____________________________________________________________________________________

From Angola to Kazakhstan: How to Cure Corruption in Oil Rich States

by Jonathan Reingold

5/14/04

The Upside Down World news

"I know what I was doing was wrong and unlawful," says a thin and graying J. Bryan Williams, speaking slowly into the microphone as he reads his guilty plea. "I believe I acted in concert with others," he adds in monotone. But when the judge asks him who is "CC1"—the still secret holder of another offshore account at the same Credit Agricole Indosuez bank—he is at a loss for words. Fortunately, the young prosecutor is eager to assist the defendant and jumps up to announce that Mr. Williams is not required to reveal his co-conspirators.

Welcome to the oddities of a plea bargain. However, in this case, the US Attorney's Office for the Southern District of New York is willing to deal because of the prospect of catching bigger prey. J. Bryan Williams represented Mobil Oil in Russia, back when it was still the Soviet Union. In 1996, Mobil sent him to the Central Asian Republic of Kazakhstan to conclude an agreement for a $1bn, 25% stake in the Tengiz oil field, the largest field discovered in the last thirty years.

Spurred on by the prospect of what might be the largest violation ever of the 1977 Foreign Corrupt Practices Act, of which Williams's crime is but a small part, prosecutors claim Mr. Williams kept $7m in unreported income in a Swiss bank account, including kickbacks amounting to $2m from the Tengiz deal paid to him by James Giffen, an American business consultant. Mr Giffen was chairman of New York merchant bank Mercator Corp. and special advisor to the President of Kazakhstan, Nursultan Nazarbayev.

Giffen, arrested on March 30th, 2003, was indicted on charges of channeling over $78m in payments from Mobil and other western oil corporations to senior Kazakh officials. Reportedly, President Nazarbayev controlled at least one of the Swiss bank accounts in which the money was discovered.

As a news assistant for the London Financial Times, I was sitting in the courtroom listening to the government's evidence against Mr. Williams. Between 1993 and 2000 he had maintained a secret bank account under the moniker Alki holdings, a fake company apparently designed solely so that he could evade over $3.5m in taxes. When the defense counsel responded that there was "no legal defense that would prevail in trial," there was little left to discuss.
Williams never admitted that the payments he received were kickbacks, although I watched him declare that the $2m he received in 1996 were from "people, organizations and governments for whom I did business on behalf of." All the same, "kickbacks" are exactly how the government described them in the plea bargain agreement.

That day, June 13th, 2002 J. Bryan Williams pled guilty to conspiracy to commit fraud and tax evasion, and agreed to a sentence of 46 to 57 months with no appeal. He also had to pay all the owed back-taxes.

As for Mobil, which became ExxonMobil after the 1999 merger, the giant oil major is doing its best to distance itself from the scandal. Ted Wells, counsel for ExxonMobil, told reporters outside the courtroom that the company was not a "target "of investigations involving bribery, and that ExxonMobil, as Williams testified, had no knowledge of the secret payments. However, as early as April 2003, a US prosecutor said Mobil is a "subject" of the investigation, which has been underway in the US for the last three years.

Switzerland first launched investigations earlier, in 1999, during which time it froze over 12 Kazakh bank accounts, upon suspicions of money laundering. When the Kazakh government tried to lean on the Swiss to back off, the Swiss responded by sending the US Department of Justice documents from the case. The documents provided the DoJ with the evidence to indict James Giffen and J. Bryan Williams. Giffen had negotiated almost all of Kazakhstan's big oil agreements of the last decade, including the Kashagan offshore field, one of the six financial transactions that the indictment details. Notably, a Washington DC law firm, representing the Republic of Kazakhstan, lobbied the US Deputy Attorney General to intervene in the Giffen investigation and even met with Southern District of New York prosecutors in a failed attempt to secure a guarantee that President Nazarbayev would not face indictment.

To play ball in Kazakhstan, most of the American and European majors paid signature bonuses (a normal component of the bid process to demonstrate commitment by the companies), not to the Kazakh treasury but rather to bank accounts specified by the government. US prosecutors assert that the money was then moved piecemeal to another account or shell company and so on until it finally landed in accounts held by Giffen, President Nazarbayev, Williams and others.

