COMMITTEE: ECOSOC-Economic and Social Council ISSUE: Combatting Illicit Financial Transactions in Africa STUDENT OFFICER: Göksu Büyüksoy

Transcription

1

2 COMMITTEE: ECOSOC-Economic and Social Council ISSUE: Combatting Illicit Financial Transactions in Africa STUDENT OFFICER: Göksu Büyüksoy I-INTRODUCTION Economic inequality among nations forms a clear division between Less Economically Developed Countries ( LEDCs) and More Economically Developed Countries (MEDCs).In addition, Africa hosts the bottom 24 countries economically according to a 2003 report published by the United Nations(UN).Therefore it would not be incorrect to sate that the African continent is the most affected part of the world from economic inequality. On the other hand,illegally earned,transferred and used money is being relocated from one country to another,which eventually widens the inequality with a country draining on the money.the majority of illicit financial flows are created by money laundering,tax evasion,trade mispricing and bribery actions. Although some countries urge all Member States to adopt tougher money laundering laws and policies, developing countries like in Africa fail to adopt such policies,which make them open targets for illicit financial flows. Researh finds that 60.8 billion US dollars were hijacked from only five African countries in 10 years. Africa has the connotation of poverty and hunger. The UN Developement Programme (UNDP) puts a particular emphasis on Africa because the most progress is required in Africa regarding the MDGs and SDGs. A gigantic amount of money that has been stolen from African countries slows down their developement.between 1990 and 2008,246 billion US dollars were channeled from Africa through illicit financial flow. If that money were not stolen from African nations, their developement would be inevitable.therefore,combatting the illicit financial transactios in Africa is a key issue for achieving sustainable and equal developement throughout the world. II-Involved Countries and Organizations African Developement Bank (AfDB) African Development Bank is highly concerned with this issue s impact on Africa.The AfDB s mission is to spur sustainable economic development and social progress in its regional member countries. As a part of this mission, illicit financial flows, in which drain massive amounts of money from Africa,drew the attention of the AfDB.Since then,the AfDB works actively to curb illicit financial flows into the programme of its annual meetings.most importantly,in July 2014,the AfDB initiated the creation of Partnership on Illicit Finance.The US-led partnership aims to end illicit financial flows originated from Africa.However,there are currently just eight members of the Partnership. In order to resolve this issue completely,eight members are not enough.therefore,after the annual meeting on 30 May 2016, the AfDB pledged to curb illicit financial flows while the US invited more countries to join the Partnership.In addition to this,on the same day,the president of the AfDB said, International cooperation is cardinal in curbing illicit flows that have undermined Africa s growth.

3 Switzerland Switzerland is famous for its banks. It is estimated that $2.5 trillion foreign assets are currently stored in the Swiss banks. This figure goes beyond 186 counries Gross Domestic Product (GDP) by ranking 7th according to the UN. Although the Swiss goverment passed many laws to end money laundering activities,there are suspicious that money laundering is stil present in Switzerland.Swiss Financial Market Supervisory Authority (FINMA),the inspecting organization for Swiss banks,reports plausibility checks by banks aren t thorough enough An official from FINMA stated that banks have to take more responsibility to combat money laundering.overall,switzerland is also a major destination for laundering that is earned in Africa illegally,which makes makes up to %35 of the total illicit financial transactions. South Africa South Africa is one of the most developed and modern nations in Africa in terms of both infrastucture and finance.also, the nation is the Pioneer in the fight against illicit financial flows. The goverment of South Africa puts a special emphasis on tracking illicit financial flows in order to collect their money. In a reported case, South African officials detected that a corporate transferred $2 billion to Switzerland and the UK while most of its customers were located in South Africa. After due investigation, the officials found out that the subsidiaries in the UK and Switzerland were not critical for the company s transactions. The government was then able to collect $2 billion from that corporate. Furthermore, the South African government established a nation-wide project to decrease the amount of illicit financial transactions in South Africa. The nation s former idealist president Thabo Mbeki, who currently leads the African Union s High Panel on Illicit Financial Flows, repeatedly said that Africa fails to fulfill its potential. The former president s views are realistic towards this issue as he said, Illicit financial flows are a challenge to us as Africans, but clearly the solution is global. We couldn t resolve this thing by just acting on our own as Africans. Since many countries outside Africa have to track and detect illicit financial outflows from Africa that are in their jurisdiction, Africa s problem must be addressed globally. Financial Action Task Force (FATF) : The FATF is a policy-making intergovernmental organization that was founded by the G7 members in 1989 to combat money laundering. As of 2016, the FATF has 36 members, 34 nations plus Hong Kong and Gulf Cooperation Council. In 1996, the FATF issued 40 Recommendations to its members. These recommendations were renewed in 2001, 2003 and 2012, and should form the basis of all Member States policies. The FATF also monitors and supervises the implementation of these recommendations. Many organizations firmly believe that the FATF s 40 Recommendations will be the solution for everlasting money

