Dirty Laundry

If the West really wants to prevent developing countries from laundering money, it can start by cleaning up its own act.


In case you haven’t noticed, there is little enthusiasm left for sending money to the governments of developing countries as a means of digging their economies out of extreme poverty. In part, that’s because some emerging-market countries (think China and India) are growing nicely without aid, while some big recipients (think Tanzania and Pakistan) have largely squandered it. Worse, aid programs are dogged by scandal, as corrupt elites appropriate the goodies — and in some ironic cases, return the loot to their own bank accounts in donor countries.

Indeed, if these wayward funds could be redirected into productive uses in recipient countries, it could replace a good chunk of the aid that now comes from governments. Reducing the portion of the dollars that arrive as foreign aid and flow out as predators’ assets would also help rebuild the discredited case for official development assistance. Hence the new interest in measuring (and containing) illicit cash crossing borders.

Illicit fund flows (IFFs for short) come from many sources. But the most prominent have been infamous kleptocrats — among them Gen. Sani Abacha of Nigeria, Vladimiro Montesinos, the former head of Peru’s secret police, and, most recently, Hosni Mubarak of Egypt. All three dipped freely into their countries’ treasuries, parking much of their booty overseas in the form of luxury houses in the south of France or London, or as bank deposits in Jersey or Switzerland. The problem is so large that the World Bank and the United Nations started a program called the Stolen Asset Recovery Initiative (StAR) in 2007 to help victimized governments recover assets.

Kleptocracy is by no means the only source of IFFs, though. Tax evasion is almost ubiquitous in the developing world (at least among the wealthy), and it is likely that much of this money also ends up in deposits overseas. Trade mispricing – e.g. exporting goods for less than they’re worth and collecting a kickback at the other end — is a major channel for moving corporate profits overseas into less heavily taxed jurisdiction.

Some observers believe that criminal markets, such as drugs and human trafficking, are also important sources of illicit flows. But it is more likely that, on balance, they generate illicit inflows: Colombian drug dealers have wanted to repatriate enough of their earnings abroad that, in periods of currency restrictions, the official rate for Colombian pesos has been below that in the black market.

Note, moreover, that "illicit" is not the same as "illegal." When Ugandan officials negotiate sweetheart oil leases with side payments to their personal accounts, one consequence is higher revenues flowing out in the form of oil company profits. Those profits may be legal; but as the result of the corrupt negotiations, a share might reasonably be called illicit. The Extractive Industries Transparency Initiative, created in 2002 as a cooperative effort of 35 resource-rich countries, aims to prevent such corrupt contracting. But even if successful, existing contracts will be generating illicit flows for the foreseeable future — no reason, after all, to waste a good bribe on a short-term deal.

How large are IFFs in total? The phenomenon has been much-discussed at G20 meetings and other high-level confabs since the 2005 publication of Capitalism’s Achilles Heel: Dirty Money and How to Renew the Free Market System by Raymond Baker (now the director of the non-profit, Global Financial Integrity). Startlingly, no research on the subject has appeared in the mainstream economics literature. The only estimates come from the advocacy community, and are troublingly, even implausibly, large. Global Financial Integrity says the figure is about $1 trillion per annum — dwarfing total development aid, which is in the neighborhood of $100 billion. China accounts for a large share of the GFI estimates. But a bunch of hardly-poor oil countries (Kuwait, Saudi Arabia, UAE) are among the top-ten offenders listed — which probably reflects the difficulty of getting good figures on international oil trade transactions rather than the sums misappropriated.

But even if the estimates are many times too high, IFFs are surely large enough to raise the question of whether stemming them might serve as a substitute for (or supplement to) foreign aid. The argument is straightforward. Assume that government stealing, tax evasion, and other criminal activities continued apace in developing countries, but that international controls were able to prevent the money being transferred overseas. Then, it would at least be available for domestic investment, and could be used to solve a major problem of development — namely the lack of capital.

Consider, too, that bottling up the illicit funds at home would (ironically) help strengthen the rule of law: If the rich no longer had sanctuaries for their assets overseas, they would have a greater interest in the security of property in their own countries. Perhaps stemming the flow would also reduce predation by rulers. If Mobutu Sese Seko, the longtime absolute ruler of what is now known as the Democratic Republic of the Congo, had been unable to buy villas in Nice, perhaps he would have stolen less — though one suspects that, after a while, Mobutu’s theft became a matter of habit rather than a deliberate decision.

An elaborate, almost universal system of money laundering regulation aimed at just this kind of activity already exists. Every senior government official with access to illicit cash is supposed to be on a list of "politically exposed persons" (as defined by the Wolfsberg Group, an association of 11 global banks), and thus subject to extra scrutiny when they make bank transactions. But the record is spotty: Numerous banks have been caught handling transactions for PEPS that should have stirred the suspicions of even the most oblivious banker.

Raul Salinas, brother of Mexico’s president, Carlos Salinas de Gortari, had no problem convincing Citibank to handle $90-100 million in questionable cash in the 1990s. And it took until 2011 for the U.S. government bring a suit against the son of the dictator of oil-soaked Equatorial Guinea, who had purchased a $35 million mansion in Malibu in 2006 while subsisting on a ministerial salary of $100,000 per annum.

The British government’s anti-money-laundering controls did enable the Nigerian anti-corruption crusader, Nuhu Ribadu (shown in the photo above, surrounded by his broom-wielding supporters) to enlist the help of Scotland Yard in retrieving $150 million of Sani Abacha’s thefts through the UK courts; in total (through many channels), almost $2.3 billion of Abacha’s assets were recovered. However this success was an exception, not the rule. Often the difficulty is the failure of successor governments to the kleptocracy to initiate the case. Switzerland held $6 million of the assets of retired tyrant Jean-Claude Duvalier (aka Baby Doc) for years because the Haitian government made no claim against him. In the end, the Swiss changed the law so that they could use the assets to support development projects in Haiti.

Numerous efforts have been made to press developing countries to stem IFFs. However, asking foxes to board up the chicken coops is not a recipe for success. Even if they agreed to put in place the relevant institutional arrangements, a corrupt domestic judiciary could ensure that few cases moved forward. As a banner at a protest rally of lawyers in Africa put it some years ago, "Why rent a lawyer when you can buy a judge?"

One of the attractions of making IFFs a policy target is that the West to clean up its own act in the process of helping poor countries — tax havens are important to scofflaws in rich countries as well as developing ones. In any event, pressing jurisdictions such as Lichtenstein, the Cayman Islands and Jersey to fulfill their treaty obligations to obtain information about their depositors and to pass on "suspicious activity reports" to other nations seems much more feasible than improving government standards of ethics in Zambia (one more example of a poor nation that fired its first effective anti-corruption director).

So far there has been little movement beyond handwringing. The OECD bureaucracy, which has taken up IFF issue as part of its good governance portfolio, has put the issue on the agenda of its International Tax Conference in June. But, truth is, the subject isn’t very high on the agenda of the rich countries — except for Norway, which is often the good actor on development issues. Probably the best hope for the immediate future is to raise the profile of the IFF problem in developing countries, publicizing who’s cheating and who is (or isn’t) doing something about it. In the long-run, perhaps, the sheer practicality of stopping these leakages — the potential benefit from relatively modest efforts — will generate action from the rich world.

Peter Reuter is Professor in the School of Public Policy and the Department of Criminology at the University of Maryland. He is the editor of Draining Development? Controlling Flows of Illicit Funds from Developing Countries, a new collection of World Bank research papers.