k The World Bank S j ~~~~~~~~~~MAY NUM BE R 53 ECONOMIC POL!CY Increasing the effectiveness of 22680 preshipment inspection services Preshipment inspection services can improve customs administration, but they are no substitute for comprehensive reform. Preship n ien t in spection-i refes-S to the ver- effectiveness of presllip inenit inspection ser- ification of unit prices as well as the exanm- vices; for a comprelhensive assessimient of inatioIi and reporting of the quantity and preshipment inspection issues through quality of exports before they are shipped 1994, see Low (1995). Preshipment Lo the importing countrv. Preshiipment inspection can help control overinvoicing Use e pye-shipment ~nspedw inspection offers or underimvoicing of impor-ts, misclassifi- 6i B 7M ( C catiOll of imuports, undercollectioni of taxes The 1993 ratificationi of the WVorld Trade benefits for customs oii imiiports, anti mnisappropriation of Organization'sAgreement on Preshipment dlonor fitnds provided for import support. Inspection gave preshipment inispectors authorities in Other possible benefits of preshipment new legitimacy in international trade. Since inspectioni include nmonitoring of or-igin then the number of countries using pre- importing countries anid of coinpliance with national regula- shipment inspection has increased from 27 tionls anid tariff exemption schemes, bet- to 37, with Africa having the inost active tier data management, technical assistance programs (table 1). and training, trade facilitation, and con- Perhlaps the most striking change in sumiier protection. recent years has been the increase in Preshipment inspection services can pro- the nuniber of split contracts. While in 1993 X ide information that is not readily available Peru was the only Latin American country to customs authorities in small countries. allowing imporler-s to choose the company Stich services are provided by private com- they, wish to employ from a pre-approved panies in the exporting country. TIhus pre- list, in 1999 all Latin American user coun- shipment inspection can be thought of as a tries had adlapted this approach. This change temporar-y quasi-privatization or contract- has allowed mor-e providers to participate. ing out of selected ctistonms function-s to Iran's program involves 16 providers of nmeet specific objectives. inspection services. Of the various objectives for customs The shift in preshipment inspection work r eform, trade facilitation is arguabl) the away from capital flighlt and overinvoicing mnost important for efficiency and growth. toward customs and underinvoicing is Because of the potential long-term gains reflected in recent contracts. In 1993 all fromn reformn, governments should focus on active contracts embodied at least a small implementing an effective program for amount of capital flight work, but today customs modernizatioin and institutional most contracts focus exclusively on customs reforini and not view preshipinent inspec- work to tminimize opportunities for tax eva- tion services as a substitute for this effort. sion-reflecting today's more liberalized This note reviews recent evidence on the capital regimes. FROCM THE DEVE.OPMENT ECQONO,,fiCS VJCE PRESIDENCY AND POVERTY REDUCTION AND ECONOMIC MANAGEMENT NETWORK TABLE 1 ACTIVE PRESHIPMENT INSPECTION CONTRACTS, JUNE 1999 weaknesses in customs admiinistratioin. Region/country Type of contract Type of competition Wherever feasible, a prefer]red approach would combine a relatively open capital Afnica Angola Customs/foreign exchange Monopoly account (reducing incentives for overin- Benin Customs/foreign exchange Monopoly voicing as a capital flight mecchanism), trade Burkina Faso Customs Monopoly liberalization (reducing incentives for Burundi Foreign exchange Monopoly underinvoicing as a tax evasion mecha- Cameroon Customs Monopoly nism), and local institution buiilding airned Central Afrian Rep. Customs Monopoly at improving all customs functions. Comoros Customs/foreign exchange Monopoly COte d'Ivoire Customs Monopoly ~~~~~~~But a practical tension oftenl arises. Insti- Cote d'lvoir(! Customs Monopolyr Congo, Dern. Rep. Customs Monopoly tution building and structural reventie Ghana Customs/foreign exchange Geographic segmentation (4) changes take time. Shorter-term reventie Guinea Customs Monopoly requirements are often pressing in cotntries Kenya Customs Geographic segmentation (3) that rely on trade taxes as art important Liberia~~~~~~~~~~~~~~ta Custom ontrdnopoly w mprtn Liberia Customs Monopoly source of government reven tie. Different Madagascar Customs/foreign exchange Monopoly o Malawi Customs Monopoly views on the effectiveness of preshipnerit Mali Customs/foreign exchange Monopoly inspection reflect different policy priorities Mauritania Customs Monopoly as well as a lack of clear empir ical evidence Mozambique Customs/foreign exchange Monopoly on impact. Consider the threce main funlc- Niger Customs/foreign exchange Monopoly tions of preshipment inspection. Rwanda Customs Monopoly Senegal Customs Monopoly Sierra Leone Customs Monopoly Disbursement verfzcation Tanzania/Za:nzibar a Customs/foreign exchange Monopoly Low (1995) finds that the World Bank's pol- Togo Customs/foreign