4 laundering and criminal activities in the world. Despite the fact that 40 Recommendations might be the solution for money laundering, many nations do not implement the recommendations to their policies. Organization for Economic Co-operation and Development (OECD) : The OECD was founded in 1961 in order to stimulate economic growth and development. Currently, the OECD members are amongst the most developed states with high rankings in Human Development Index. Notably, when the map that shows the OECD members is compared to the heat map of illicit financial flows, it is observed that almost none of the OECD members give illicit financial outflows, which shows that most of the income earned through illicit financial flows goes to the OECD members. In addition, there is an extensive report published by the OECD on illicit financial flows. In the report, the OECD recognizes the fact that illicit financial flows often reach to the OECD members while stating that the OECD members are taking measures in order to avoid being tax havens for illegal money. The report also comments on the implementation of the FATF s 40 Recommendations by saying, On average, OECD countries compliance with central FATF Recommendations is low. Overall, it is truthful to state that the OECD members are a group of welldeveloped nations, which have not taken any sufficient measures against illicit financial flows yet. III- Focused Overview of the Issue First of all, to fully grasp the issue, the definition of illicit financial flows must be understood certainly, which is explained in the Key Vocabulary section. Illicit financial flows have the most impact on developing countries. Since developing countries have sufficient money resources to improve themselves but do not have enough control and laws that regulate financial transactions, they become targets for multinational corporations to conduct the acts of tax evasion, trade misinvoicing, money laundering, etc. Therefore, when developing countries are supposed to earn money from taxes and international trade, they become unable to retrieve that money because the money is transferred and hidden through illicit financial flows. Illicit financial flows have generated a total revenue of approximately $1 trillion in the last 50 years, and they are divided into three components, which are commercial activities, criminal activities, and corruption. 1) Commercial Transactions Commercial activities count up for 65% of the money gained through illicit financial flows. Commercial transactions have several purposes, which are hiding wealth, tax