Some might say that a little corruption in business is harmless, maybe even necessary. After all, outside the United States, bribes are often a completely legal and acceptable practice. In France and Germany for example, until only in the last few years corporations were allowed to deduct "commissions" (a euphemism for bribes) on their tax returns, a far cry from the supposedly highly ethical American business standard. All the same, an $80m bribe divided between a President, government officials, his American consultant, and a senior vice president at Mobil is a little excessive. An April 2, 2003 US Attorney's Office for the Southern District of New York press release does not waste words: "In making these unlawful payments, Giffen also defrauded the people of Kazakhstan out of the honest services of its officials, defrauded the Republic of Kazakhstan out of millions of dollars from these oil transactions, and laundered money to promote and conceal his crimes."

It is hard to have sympathy for anyone involved, except for the people of Kazakhstan who are denied the benefits of their plentiful natural resources. Labeled the "Dutch Disease" or the "resource curse" by journalists, political scientists and economists, there is often a lack of GDP growth in countries with copious natural resources, compared to countries with few natural resources. The idea is that the natural resource, oil in particular, is prone to corruption, and, moreover, the profits it creates go largely offshore. In the case of offshore drilling, such as off the coast of Angola, the joke is that the oil is offshore and the profits stay offshore. Corruption often occurs when the host-government decides to invite multinational oil or mining companies to explore and later exploit their resource potential. This is logical, because multinationals are the only organizations with the capital, technological know-how, economic incentive and ability to take such large risks. The problem is that sometimes, middlemen, such as Giffen, quickly place themselves between the host-government and outside investors, and while negotiating on the government's behalf take hefty fees and collect payments from both sides.

What constitutes a hefty fee? When Giffen closed a 1993 deal for Chevron's stake in the Tengiz oil field, he reportedly charged $0.075 for every barrel produced. Although the full contract is still secret, it is believed that Tengiz contains as much as 9bn barrels of
crude. That's a potentially $675m broker's fee.

NGO's such as Global Witness, Transparency International, and, more recently, billionaire financier George Soros, have been pressuring oil companies to publish what they pay since at least the late 1990's. They have published exposés, such as "All the President's Men," by Global Witness, on the looting of state revenue in the war-torn Sub-Saharan nation of Angola. Implicated parties include Angolan President Jose Eduardo Dos Santos, French President Jacques Chirac, complicit multinational oil companies, international banks, and an eclectic coterie of other characters from arms dealers to members of the US Administration.
In Angola, Global Witness even managed to pressure British Petroleum into disclosing its signature bonuses. However, in 2000, after BP Exploration disclosed its payment of an $111m signature bonus for Angola's block 31 and promised to continue to disclose its annual production and payments data, the Angolan state oil company and concessionaire, Sonangol, threatened to cancel BP's production sharing agreement. Making an example out of BP, it quickly put an end to any other oil firm stepping up to voluntarily disclose its payments to the state.

Both Kazakhstan and Angola offer prime examples of how countries rich in oil can suffer, albeit in varying degrees, in economic development and political stability because of the very commodity that they see as their greatest hope. However, the resource curse theory fails to fully explain the cases of Kazakhstan and Angola, both countries that have experienced relatively modest to high GDP growth in recent years, but little or no economic development in other sectors besides the oil industry.

The seemingly guaranteed continuous stream of oil revenue gives the government a disincentive to spend productively, stimulate diversity in the domestic economy and its exports, and establish a system of checks and balances that will make it easier for the government to borrow at reasonable rates. Currently, the IMF refuses to grant structural adjustment loans to Angola, because the government apparently cannot account for billions in missing revenue. But why should Angola clean up its accounting so it can borrow millions from the IMF when it is earning billions from oil? Moreover, because the government needs to spend now, it borrows from international banks at high rates and relies on oil-backed loans from Export-Import banks (which exceed IMF limits). The result is an extremely inefficient allocation of resources, with a large portion of oil revenue going to finance loans at high rates of interest. Ensuring the preservation of the status quo, there is no incentive for the government to crack down on corruption, as long as oil money is flowing.

A high GDP from oil revenue can mask serious problems in a country's economy, such as high unemployment and high inflation. The constant stream of this revenue, currently $3bn/year in Angola, is almost single-handedly responsible for its average GDP growth rate (since 1995) of 6.6%. Inflation, however, stood at 2600% in 1995 and 108% in 2002.