exchange Monopoly icy of encouraging governmei ts to use pre- Uganda Customs Monopoly shipment inspection-and somnetimes Latin America requiring it as a loan condition-has been Argentina Customs Importers' choice (6) driven by concerns about the use of donior Bolivia Customs Importers' choice (2) funds. This rationale is in liine with basic Colombia Customs Importers' choice (3) Ecuador Customs Importers' choice (4) r g l o i Mexico Customs Importers' choice (3) documentation for investment operations. Paraguay Customs Importers' choice (2) In addition, the desire to ensure the efi- Peru Customs Importers' choice (3) cient use of funds through a tr ade verifica- East Asia tion procedure is relevant fc:r loans with Cambodia Customs Monopoly disbursements that are linked, not to the Philippines Customs Monopoly inputs needed to implement specific invest- South Asia ments, but rather to balance of paymnents Bangladesh Customs Geographic segmentation (3) support through procurement of general Middle East at d North Afnca imports. In such cases there is :i need to ver- Iran Quality/quantity Importers' choice (16) ify that prohibited goods are not procured Europe and Central Asia or that agreed goods are procured. 'Where Uzbekistan Foreign exchange Monopoly governments have pooI statistical capac- Note:A foreign exchange contract is designed to monitor capital flight. Numbers in parentheses are the ity, preshipment inspection car provide tlse- numberofservice providers. ful evidence. But no study exists on the a. Tanzania and Zanzibar have separate preshipment inspection programs. Tanzania has an exclusive benefits and costs of alternative forms of contract with cctccna covering customs, while Zanzibar has one with SGS covering foreign exchange. disbursement verification. Saairce: Preshipne ,at inspection companies. Revenue collection Usefulness of preshipment Probably the most important reason that gov- inspection services ernments seek preshipment inspectionser- In general, preshipment inspection is a sec- vices is to deal with inefficient or corrupt ond-best policy for countries with serious customs administrations. Suclh administra- PREMNO-rE 53 MAY 2001 tioIis introduce distortions through wide- under the World Trade Organization's Pre- spread evasion of trade taxes, either through shipment Inspection Agreement. A plausible misspecification of quantity, misclassification explanation is that affected firms must file of tariff heading, or undervaluation of goods. complaints as identifiable corporate entities, It is not easy to directly assess the costs and which they may be reluctant to do for fear benefits of preshipment inspection in this ofjeopardizing commercial relationships. area. Preshipment inspection services are On the other hand, the Indonesia Cham- often introduced at the same time as policy ber of Commerce has argued that preship- reforms affecting revenue collections and ment inspection facilitated trade by speeding customs performance, and the full benefits up the de-douanement (clearing of customs) depend on other government actions. More- process. This is an area where further quan- over, many preshipment inspection programs tification of impact would be helpful. The have been poorly implemented by adminis- ultimate objective for customs should be a More research is trations that did not want the services because fully integrated export and import system they would reduce available rents. based on a single submission of minimal con- needed to quantify Although reported revenue savings gen- trol data for all official purposes, backed erally exceed preshipment inspection fees- by upgraded information systems and tech- the impact of which are about 1 percent of the value of nical staff trained in risk assessment and pro- inspected goods-case studies suggest that filing (see UN 1995). With recent advances preshipment the information provided bv preshipment in information technology, automation, inspection companies has often been dis- Internet use and electronic data inter- inspection regarded, so potential revenue increases change, and business practices such as risk have not been realized. Revenue collection management systems, such an approach shortfalls of up to 50 percent are reported should be feasible for most countries if there to have occurred in some countries. is political will for change. Unless governments consistently use a rec- Overall, for preshipment inspection to onciliation system and act on generated infor- make a positive contribution, it appears mation, preshipment inspection will not cssential to ensure: contribute much to revenue collection. For * Transparent procurement rules for the stustainable revenue collection, customs mod- preshipment inspection contract. ernization and institutional reform are also * Preshipment inspection values and clas- needed, and should specify how preshipment sifications are an integral part of import inspection services will be phased out over documents. time. Ideally, this should be a prerequisite * Good use of provided services (with rec- for any country signing a preshipment inspec- onciliation by the ministry of finance as tion contract (see Low 1995, ch. 3). a minimum). * Arbitration