5 evasion and avoiding customs duties. Tax evasion also constitutes the majority of commercial activities. Tax evasion is used by almost every corporation, which possesses the resources to evade tax. In order to understand the dynamics of tax evasion, here is a special technique that most of the corporations have excelled, including Apple. An X company produces its product in China and directly ships them to the US to reach to its customers. The money that is earned by the X company by selling all of its products would normally be subject to 35% federal income tax in the US. However, if the patent is not owned by the X company, the X company has to transfer its earnings to the royalty of patent with a little tax rate. The royalty of patent is a subsidiary of the X company, which is located in Ireland. At the same time, the profit from other countries can be amassed in another Irish subsidiary, then sent to the Netherlands in order to benefit from an Irish treaty that makes financial transactions with the Netherlands tax-free, then transferred to the first subsidiary and added up to the profit from the US. After that, a glitch in the Irish law allows that if the subsidiary s managers are living overseas, like in the Caribbean, the profit can be transferred that place tax-free. At last, a country in the Caribbean, which is used as a tax haven in this case, can store the money in a bank, where there is not much regulation so that the money will be hidden from authorities for years without paying tax. While analyzing this technique, it is evident that tax evasion is not a problem that is only related to one country. If the US did not have a law that reduces the tax rate to royalties of patents, this cycle would be disrupted. If Ireland did not have a law that allows taxfree money transfers to managers that are living overseas, the cycle would be disrupted. If the Netherlands did not sign a treaty with Ireland that allows tax-free money transfers, the cycle would be disrupted. If the Caribbean countries had laws regulating and controlling money in its banks, the cycle would be disrupted. Thus, it is of paramount importance to understand that illicit financial transactions are results of certain quirks in multiple nations laws. In addition, the tax haven problem is a very complex issue that cannot be resolved easily. Theoretically, every country would like to be a tax haven for others. For instance, referring to the aforementioned example, the profit from the product of the X company is now under the jurisdiction of the Caribbean country. Therefore, by giving financial incentives for corporations, countries would like to draw more capital and money from abroad. Furthermore, apart from the tax evasion, there is abusive transfer pricing, which is also a part of commercial transactions. In abusive transfer pricing, a multinational corporate takes advantage of its different structures under different jurisdictions. Simply, the corporate shifts their profit to another company in another country as a part of the same corporate. Therefore, the original nation, where the corporate earns money, cannot

6 claim any tax from the corporate because they have shifted their profit to another country. In the South African example, where the government tracked and got $2 billion, the corporate used abusive transfer pricing by showing that the shell companies in the UK and Switzerland were critical to the company s transactions. Last but not least, trade mispricing is also a part of commercial activities and results in draining Africa s natural resources. It is known that Africa is rich in natural resources, minerals, and raw materials. However, in order to evade customs and lower the amount of payment, corporates misinform authorities by showing the quality and quantity values of transferred goods less than their real value. Trade mispricing is used in a broad scope, which extends from the trade of shrimps to the trade of crude oil. In fact, Nigeria s oil reserves have been hijacked by corporates at the moment. Currently, Nigeria loses 100,000 barrels of crude oil daily in international trade. 2) Criminal Activities Although not as much as commercial transactions, criminal activities form a significant part of illicit financial flows, precisely 35%. Criminal activities are common because some corporates tend to hide their financial transactions from authorities and investigators. The most common criminal exercise as a part of illicit financial flows is money laundering. Money laundering is a global-scale problem that occurs in many countries. In other forms of illicit financial transactions, corporates make use of quirks in law but in criminal activities, banks also facilitate money laundering because they also gain financial profit. Money laundering has three main stages: Placement, Layering, and Integration. In the placement stage, illegally earned money basically gets into the financial system. Then, through layering, the money is divided into several parts and transferred to different shell companies. At last, the separated money is gathered together in another company by showing that small amounts of money came legitimately from various companies, which is called the integration stage. Although most of the Member States have laws against money laundering, some laws are not enforced by governments properly so that they are not applied by banks, which give room for money launderers. Therefore, the layering part of the money laundering transactions usually takes place in those countries, where the law enforcement is not strict. Overall, criminal activities, such as money laundering, are helpful to corporates to show their illegally earned money through illicit financial flows as legitimate.

