Illegal Money Takes Wing from Asia

Nearly US$1 trillion floated out of the developing world in the form of illegal capital flight in 2011, according to a new report released this week by the Global Financial Integrity NGO, with China remaining the champion. The amount actually could be a good deal higher, since the illegal narcotics trade, white slavery and other illegal cash flow are not quantifiable.

The report, Illicit Financial Flows from Developing Countries: 2002-2011, was written by Dev Kar, formerly a senior economist at the IMF, and Brian LeBlanc, a junior economist at Global Financial Integrity. Its most disturbing conclusion is that illegal flows are increasing despite the growing sophistication of economies out to stop them. The authors call the illegal outflows “the most devastating economic issue impacting the global South.”’

The actual nominal outflows from developing companies, at US$946.7 billion in 2011, was up 13.7 percent from US$832.4 in 2010, the researchers found. Controlled for inflation, illicit outflows from developing countries increased annually in real terms by about 10.2 percent.

Over the decade ending in 2011, China, Russia, Mexico, Malaysia and India, in declining order, were the biggest exporters of illegal capital although sub-Saharan Africa has suffered the biggest outflows as a percentage of GDP. Asia accounted for nearly 40 percent of total illicit outflows from developing countries over the period studied, with China, Malaysia, India, Indonesia, Thailand, and the Philippines the leaders in that order.

Total losses to the developing countries over the decade between 2002 and 2011 were US$5.9 trillion, the authors wrote. However, they say, “Large as these numbers are, perhaps the most distressing take-away from the study is just how fast illicit financial flows are growing. Adjusted for inflation, illicit financial flows out of developing countries increased by an average of more than 10 percent per year over the decade.”

In the absence of substantially increased policing, the authors continue, “one can only expect these numbers to continue an upward trend. We hope that this report will serve as a wake-up call to world leaders on the urgency with which illicit financial flows must be addressed.”

Over the decade starting in 2002, a staggering US$1.08 trillion was illegally spirited out of China, a major part of it through trade mispricing in Hong Kong, where Chinese authorities cracked down dramatically earlier this year. Trade mispricing refers to trade between related parties at prices meant to deceive tax authorities or hide capital flight.

For instance, it was estimated in a 2009 study for the Department of Economics at Oslo University that 2009 trade with Norway, using China’s statistics, was only U$2.67 billion. However, using Norway’s statistics, the same trade was valued at US$5.349 billion.

Behind China, Russians were the next biggest offenders, spiriting US$880.96 billion out of the country, followed by Mexico at US$461. 86 billion.

Malaysia, with a population of only 29.6 million compared to China’s population of 1.3 billion, bats well above it weight in the ability to spirit money out of the country illegally, which appears to be a reflection of the mistrust the Chinese business community has in the largely Malay government. Its economy, at USS$303 billion, is dwarfed by China’s US$12.6 trillion GDP. Yet it manages to illegally export nearly a third of the money being drained out of China and it ranks higher than India, which lost US$343 billion, ranking fourth despite its 1.3 billion population.

The other Asian country making the top 10 was Indonesia at US$181.83 billion. Six of the top 15 exporters of illicit capital are in Asia -- Thailand, and the Philippines add to the list,

The NGO’s data, the authors wrote, “however constructed, remain extremely conservative, as we still do not capture the misinvoicing of trade in services (rather than the trade in goods), same-invoice trade mispricing (such as transfer mispricing), hawala (informal South Asian transactions), and dealings conducted in bulk cash.

Much of the proceeds of drug trafficking, human smuggling, and other criminal activities which are often settled in cash are not included in these estimates, the study notes, and that much of abusive transfer pricing conducted between arms of the same multinational corporation are not captured.

Although the leaders of governments across the world have made some progress in agreeing some measures to improve greater financial transparency, the report notes, “much of the conversation has been focused on curtailing abuses within the de

Developing Europe (21.5 percent) and the Western Hemisphere (19.6 percent) contribute almost equally to total illicit outflows. While outflows from Europe are mainly driven by Russia, those from the Western Hemisphere are driven by Mexico and Brazil.

The Middle East and North Africa account for 11.2 percent of outflows on average, the researchers found. MENA’s share increased significantly from just 3 percent of total outflows in 2002, reaching a peak of 18.5 percent in 2009, before falling to 12 percent in 2011. In comparison, Africa’s share increased from just 3.9 percent in 2002, reaching a peak of 11.1 percent just before the Great Recession set in (2007), before declining to 7 percent in 2011, roughly on par with its average of 7.7 percent over the decade.

While Africa has the smallest nominal share of regional illicit outflows (7.7 percent) over the period studied, it has the highest average illicit outflows to GDP ratio (5.7 percent), suggesting that the loss of capital has an outsized impact on the continent. Illicit outflows at an average of 4.5 percent of regional GDP also significantly impact developing Europe. Outflows per annum from Asia amount to an average of 4.1 percent of regional GDP, and leakages of illicit capital from MENA and the Western Hemisphere equal about 3.5 percent of regional GDP.

However, in the case of MENA, outflows as percent of GDP increased significantly from 1 percent in 2002 to 6.8 percent in 2009, before declining to 3.9 percent in 2011, the report notes. In contrast, barring a few upticks, outflows from the Western Hemisphere as a share of regional GDP have declined steadily from 4.1 percent in 2002 to 2.6 percent in 2011.

Trade misinvoicing comprises the major portion of illicit flows (roughly 80 percent on average). Balance of payments leakages (Hot Money Narrow measure) fluctuate considerably and have generally trended upwards from just 14.2 percent of total outflows in 2002 to 19.4 percent in 2011. However, there is little reason to believe that purely statistical errors in compiling balance of payments data have trended upwards for developing countries as a whole.