provisions to settle disputes T'rade facilitation swiftly without holding up goods. Opponents often argue that preshipment * Enhanced competition for service pro- inspection hinders the flow of goods with vision and fee setting (see below). the rest of the world. They point out that at best, preshipment inspection creates a series Options for increased of additional costlv steps for traders-and competition at worst, results in further costs and delays How can preshipment inspection services when customs authorities duplicate control be made an effective transitional instrument functions and question the findings of pre- for improving revenue collection and facil- shipment inspectors. The extra cost is itating trade? alleged to be especially burdensome for small exporting firms. Competition anmong service providers Most evidence in this area is anecdotal, A caieful assessmenit is needed of thle bene- and not a single complaint has been lodged fits and costs of parallel competition (split PREMNOTE 53 MAY 2001 contracts) and serial competition (bidding responsible for customs modernization. If for a time-bound monopoly franchise, either the company is successful in customs mod- at the country level or within a certain area). ernization, it closes off far miore profitable With split contracts, the benefits of compe- flows from preshipment inspection work. tition need to be weighed against higher trans- Governments should consider separating actions costs and possibly perverse incentives. preshipment inspection support from ctIs- With advances in information and control toms modernization assistance. This does technology, the government's transactions not preclude governments tfrom ulsinlg the costs in monitoring several suppliers and customs modernization skills ofpreshipment ensuring effective reconciliation need not be inspection companies, but n-terely enstures significantly more burdensome. But split con- that a distinct agent be respoln sible for mod- tracts can create conflicts of interest, because ernization. That agent coitld inclucle a Govern ments importers may threaten to swvitch to another preshipment inspection coil any not par- service provider if they are not assessed suf- ticipating in the country's -reshipment should consider ficiently low duty payments. It wvould be use- inspection work. Such unbunciling can facil- ful to explore why so many Latin American itate different fee structlres for distinct lines separating countries have adopted this model, and what of business, making it easie:r for prices to other forms of parallel competition might be reflect services rendered. preshipment conducive to increased competition. For serial competition, the challenge is to Further reading inspection support design and supervise a bidding process that Dutz, Mark. 2000. TYhe Use atnd UseftuIlness awtvards contracts often enough to render the of PSI Services." In Pre-Shlnpment In.sper- from customs market contestable. With both contract tion:PastExperiencesandFtwureDirections. options, termination clauses are desirable for Trade and Enterprise Paper 2. London: modern i zati ofn poor performance. It would also be desirable Commonwealth Secretari:at. to explore the commercial feasibility of allow- Low, Patrick. 1995. Preshipmen, Inspection Ser- assistance ing fuller price competition, where pricing vices. World Bank Discussicon Paper 278. reflects actual services rendered rather than Washington, D.C. the current ad valorem practice. For instance, UN (United Nations). 1995. "Customiis- bulk goods such as wheat or petroleum could Facilitation and Control." Trade/WP.4/ be exempted or should face lower fees. R.1130. Economic Conmmission for Europe, Economic and Social Council, Competition to strengthen customs Working Party on Facilitation of Inter- administration national Trade Procedures, Committee Eveen thoughi presliipmIieiit illspectioII ser-vices on1 tlie Developiuiert of Trade, New YoX-k. are described by the industry as temporary, a number of countries have becn using them This note was written by Mark Du tt. (SeniorEcon- for more than 10 years without concomitant omist, Development Research Group, Develop- customs modernization. Although one pos- ment Economics Vice Presidency). It is based on sible solution is to insist on a clearer link Dutz (2000). between preshipment inspection and cus- Ifyou are interested in similar ipics, con.sider toms reform, there may be a basic conflict of joining the Trade and Competiti7u ness 7hematic interest in appointing a preshipment inspec- Group. Contact Dorsati Madanw, x37925, or tion company as the primary external agent click on Thematic Groups on PR''IlMnet. This note series is intended to summarize good practice and key policy find- ings on PREM-related topics. The views expressed in these notes are those of the authors and do not necessarily reflect the views of the Worlki Bank. PREM- notes are distributed widely to Bank staff and are also available on the PREM website (http://prem). If you are interested in writing a PREMnote, email your idea to Sarah Nedolast. For additional copies of this PREMnote please contact PvenyReduconandEenoomieManooomeR the PREM Advisorv Service at x87736. Prepared for World Bank staff