Money laundering and offshore financial centres

Introduction

At this point of the ongoing discussion of the money-laundering situation in Guyana, readers would have come to realize that they cannot expect to form an intelligent appreciation of this issue, and as a result the several serious challenges which the country presently faces, without, at the very least, a rudimentary appreciation of the basic contextual issues surrounding this phenomenon. So far this column has sought to address this and has consequently, covered issues of definition, the several techniques and methods that are utilized in money laundering, as well as its origins.

Specifically, last week’s column indicated that money-laundering has become a matter of serious global20130908clive concern relatively recently, having originated only in the 1960s and 1970s. Indeed the consensus among analysts is that its origins can be traced back to three major events at that time.

The first was the severe economic dislocation and destruction of productive capacity in the world economy generally, and particularly in Europe, which had resulted from World War II. Readers would be aware that prior to the war Europe was home to most of the world’s leading   economies and trading nations.

Second, World War II (along with the Cold War that immediately followed its ending) resulted in the bulk of public and private savings in these economies being tied to military expenditures. This created a severe capital shortage in Europe for other needed investments. Incidentally, this shortage was considered so serious an economic impediment that it led to the famous United States Government’s Marshall Plan, which provided large sums of external capital to support financing the reconstruction of Europe following the ravages of World War II (this was also no doubt done to win support for the United States side of the Cold War with the Soviet Union and its allies).

Thirdly, during that period the ruling economic ideas and policy prescriptions strongly favoured state-led economic approaches, in particular the use of “direct controls and regulation” of banking and financial markets.

In retrospect, we have come to realize that during this period the world economy was itself undergoing an unprecedented transformation, which was not fully understood then, and which decades later we commonly label as globalisation and financialisation (these concepts were not widely acknowledged during that time).

As observed in last week’s column, these deep-seated circumstances spawned the emergence of the eurodollar and eurocurrency financial markets. Although initially located in certain European countries (hence the euro prefix), under competitive pressures these markets first spread to other countries within Europe and later beyond Europe as well. Among the latter grouping were a number of European principalities, protectorates, dependencies, colonial, and ex-colonial possessions.

Of special note in this regard, were a number of small territories and sovereign economies, which began to prepare their locations as potential venues for the siting of eurodollar and eurocurrency markets. In this way a secondary wave of offshore financial centres (OFCs) started to evolve.

The connection these venues had to Europe (whether through geographical proximity or out of historical relations) was crucial for their development. This played a major, if not dominant role, in the evolution these OFCs, in places like Luxemburg, Channel Islands, Cayman Islands, Bermuda, The Bahamas, Singapore, and Bahrain.

The European connection provided the degree of confidence in OFCs located outside Europe, which investors required. A case in point is that presently, well over 90 per cent of the funds held by OFCs in the Caribbean are located in “non-sovereign territories” like the Cayman Islands (73 per cent of the total amount) while most of the “sovereign states” individually hold amounts far less than one-twentieth of that total.

 

OFCs start-up

costs

 

Europe played active roles in promoting the establishment of OFCs in these venues because the sector was seen (next to tourism) as the most potentially vibrant one for the development of small poor open economies. This policy preference was aided I believe by the low start-up costs of the sector.

Consider the following information in support of this view: 1) this sector reduced the burden (costs) on European treasuries for promoting economic well-being in those territories it had responsibility for, as it only required Europe’s implicit endorsement to advance. Once investors were convinced Europe supported the OFC sector as a leading investment strategy, they felt confident in risking their funds in these locations.

 

2) While low or zero taxes would have constituted the prime attraction for potential investors, the economic benefits that otherwise came to a small economy in the form of hotel accommodation, travel, entertainment, and other services were, in the absence of tax benefits, ample for offering these economies diversified economic structures and good livelihoods.

3) Other supportive measures were also low cost; for example, passing laws and regulations regarding bank secrecy and anonymity; minimal surveillance of financial transactions; a regime for banking regulation; and tough laws deterring extradition of persons legally resident within the jurisdiction of OFCs.

Conclusion

Looking back on the developments described above, one factor that stands out in support of the growth of OFCs is the paradox of these centres being ‘designed’ to thrive on illegality (tax evasion) yet themselves needing to be rooted in ‘trustworthy’ legal and regulatory regimes. In practice OFCs had to go to great lengths to secure their basic legal/regulatory regimes, especially in regard to 1) the strict delineation of jurisdictions and jurisdiction-related matters; 2) full and procedurally correct compliance with the laws and regulations empowering their local financial and legal authorities; 3) ensuring the meeting of requirements in regard to reporting by businesses and individuals located within them; 4) confidentiality; 5) reporting and data-gathering requirements required by regional and international regulatory and oversight bodies.

Next week I shall wrap up this discussion after a brief look at those structures and drivers of OFCs, which serve to show why money laundering has achieved the importance it has today in the global economy.

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