value of this research. A usual problem in quantitative analysis is the use of proxies, which are used to measure variations in different concepts. This is especially true in the evaluation of the level of corruption. The debate over the definition of corruption may explain partly the difficulty in choosing a universal indicator e.g. one used by all researchers. The choice of measurement is of course linked to data availability. Indeed, corruption is structurally a hidden behavior. Its clandestine nature implies that it is difficult to survey. Furthermore, a problem in international comparative analysis is the cross-country comparison using data of various countries, where corruption is defined differently. A specific survey design for this purpose was then necessary. However, as Lancaster and Montinola noted, most studies are based on perception of corruption rather than real occurrence of corruption (2001). It is typical to use corruption indexes by different international bodies. In this research, firm managers were directly asked to evaluate the corruption they face. INSERT TABLE 3 The dependent variable corruption was specified in line with our hypotheses as a manipulation of powers of government or sale of government property, or both by government officials for personal use (Jain: 1998). In studying corruption, it is important to avoid asking whether corruption is inherently good or bad. Johnson pointed out that such questions are futile as the answers depend on the standards of good and bad and also on the elements of comparison (We might also ask good or bad to what?)(Johnson, in Ward, 1989 : 17). The level of corruption was evaluated as the frequency of unofficial payments by financial institutions to public officials for getting various services or other advantages. In order to characterize and measure this variable, a set of seven questions was given to respondents. For each question, the respondent had to indicate the frequency using a 1-6 never/always scale. An example of a question is: How often do firms like yours nowadays need to make extra, unofficial payments to public officials to gain government contracts?. For each of our conceptual hypothesis, respondents were asked a set of relevant questions.
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For example, in order to measure the intensity of competition, a set of six statements was given to respondents, using a scale of 1-to-6 (1 for low and 6 for very high) to evaluate the pressure of competitors (this includes new entrants and current contestants, both local and foreign) and the pressure from customers in key strategic decisions. An example of a question is Please rate the influence of the pressure from domestic competitors on key decisions about your business. Exploratory factor analysis (EFA) across the six items indicated sufficient convergence to suggest that it was valid to incorporate all six items into one measure (Cronbachs alpha = 0.8467). The EFA identified only one dimension for this variable. Also to access the politicisation of the economic activity, seven questions were asked such as How often does the government intervene in the investment decision of your firm? or How often does the government intervene in the pricing decision of your firm?. The respondents had to evaluate the government intervention using a scale of 1to-6. The EFA, across the seven questions, showed a strong convergence with a Cronbachs alpha of 0.8630. The EFA identified only one dimension for this variable. The last example concerns the quality of financial markets. In this paper, the quality of a given financial market is thus an evaluation of its various key components which imply that capital is easy to access for firms. Therefore, the quality of a financial market is higher when banks have more money to lend, when it is easier to have access to foreign banks, when it is easier to have access to non-bank equity investors and when there is lower bank paperwork and bureaucracy to get a loan. For all the previous items, questions were asked to the respondents using a scale of 1-to-6 (1 for low and 6 for very high). An example of a question is Can you tell how problematic the bank paperwork and bureaucracy are for the operations and growth of your institution?. The EFA across the five questions showed a strong convergence with a Cronbachs alpha of 0.8154. The EFA identified only one dimension for this variable. Data Analysis Our theoretical model was tested using a structural equation modelling technique called Partial Least Squares, PLS (Wold, 1985). PLS method is oriented toward predictive applications and the explanation of variance as a regression, in which R2 and the significance of relationships among constructs (using Ordinary Least Squares, OLS techniques) indicate how well a model performs (Barclay, Higgins & Thompson, 1995). Conceptually, PLS is an iterative combination of principal components analysis relating measures to constructs, and path analysis permitting the construction of a system of constructs (Barclay et al., 1995, p. 290). The PLS approach generates estimates of standardized regression coefficients (i.e., path coefficients), which can then be used to assess the relationships between latent variables. PLS also generates factor loadings of the items used, which are interpretable within the context of principal components analysis (Bookstein, 1986). PLS does not make assumptions about (1) data distributions to estimate model parameters, (2) observation independence, or (3) variable metrics (Wold, 1985). Those unrestrictive assumptions lead us to select PLS over other structural modelling techniques. Furthermore, PLS is an excellent technique to test theoretical models with smaller samples (see Barclay et al., 1995, for a detailed explanation of the PLS technique).
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INSERT TABLE 4 Intercorrelations of all variables used in this study are provided in Table 4. Partial support for our hypotheses can be seen in the correlation matrix provided in Table 4. The importance of corruption was significantly and negatively correlated with the quality of the business environment (r = - 0.4214, P<0.05). Furthermore, the level of corruption was also correlated positively with unfair behaviours by competitors in the financial service industry (r = + 0.3743, P<0.05). The politicisation of the economic activity was correlated negatively with the level of corruption (r = - 0.2840, P<0.05). Finally, the intensity of competition was also correlated positively with the importance of corruption (r = + 0.3462, P<0.05). The correlation matrix between the various variables explains our theoretical model. PLS generates statistics to test the reliability and validity of constructs with two or more indicators. As shown in Table 5, the indexes had Cronbachs above 0.75, which is above the suggested reliability level of 0.70 indicated by the literature (Nunnaly, 1978). Although the Cronbachs of the quality of the legal framework construct was 0.64, which is a little below the 0.70 reliability level, this reliability estimate is based on five items only. This low Cronbachs could be explained by the difficulty in assessing the various items of the questionnaire, referring to the legal framework. Indeed, it is quite difficult for respondents to evaluate the legal framework without any previous legal conflict resolved with the help of the local justice. Respondents may not know very well the quality of the legal framework. INSERT TABLE 5 & 6 Results of PLS analysis used to test the hypotheses are summarized in Table 6. The following results were obtained. The relationship between the quality of the business environment and the quality of the legal framework was positive and significant ( = 0.16, P<.05). The relationship between the quality of the business environment and the quality of the public services was positive and significant ( = 0.21, P<.05). The relationship between the quality of the business environment and the quality of the financial market was also positive and significant ( = 0.51, P<.05). These results support our hypotheses H2a, H2b and H2c. Our model explaining the quality of the business environment is significant, with a R of 0.4889 (See Table 6). The combination of variables predicts 50% of the variance concerning the quality of the business environment. In support of Hypothesis 1 concerning competitive isomorphism, the path coefficient between the intensity of competition and the level of corruption was positive and significant (=0.27, P<.05). The relationship between the quality of the business environment and the level of corruption was negative and significant (= - 0.24, P<.05), lending support to Hypothesis 2. Therefore, we support the coercive isomorphism
14