7 3)International Bribery Corruption makes up the smallest percentage of all illicit financial flows. It is known that bribery and corruption expedite all other forms of illicit financial flows. However, it is still not clear whether corruption plays a significant role in illicit financial flows in Africa.A poll, in which African citizens were questioned about which aspect they think is the top contributor to illicit financial flows had unexpected results. Most of the citizens thought that the corruption is the greatest source of illicit financial flows. Therefore, even though the corruption is not directly a form of illicit financial flows, the popular belief and psychological effect of corruption on citizens must be addressed while curbing illicit financial flows. international bribery 4)The Impact on Africa The extent of illicit financial flows is a total of $1 trillion, which was channeled from Africa over five decades. Currently, the yearly loss is $50 billion. These figures alone are able to explain the reason behind Africa s poverty. On paper, African economies are developing by an average of 5% economic growth. However, only people that are on top of the income distribution benefit from this growth. Moreover, there are 414 million African people, who are living for under $1.25 a day. If $50 billion loss were distributed to all Africans equally, 414 million citizens would earn approximately 10% more. The poverty in Africa is not only about the money that they earn. Most of the African governments do not have sufficient funds to grant access to healthcare, education, water, sanitation and shelter. Furthermore, Africa is an abundant supply of natural resources. Governments started to use those resources but like in the Nigerian example, corporates manage to blow another impact on the governments by trade mispricing. Hence, the African governments become unable to benefit from their own natural resources. Besides all of this, African nations receive lots of help from international donors. Without the foreign aid to Africa, the continent might not be able to make it to these days. Surprisingly, $1 trillion is almost the same as the amount of help that Africa received. Illicit financial flows left a whole continent penniless but scarcely made it to the news. IV- Key Vocabulary

8 Illicit Financial Flows: The movement of money, which is earned, transferred or used illegally, from one country to another country, is named illicit financial flows. Illicit financial flows may result in a country losing its money because the money is transferred to other countries and earned through illegal ways, such as tax evasion, trade mispricing, and money laundering. Therefore, even though governments do not possess the money that is disappearing, countries overall Gross Domestic Product decreases significantly. Gross Domestic Product (GDP): GDP is the total monetary value of every service or good produced in one country in a specific time interval (usually annually). Simply, it is a rough measurement of a country s economic activity. On the other hand, GDP per capita is a more reliable value in determining a nation s development and wellbeing. GDP per capita is calculated by dividing the GDP of a country to its average population in one year. Tax Evasion: Tax evasion is the avoidance of paying the proper amount of taxes that a corporation or an individual is required to pay. Tax evasion is considered illegal because corporations and individuals usually try to evade taxes by misrepresenting their income to authorities in order to reduce the amount of tax that they pay. On the other hand, tax avoidance is legal, in which corporations aim to minimize their tax bills by bending the rules. Tax Haven: A tax haven is defined on Business Dictionary as, a geographical area outside the jurisdiction of one's home country which imposes only a few restrictions on legitimate business-activities within its jurisdiction, and little or no income tax. In other words, a tax haven is a bank, which is located in a country that has fewer laws and less control on business-related activities. Tax havens also take little or no income tax from corporations and individuals.

9 Shell Company: A shell company is a legal company, which has neither employees nor offices. Although shell companies might have legitimate uses, without any proper supervision, they might be used by money launderers in order to facilitate the layering phase of money laundry. V- Important Events & Chronology Date Event (Day/Month/Year) 1961 The OECD was founded after the reformation of the OEEC (Organization for European Economic Cooperation) The Financial Action Task Force was formed. High Level Panel on Illicit Financial Flows 2011 from Africa was created after the decision of the Joint AU Commission/UN Economic Commission for Africa Conference. The FATF revised its 40 Recommendations 2012 for all governments in order to tackle money laundering for the last time. The OECD published a report on illicit 2014 financial flows, which outlines the duties of the OECD nations and the current situation. African Development Bank founded the

