Fighting corruption in emerging markets is surpassingly difficult. It involves displacing those with malign power. It cannot be initiated and led by outsiders. Corruption pervades and distorts society in nations like Russia and China where the U.S. has great interests. It was a primary cause of the popular uprisings in the Middle East and elsewhere. It remains a huge issue in the emerging markets of Africa and Asia and, especially in failed and failing states. It is a pervasive obstacle to legitimate and transparent economic globalization. And it undermines a key goal of current counter-insurgency military strategy — the building of a civil society.

At the core of these problems is bribery of public officials, and officials’ extortion and misappropriation of funds. In the last 20 years, there has been growing recognition that corruption of this sort has a widespread and insidious impact. It distorts markets and competition; breeds anger, cynicism and discontent among citizens; stymies the rule of law; corrodes the integrity of the private sector; and impairs development and poverty reduction. Bribery, extortion, and misappropriation also help perpetuate failed and failing states — and sectors of other states — that are incubators of terrorism, the narcotics trade, money laundering, human trafficking, counterfeiting, piracy and other kind of global crime.

Heinman goes on to list what he says the U.S. can do to help: continue to support international anti-bribery conventions such as the Foreign Corrupt Practices Act, apply contemporary counter-insurgency theories in places like Afghanistan, and promote development in a subtle, auxiliary role that offers support in the form of aid, advise, and limited action.

I take issue with nothing that Heinman writes. He does a great job writing about an important topic Unlike so many mainstream commentators, Heinman sees the importance of the United States in helping to solve problems of corruption in the developing world. Too often, opinion leaders seem to believe that corruption is an unsolvable problem, or that the United States can do very little to change things. What I do believe is that Heinman missed a critical component in the fight against corruption, one that is very much accomplishable by the United States. The U.S. needs to stop actively facilitating corruption by maintaining an opaque, easily-laundered financial system.

Corrupt governance in the developing world is, at it’s heart, a financial problem. Corrupt public officials siphon money away from the state, stash it in bank accounts, and spend it on their own consumption. The U.S. contributes in two ways: by allowing for the creation of anonymous corporations, which are easily used by corrupt officials to hide money and business deals, and by functioning as an offshore tax haven for non-residents. Both represent profitable actions for a small number of Americans and corporations, but are highly counterproductive to U.S. foreign policy.

In many ways, the financial system inside the United States resembles that of secrecy jurisdictions like the Cayman Islands. However, unlike in tax havens such as the Cayman Islands, U.S. banks, accounts, and corporations have an inherent air of credibility — it is a whole lot easier to claim plausibile deniability when dealing with a shady-looking corporation from Delaware or Nevada than when dealing with one from the Cayman Islands or Bermuda. We should eliminate anonymous corporations, and stop allowing our banks to hide illicit non-resident alien deposits with no threat of scrutiny.

Bringing financial transparency to the United States would not eliminate worldwide corruption, nor would it make laundering millions of corrupt, illicit dollars impossible. However, it would raise the cost of corruption. It would force corrupt officials to have to take riskier bets in order to benefit from their crimes. They would have to hire more accountants, jump through more hoops to launder their money, and look over their shoulder more often for the threat of law enforcement. Furthermore, action by the United States on this kind of financial transparency would go a long way toward pushing other powerful nations to do the same, tightening the world’s grip around tax havens, secrecy jurisdictions, and their customers.

As Heinman points out, corruption is an economic and security problem. The United States has a clear national interest in creating a climate where the developing world can establish stable, transparent, and safe economies. As a result, the opaque U.S. financial system clearly undermines our foreign policy goals. However, there is also a moral problem here. By actively facilitating corruption, the United States is complicit in the consequences.

US indicts Swiss bank on tax charges
Money Life, February 3, 2012

Can America Lead the World’s Fight Against Corruption?
The Atlantic, February 3, 2012

India PM Manmohan Singh: ‘Long way to go’ on corruption
BBC News, February 3, 2012

Manmohan Singh promises systemic response to reduce corruption
Truth Dive, February 3, 2012

S’pore to step up efforts to prevent money laundering
Channel News Asia, February 3, 2012

Zambia probes ex-leader’s wife for money laundering
Reuters, February 3, 2012

Institute of Chartered Accountants of India preparing report on Indian black money in foreign banks
PTI, February 2, 2012

‘Terrorists using black money’
The Nation (Pakistan), January 28, 2012

Obama’s tax code gambit
The Los Angeles Times (Editorial), February 2, 2012

In October of last year the U.S. Department of Justice (DoJ) unsealed an asset forfeiture claim against many of Obiang’s U.S. held assets, including a $38 million Gulfstream private jet, a $35 million Malibu mansion, a Ferrari, and dozens of pieces of memorabilia of pop singer none other than Michael Jackson, which are worth about $2 million. Authorites seized many of these items, although they still haven’t been able to get custody of the plane. The DoJ filing claims Obiang derived the assets from “the misappropriation, theft, or embezzlement of public funds by or for the benefit of a public official.”

Given Obiang’s salary of $82,000 as Equatorial Guinea’s Minister of Forestry, it seems rather unlikely that the funds could have come from anywhere else. Obiang himself has vaguely—and insultingly—explained “I have been very lucky in business…and I like to live well.” His lawyers, who are perhaps a bit more astute, have claimed he “was granted a 20-year concession to harvest timber in the country in the mid-1990s and that made him a ‘very wealthy man’ by 2005 when he bought most of the assets.” I’d like to see the data on those numbers.