hypothesis. Furthermore, the relationship between the level of unfair behavior by competitors in the financial service industry and the level of corruption was positive and significant (=0.22, P<.05). Our data supports Hypothesis 3 concerning mimetic isomorphism. We also accept the H4 hypothesis concerning the link between the politicisation of the economic activity and the level of corruption ( = - 0.16, p<.05). Our data shows a negative relationship between the politicisation of the economic activity and the level of corruption. Overall, the basic model shown in Figure 1 and tested using PLS supports the six hypotheses of this study with a R of 0.3226. The combination of variables predicts 32% of the variance of the corruption intensity. First, we predicted that an increase of competition in emerging countries between financial institutions is likely to lead to corrupted behavior. We obtained a positive relationship between the intensity of competition and the level of corruption. Competitive isomorphism on the matter of corruption was supported by our empirical data. Our data shows that the higher the competition, the higher the corruption. This heterodox hypothesis could be explained by the fact that in a first period of economic development, financial institutions in emerging countries facing higher competition may try to increase or secure their market shares partially using corruption. In a second period, the intensity of competition may lead to a reduction of corruption. Second, coercive isomorphism also influences financial institutions in emerging countries to adopt corrupt practices. Indeed, financial enterprises are dependent on their institutional environment and they adopt structures and behaviors according to it. The quality of the business system (notably the quality of the legal framework, the importance of law enforcement and quality of financial markets) influences the level of corruption in financial institutions in emerging countries. Third, mimetic isomorphism also explains the potential level of corruption. If the level of unfair practices in the financial service industry is important, a local financial institution will be more likely to adopt corrupted behavior. This is in line with the idea of the influence of the reference-group on corruption (Rose-Ackerman, 2002). Fourth, our theoretical development lead us to predict that the more politicians and bureaucrats exercise control rights over financial institutions, the less the financial institutions may adopt a corrupted behavior. This is also a heterodox hypothesis. Indeed, in some cases, the grabbing-hand model characterizes emerging countries with high political intervention in private firms and important corruption (Shleifer, Vishny, 1993). On the contrary, our empirical data lead to us to verify the negative relationship between the politicization of economic activity and the level corruption in financial institutions in emerging countries. This could be explained by the fact that the politicization of the economic activity is usually quite high in the financial industry. In emerging countries if politicians and bureaucrats dont exercise control over financial markets, this may lead to high corruption and unfair behavior. There is a minimum of control necessary to regulate and control financial markets and institutions. Furthermore, the difference between micro
15

and macro level intervention is not always very clear. In the first period of economic development in emerging countries, the intervention of government in economic activity may be necessary to have a correct institutional framework.