10 July 2014 Partnership on Illicit Finance with the US government. VI- Past Resolutions and Treaties UN Convention against Transnational Organized Crime Although this convention does not specifically address the issue of illicit financial flows, the Convention discusses measures to tackle money laundering, human trafficking, and drug trafficking, which constitute a significant part of illicit financial flows due to criminal activities. The Convention is signed and ratified by almost all UN Member States but 11. UN Convention against Corruption Similarly to the previous convention, this convention is not solely about illicit financial flows, but it aims to terminate international bribery and money laundering. The Convention requires its parties to adjust their law and order in order to give no room for criminal activities that result in corruption. 176 UN Member States have signed and ratified the Convention. UN General Assembly Resolution on Strengthening International Cooperation in Combating the Harmful Effects of Illicit Financial Flows Resulting from Criminal Activities (A/RES/66/177) This resolution encourages the UN Member States to revise their legal system in order to ensure that they do not provide a legal basis for criminal activities, such as money laundering that result in illicit financial flows. The resolution also urges Member States to sign and ratify aforementioned UN conventions. However, the resolution failed to affect the most of the Member States legal systems. VII- Failed Solution Attempts There is no global attempt to resolve this issue at once. Most of the attempts included few nations and were regional. The UN passed only one resolution concerning illicit financial flows in 2011, which was not sufficient to curb illicit financial flows. Other than that, the UN also formed High-Level Panel on Illicit Financial Flows, a group that has done the most work on this issue. On the regional scale, there have been several acts, laws, declarations and initiatives that are established by several states and organizations like

11 the OECD, the European Union, the USA, the UK, and Norway. Eventually, these attempts did not apply to the real world because of the lack of monitoring and law enforcement. As the former president of South Africa said, illicit financial flows are a problem for Africans, but the solution is global. As a result, the FATF issued 40 Recommendations to all nations, which will be sufficient to eliminate a big portion of illicit financial flows. However, these recommendations are disregarded by many nations, especially by the OECD nations. Overall, the lack of global solutions became an obstacle for curbing illicit financial flows. VIII- Possible Solutions First of all, in order to fully resolve this issue, it must be understood that the issue of illicit financial flows is a rooted problem that has been present for over five decades and the reason why they are not solved is the lack of international cooperation. Illicit financial flows are a major problem for African nations, as well as many others, but the African nations are unable to resolve this problem by themselves. If there is a huge amount of illicit financial outflows, there must also be a huge amount of illicit financial inflows in a country. Even though that nation, which gives illicit financial outflows, took all necessary measures to tackle illicit financial flows, the paucity of measures in the country, which receive illicit financial inflows, allows the corporates and individuals to gain money through illicit financial flows. Therefore, the cooperation between the African nations and those countries, which receive illicit financial inflows, is vital. Once the money is transferred to another country, that money is in a different jurisdiction, where different laws apply. This fact makes the money untraceable for the suffering nations. However, more transparency on financial matters would enable all countries to track and detect illicit financial flows. Also, the FATF s 40 Recommendations must be thoroughly analyzed. The implementation of those recommendations by every nation would be able to curb a huge percentage of illicit financial flows. Since the OECD nations mostly receive illicit financial flows, the implementation of 40 Recommendations by them is crucial for this issue. Furthermore, the FATF s 40 Recommendations aim only to stop money laundering activities throughout the world. Currently, there is no similar set of actions in order to prevent commercial transaction like tax evasion and trade mispricing. Through cooperation between several research groups on illicit financial flows, such as the High Panel on Illicit Financial Flows and Partnership on Illicit Finance, a new set of recommendations could be developed that is concerned with commercial transactions. Moreover, as stated in the past treaties section, none of the current conventions directly target to end illicit financial flows. Treaties and conventions are binding for the states that sign and ratify them. Thus, if there were an international convention/treaty that directly addresses the issue of illicit financial flows, all nations that ratify the treaty would be obliged to obey the terms of the treaty. A treaty, which directly focuses on

12 illicit financial flows, would create a consensus on measures that will be established so that there would not be any differences in different jurisdictions regarding illicit financial flows. Last but not least, it is often mentioned throughout this report that the law enforcement measures are not sufficient for banks to apply the laws against illicit financial flows. At the moment, law enforcement measures are punishments like paying fines and promising that compliance with the government will improve. Governments view banks as a major part of their economy and abstain from jailing bank officials for committing crimes. However, no bank should be too big to jail. Hence, the law enforcement measures must be strict and severe so that no banks will try to break the rules by providing safe havens and hiding criminal money. IX-Useful Links _en.pdf Initiatives-2013.pdf g_countries.pdf