On Reforming Enforcement and Inspection Bodies: New report from OECD

As citizens, we have various relationships to the state. We interact with traffic police, school teachers for example, nearly every day. Businesses are different in this regard. The relationship between businesses and the state is more limited. The predominate interaction between businesses and the state is via regulation enforcement and inspection. This interaction is important to the health of the economy and the general wealth of citizens, as a good relationship fosters economic progress while a bad relationship hinders it.

Yet the Organisation of Economic Cooperation and Development (OECD) has pointed out in a recent report that enforcement and inspection gets too little attention when states attempt regulation reform. The report, “Inspection Reforms: Why, How, and With What Results” was written by Florentin Blanc, an employee of the International Finance Corporation (IFC) and presented at the OECD workshop on Regulatory Enforcement and Inspection in Jerusalem in October 2012.

What follows here is a short summary of Blanc’s work. This report is significant for Ukraine for a number of reasons. The first is the obvious need to improve regulatory enforcement and inspection in this country. The current system is overly burdensome, non-transparent and arbitrary for both businesses and the state. The second is the need to shift the focus of reform from improved legislation to actual improved outputs. Blanc’s conclusions concerning the need to focus on public good rather than regulation compliance is important to consider.

In the report inspections are defined as “visits conducted by state regulatory agencies…usually neither requested by, not paid for…by the objects they visit” and includes revenue inspections (tax/customs). The term ‘enforcement’ is also important, as it covers “controls conducted by regulatory agencies and all of their potential follow up measures…as well as activities of law-enforcement bodies that are not primarily business regulators…” It is important to point out that the focus of the report is the relation between businesses and state regulators, not between the state and individuals. That relationship is different and not discussed here.

The focus on inspection of, rather than on regulation concerning, businesses is significant. On the one hand, as has been mentioned earlier, inspections are how regulation is most keenly felt by businesses. It is often the only relationship between a business and the state. No matter how well written a regulation is, poorly run inspection means failed regulation. Inspections are as much about the culture of the state institutions meant to conduct them as they are about the regulations that the inspections are based upon. This makes inspections more difficult to reform; regulations can be eliminated but inspections cannot because they are part of the very institution of the state.

Inspections are a burden on businesses and on the state. That burden must be justified with an outcome that is proportional to the amount of public good the inspection asserts. Just how much burden is felt by businesses and the state is therefore important to establish. Blanc begins by outlining the burden on business. The biggest are burden he points out is lost time and the direct costs of inspections. These are the easiest to quantify and are a good yardstick for other burdens as well. But even here there are measurement problems. One example is the importance of not confusing the time it takes a business to teach itself the rules and the time it takes to prepare for an inspection.

Another burden on business is the effect on investment that inspections have. Opaque regulation, or merely misunderstanding requirements, makes it more difficult to take the risk involved in running a business. Antiquated requirements can also limit modernization within businesses. This in turn has an adverse effect on regulation compliance, as business are more concerned with avoiding sanctions than actually following rules.

Inspections are also are burden for the state. Burdens begin already with the very goal of inspections. States very rarely ask the question if the inspectorate’s mandate is to assure compliance or to increase the health and safety of the populace. The answer to this question depends on the legal tradition of the country, as well as the institutional tradition of the inspectorate. Blanc argues that inspectorates focused in regulation compliance are a greater burden for the state then inspectorates that are more oriented towards improved societal outputs. “Outcome focused inspectorates prioritize activities that yield the best results in terms of cost-benefit ration and [are] relatively neutral as to the actual number of non-compliances.”

After addressing the burdens of inspections for both business and the state, the report goes on to analyze the characteristics of inspection practices in states that have not reformed inspections. The first characteristic is the lack of transparency in the inspection process. This includes opacity of rules and information, a lack of clear mandates between institutions and the existence of inspectorates that do not have a clear public good.

States that have not reformed inspection system also are characterized by failure of coordination between national and local inspections. Just how national and local institutions relate to each other is dependent upon the overall political and constitutional structure of the state. Regardless of the make-up of a given state, Blanc argues that the allocation of inspection functions has not been based on optimal solutions but rather on other factors. This means that inspections are being performed not by those most appropriate for the task, but by those that have either taken the position or have been assigned it for various reasons not related to the task at hand.

Another inherent problem of unreformed systems has been the competence of the inspectors themselves. The qualifications of inspectors tend towards technical expertise rather than actual inspection skill. This means that those with a skillset most suited for conducting inspections may not be given a position because of a lack of particular expertise. It also fosters a culture of uniqueness that hinders inspection cooperation between inspectorates; one inspectorate’s expertise isolates them from another inspectorate’s expertise, even if the inspections they perform could benefit from cooperation.

Perhaps what characterizes an ineffective inspection system the most is the failure to apply risk-based planning. There is a tendency to try to inspect everything without considering that threats to public health are most likely found in a small number of businesses and those threats occur according to a certain pattern. Taking account of risks receives lip-service in most countries, but very few actually apply risk-based planning. Unfortunately most inspections appear to be done at the discretion of the inspectorate or of the individual inspector without regards to actual threat to the health of the populace.

How then is a state to reform inspections? The report divides reform into what can be interpreted as three different, but fluid, phases. The first phase is to recognize problems and mobilizing support to affect those problems. Problems associated with this phase begin already with terminology. On the one hand many businesses view regulations as burdensome per se, not realizing the benefits of effective regulation. At the same time there exists confusion at the state level as to the similarities between the various enforcement and inspection agencies. It is assumed that inspections are themselves too different to be reformed in a similar way. How are inspections alike so as to be reformed in a similar manner?

It is necessary to diagnose inspections in order to see similarities and problems. Diagnosing can be done in different ways, according to Blanc. The best is to combine qualitative and quantitative assessments. These assessments should then influence consultations with businesses, regulators and other stakeholders.

In the end the support of the state for reform is only as strong as the power of other stakeholders to drive reform. These drivers could, and should, include important business interests, be influenced by the conditionalities of external assistance, and most important, public opinion.

Blanc then addresses another phase of reform, that of defining the goals and approaches to reform. It is important for any state wishing to reform inspections to have clear objectives. The most common objectives are greater effectiveness, improved efficiency and reduction of administrative burdens. Indicators and benchmarks are necessary in order to achieve the objectives set out by the state. Some indicators include areas of burden, targeting, the use of new inspection tools, information and compliance promotion and resource allocation.

The final phase is concerned with the emphasis of reform. A problematic inspection system cannot be completely overhauled all at once. Reform is dependent upon priorities, and the need to address the most acute problems. Blanc provides some examples of priorities including the development of risk-based models, the elimination of duplicate inspections, institutional change, change in approaches and tools used by an inspectorate, etc.

In the end there is no guarantee that a given reform will be successful. The phases that Blanc proposes are means to improve the chances of a successful reform. In addition to that, Blanc has a number of other suggestions to implement reform successfully. The first is the establishment of a strong legal document that “sets the principles, goals, targets and requirements according to which enforcement agencies are to transform or conduct their work.” There needs to be a coordinating mechanism that ensures that as much as possible the reform process occurs together with the actual inspections. These should be support units and structures, for example a specific team designated to drive the process forward.

A real reform of enforcement agencies and inspectorates in Ukraine is perhaps a long way off at this point. But some success has been made in 2012 with regards to regulatory reform. It would make sense to take some of the recommendations of the OECD report and try to shift reform from law-making to actually improving the public good at the level of the individual business. While this might not solve all of Ukraine’s problems with regards to inspection reform, it might make those reforms that are possible better felt by the greatest number of people. This in turn could turn the tide of public opinion and put pressure on policy makers to increase the reform tact.