16

Conclusion Despite the economic importance of financial markets and institutions, emerging countries often suffer from a high level of corruption in this economic sector. The purpose of this article was to understand the institutional reasons for the importance of corruption in financial institutions in emerging countries. Based on the neo-institutional literature, our research aims to show the link between corruption and organizational isomorphism in financial institutions in emerging countries. This type of research is difficult since the central concept of corruption is by nature hidden. We have chosen therefore to use direct collection of data through interviews with 70 executives in 18 emerging countries. A questionnaire was built with various statements linked to a quantitative answer scale. This entitles us to use a quantitative methodology to analyze the collected information. The PLS approach was selected to test our theoretical model. The developed model provides an integrated approach to the study of the relationship between corruption and organizational isomorphism. Our empirical data allowed us to test various theoretical hypotheses. We have tested various key hypotheses concerning the influence of organizational isomorphism on corruption in financial institutions in emerging countries. In line with previous research, we have highlighted that the quality of institutional framework (including law, enforcement and quality of financial markets) have a negative influence on the level of corruption. The better the business environment, the lower the corruption. Coercive isomorphism is a key factor to explain various levels of corruption. Furthermore, mimetic isomorphism is also quite strong to explain the extent of corruption. Financial institutions in emerging countries tend to imitate each other in terms of behaviors. For example, a new financial institution in an emerging country may follow the corrupted behaviors of the other financial institutions. We have also tested two heterodox hypotheses. First, we showed that the higher the competition, the higher the corruption in the first period of economic liberalization will be. Financial institutions facing an increase of corruption may try to secure their rents by using unethical practices. Second, the increase of the politicization of the economy may also decrease the importance of corruption in financial institution in emerging countries. Both hypotheses are linked to the level of economic development of emerging countries. In such situations, the rules of the game are not completely secured and normalized. Therefore, firms may adopt corrupted behaviors to secure their market shares. At the same time, governments in emerging countries try to develop adequate and business friendly environments and therefore may have to interfere in private firms functions. This politicization of the economy may be necessary in the first period of institutional building to lower the potential for corruption. The limitations of our study are related largely to its sample. Despite being conducted in 18 countries, we conducted 70 interviews and therefore our results should be confirmed through larger samples. Another key issue is that only one executive was interviewed in each financial institution, with the assumption that one respondent could describe
17

completely and accurately the phenomenon. This is quite common in other research in the corruption field (Lancaster, Montinola, 2001). Our study shows that financial companies are largely influenced by their institutional environment in their choice of corrupted behavior to deal with governments. Since uncorrupted human capital is the engine of economic development (Wilhem, 2002), it is important for emerging countries to find ways to reduce the level of corruption. Considering the impact of both corruption and financial institutions on economic development (Mauro, 1995), further studies must be considered as a major challenge for economic decision markers and researchers. References

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Table 1. List of countries involved in the empirical research and number of questionnaires by country. Source: authors.
Country Albania Bosnia Bulgaria Croatia Czech Republic Georgia Hungary Kazakhstan Kyrgyzstan Latvia Lithuania Moldova Poland Rep Serpska Slovakia Slovenia Turkey Uzbekistan TOTAL Number of countries in the survey 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 18 Number of questionnaires financial institutions 4 2 2 6 6 2 1 3 1 6 1 3 15 1 6 6 3 2 70 in

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Table 2. Description of the sample according to the sampling criteria. Source: authors.
Description of the sample Capital city Other over 1 million inhabitants Between 250,000 and 1,000,000 inhabitants Between 50,000 and 249,999 inhabitants Below 50,000 inhabitants Total Small firms (less than 49) Medium firms (50-199 employees) Large firms (200+ employees) Total Financial stake by a Foreign company No Financial stake by a Foreign company Total Chief executive / President / General Manager Other high level executives Other managers Total Private companies State-owned firms Total Number respondents 27 3 11 17 12 70 35 19 16 70 25 45 70 25 17 28 70 50 20 70 of % of questionnaires 38,6 4,3 15,7 24,3 17,2 100% 50 27 23 100% 36 64 100% 36 24 40 100% 71 29 100%

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Table 3. Example of questions for the different concepts. Source: authors.

