Committing to civil service reform : the performance of pre-shipment inspection under different institutional regimes

If the only solution tried for customs corruption and evasion in a developing country is to outsource certain customs functions to a pre-shipment inspection (PSI) company, PSI will prove more of a fiscal burden than a panacea. PSI works best in countries where the customs service already performs fairly well-by reducing the costs of catching evaders. Typically a developing country's customs service brings in a large share of its revenues and accounts for an even larger share of its corruption. One prescription popular among development agencies for reducing corruption and customs evasion by importers has been to outsource certain customs functions to pre-shipment inspection (PSI) companies. More than 35 countries employ PSI as a second-best solution to corruption in customs collection. But whether PSI companies are an effective alternative to comprehensive civil service reform has been widely questioned. The success of PSI contracts depends on the institutional environment-the formal and informal rules of enforcement that affect different agents'incentives-but the reasons for PSI's success or failure in different institutional settings have not been well understood. Johnson presents a simple model highlighting the principal-agent problems in a typical PSI contract. Based on his conclusions, he suggests that PSI should be thought of less as a second-best alternative to customs reform (in countries where the customs service performs poorly) than as a cost-effective complement to reforms in"intermediate"cases (countries where the customs service already performs fairly well). PSI could help in these intermediate cases by reducing the costs of catching evaders. This would make it easier for the ministry of finance to maintain separate reforms to eliminate corruption between customs and importers. In countries where the customs service is powerful-ishighly independent and controls the country's borders-and where the government does not have the institutional ability to put through the complementary reforms essential for using PSI successfully, introducing a PSI contract will add to the burdens of public finance rather than provide the hoped-for panacea.