It is high time that steps are taken to eliminate the dichotomy described in the resource curse and the oil masking effect that I described, which is essentially the Dutch Disease. The majority of the profits from oil exploitation should go to the people who live in that country. This is not an absurd idea. Since 1978, Angolan Law has stipulated, "'all deposits of liquids and gaseous hydrocarbons...belongs to the Angolan people.'"

A question worth asking then, is how to keep governments of oil-rich developing states from engaging in corrupt acts and stymieing economic growth and political stability in their countries. Using international pressure to curb corruption and promote transparency in the transactions between multinational oil companies and host-governments is a logical place to start but is by no means an easy task. NGO pressure campaigns directed at the oil industry can only go so far. Individually, oil companies will not voluntarily publish what they pay around the world, unless they are forced to do so universally. The prospect of universal regulation is very slim, but worth exploring, especially the prospect of global cooperation between securities commissions to implement consistent disclosure rules for resource extraction companies.

Intuitively, one might think oil companies would benefit if transparency and accounting standards were monitored and enforced universally. The current undisclosed signing bonuses would lose their allure as the amounts would be public knowledge and citizens would have access to crucial information, namely state revenue. They could then be in a better position to hold their government accountable for where and how it spends their money. A level playing field would be promoted in the market for oil exploration and drilling, leading to the company best able to fulfill its contract-winning bid, instead of the highest signing bonus or bribe ensuring its stake. Who would lose with mandated transparency? Corrupt government officials, foreign middlemen and, frequently, arms dealers. If only it were that simple.

One problem is that greater transparency does not automatically translate into greater efficiency, lower signing bonuses, and thus decreased opportunity for officials in the government to steal state revenue. In many cases, signing bonuses are above board, and they are still outlandishly high, sometimes even higher than if they were bid secretly. The real problem is where the money from the signing bonuses goes, and the outright bribes that all too often decide if a company will win a contract or not. Therefore, the problem is not necessarily the legal signature bonus tool, but the lack of uniform disclosure standards. Here is the crucial question: how much does the winning company pay for a contract and where does the money from the signature bonus and any other payments go?

Next, if the aim is to enforce uniform disclosure standards and undermine the effects of the resource curse, two fundamental questions follow: First, does an existing regulatory body have the authority and ability to enforce disclosure of payments by multinational oil firms globally? As will quickly become apparent, the solution does not lie in one agency alone enforcing its will, but rather in multiple international bodies, state actors and non-state actors collaborating to deter corruption, recover stolen state assets and design the proper incentives for oil-rich countries seeking financial assistance. The UN Convention Against Corruption, the Extractive Industries Transparency Initiative, the G8 and the World Bank/IMF should all be fully utilized to this end. Second, considering political realities, should disclosure by oil companies, and, equally important, host-governments, be voluntary or regulatory? While I am not satisfied that voluntary treaties will reach the most severely afflicted countries, I see little hope of enforcing regulatory standards on countries against their will. Disclosure of payments by publicly traded oil companies should be regulatory across the board; the IMF and World Bank should only offer below market rate loans to Highly Indebted Poor Countries, with loans conditional on public audits for the duration of the loan as well as adoption of the Extractive Industries Transparency Initiative if it proves effective; and, the IMF and World Bank should engage in more aggressive debt forgiveness for such countries.

No doubt, the key to mitigating the resource curse and corruption is to strike the right balance in the tactics used by the World Bank Group, the UN, and foreign governments, so that international law deters corruption, multinational corporations are held to universal standards of transparency, and the loans of international finance institutions are made on soft terms, conditional on transparency, and do not perpetuate increased investment in extractive industries.

Jonathan Reingold is a senior at Bard College in New York. He has written for the Financial Times and is a former research assistant at the World Policy Institute. He can be reached at jr345@bard.edu.

Note: Special thanks to my advisor, Prof. James Chace for reading drafts of this thesis and for his invaluable edits. I would also like to thank Prof. Sanjay DeSilva for reading a draft of Chapter One and for his much appreciated input.

Click here to go home

UPSIDE

DOWN

WORLD

 

"If the world is upside down the way it is now, wouldn't we have to turn it over to get it to stand up straight?" ---Eduardo Galeano