Concept Level of corruption H1. Intensity of competition H2 Unfair behavior by competitors H4 Quality of the business system H4a Quality of legal framework H4b Law enforcement H4c Quality of the financial market H5 Politicization of economic activity Question How often do firms like yours nowadays need to make extra, unofficial payments to public officials to gain government contracts?. Please rate the influence of the pressure from domestic competitors on key decisions about your business. Can you tell me how serious a problem are the following practices of your competitors for you firm? They do not pay duties or observe trade regulations. Can you tell me how problematic are taxes and regulations for the operations and growth of your business? Now, thinking about our countrys legal system, how often do you associate the following descriptions Fair and impartial with the court system in resolving business disputes Could you please rate the overall quality and efficiency of services delivered by the judiciary / courts ? Can you tell how problematic are the bank paperwork and bureaucracy for the operations and growth of your institution? How often does the government intervene in the investment decision of your firm?

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Table 4 : Intercorrelations between the various variables. Source: authors.

Unfair behaviors by competitors in financial service industry

Variable

Politicisation of economic activity

Quality of the business environment

Intensity of competition

Importance of corruption

Quality of public services

Quality of the legal framework

Quality of the financial market

Politicisation of economic 1,0000 activity Unfair behaviors by competitors -0,2039 1,0000 in financial service industry Quality of the business 0,2874 -0,3602 1,0000 environment Intensity of -0,0188 * 0,1254 * -0,2065 1,0000 competition Importance 1,0000 -0,2840 0,3743 -0,4214 0,3462 of corruption Quality of public 0,2571 -0,2005 0,0726 * -0,2913 1,0000 0,4621 services Quality of the legal 0,3889 -0,2078 0,1134 * -0,2467 0,5625 1,0000 0,4353 framework Quality of the financial 0,3126 -0,3694 -0,1271 * -0,3501 0,3094 0,3020 0,6262 market N = 70, All correlations are significant at P < 0.05, except for * where correlations are not significant.

1,0000

28

Table 5 : Description of variables. Source: authors.

Construct Level of corruption Intensity of competition Quality of the business environment Quality of the legal framework Quality of the public services Quality of the financial market Unfair behaviors by competitors in the financial service industry Politicization of economic activity Hypotheses H1 H2 H2a H2b H2c 7 6 10 5 11 5 Number of items Cronbachs 0.8633 0.8467 0.7916 0.6388 0.8391 0.8154 Rho of DillonGoldstein 0.8961 0.8875 0.8421 0.7765 0.8738 0.8717

H3

0.8898

0.9143

H4

0.8630

0.8919

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Table 6: Results of Partial Least Squares Analysis. Source: authors.

Factor Quality of the business environment H2a Correlation 0,4889 R2 Quality the legal framework Quality of the public services Quality of the financial market Contribution to R2 Path Coefficient T student

0,4353

14,3236

0,1609

1,7010

H2b

0,4621

20,1550

0,2133

1,7026

H2c Level of corruption

0,6262 0,3226 0,3462

65,5214

0,5116

6,3028

R2 Intensity of the H1 competition Quality of the business H2 environment Unfair behavior by competitors in the H3 financial service industry Politicisation of economic H4 activity N = 70, P < 0.05

28,5467

0,2660

1,6815

-0,4214

31,2682

-0,2394

-2,4143

0,3743

25,6494

0,2211

1,6391

-0,2840

14,5357

-0,1651

-1,5220

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Figure 1. Hypothesized model explaining the level of corruption in financial service firms in emerging countries.
Quality of the Legal Framework
(+) H 2a (+)

Quality of the Financial Market

H 2c

Intervention of Government in Firm Activities

H 4 Politicisation of Economic Activity

Quality of the Business Environment

H 2 Coercive Isomorphism (-)

(-)

H 2b (+)

Quality of the Public Services

H 3 Mimetic Isomorphism

Level of corruption

Unfair Behaviors by competitors in the Financial Service Industry

(+) H 1 Competitive Isomorphism

(+)

Intensity of Competition

31