Here are some facts. Equatorial Guinea is a coastal Middle African nation that is simultaneously one of the continent’s smallest and wealthiest countries, in large part because it holds Africa’s largest oil reserves. Yet the country’s enormous wealth is concentrated in the hands of the government and the ruling elite. As a result over 75% of the population lives below $2 per day, 35% of its citizens do not live past the age of 40, and nearly 60% do not have access to safe drinking water.

It is laudable that the DoJ and the Obama administration have taken such a hard line with Obiang. As Raymond Baker, director of Global Financial Integrity, has pointed out “[T]he United States is sending the message that it will no longer harbor the illicit assets of corrupt foreign officials.” I’m quite sure Obiang, and kleptocrats across the world, heard DoJ’s message very loudly and very clearly when officials seized $70.8 million in real and personal property.

But unfortunately the seizure does not address some of the systemic deficiencies in the international—and indeed, even the U.S.—systems that allow foreign officials to hide and launder the proceeds of corruption. The deficiencies in the international system are many. Some are broad and enormously complex, like international energy markets, which of themselves encourage corruption through opacity and politics. Some analysts suspect the U.S. government ignored corruption in Equatorial Guinea for so long because “Chevron, Marathon Oil and Noble Energy have substantial interests in Equatorial Guinea, onshore and off.” Other deficiencies include financial opacity in offshore jurisdictions, which facilitate money laundering, and the failure of our own banks to perform due diligence when handling the assets of foreign leaders.[1]

As Mark Vlasic, a law professor at Georgetown University, and the former head of operations of the World Bank’s Stolen Asset Recovery Initiative, has pointed out: “Grand corruption isn’t just a local problem, it’s an international one, and oftentimes involves multiple jurisdictions.” I hope Obiang can continue to be a lesson to us. If any good has come of all this, it’s that his high-profile corruption case has exposed the severe limitations of our international system. But it is the people of Equatorial Guinea who continue to pay the price of the world’s collective failure.

Frontier Africa may choke on mine rush
Reuters, February 2, 2012

Malaysian airports to install money detectors
AFP, February 2, 2012

Russia Joins OECD Anti-Bribery Convention, Bans Bribes Abroad
The Wall Street Journal (blog), February 1, 2012

OECD May Link Tax Offenses to Money Laundering, HZ Reports
Bloomberg, February 1, 2012

Swiss making progress on return of corrupt cash but doubts remain about laundering defences
Reuters, February 2, 2012

Banking Giant Accused of Laundering Billions
WND Money, February 1, 2012

Supreme Court says it will charge Pakistani prime minister with contempt over corruption case
The Associated Press, February 2, 2012

FIFA corruption case goes to Swiss supreme court
The Associated Press, February 2, 2012

Corruption, policy uncertainties pose credit risk in India: S&P
The Economic Times, February 2, 2012

1504 Section in Dodd-Frank Wall Street Reform Act requiring companies to disclose taxes, royalties, and other payments made to the US and foreign governments

1.5 billion People living on less than $2 a day in “resource-rich” countries

$30 million Value of Malibu mansion owned by Teodoro Nguema Obiang, son of oil-rich Equatorial Guinea’s dictator

1  Number of white crystal-covered ‘Bad Tour’ gloves in Teodoro’s Michael Jackson memorabilia collection valued at $3 million (See “U.S. vs. One Crystal-Covered ‘Bad Tour’ Glove” court filing.)

270 Days after enactment that Congress required the SEC to issue a final rule (regulation) to implement the law

559 Days since Dodd-Frank enacted into law by President Obama

289  Days that the SEC has been in violation of the law

13 Months after Dodd-Frank that the European Commission issued a legislative proposal that would place a similar requirement on oil and mining companies

0 Host country laws oil companies have been able to cite that would prohibit disclosure of payment information as required by Dodd-Frank

3 Commissioners eligible to vote on the final rule (Chairwoman Schapiro and Commissioner Paredes are recused because of conflicts of interest.)

$50 million Estimated amount Exxon says that it would cost to comply with law, even though it provides no backing data for the estimate and presumably already collects and tracks payment information

$41 billion Exxon’s 2011 profits—a 35% increase over 2010

$100,000 Cost Barrick Gold, world’s largest gold producer, says it would cost them to comply

$1.2 trillion Approximate combined assets under management of investors who have told SEC to issue a strong final rule

3 Companies and industry associations (Shell, Exxon and API) who say that payment disclosure “could allow terrorists” to target a project

2 Nigerian oil workers unions who say it would actually make them safer

5 Companies who met SEC Commissioner Gallagher on December 2, 2011, to lobby for a weak final rule—Shell, Exxon, Chevron, ConocoPhillips, and Occidental

15 Oil and mining companies who “support” the voluntary Extractive Industries Transparency Initiative (EITI) program who are also members of American Petroleum Institute (API). API has threatened to sue the SEC to keep payment info secret.

5 Companies on the EITI board who are also API members

11 Luxury sports cars worth at least $5 million belonging to Teodoro seized by French police in Paris as part of an investigation into possible corruption

20 Days after auto seizure that President Obiang scored his son a UNESCO envoy post in Paris

$5,000 Teodoro’s reported monthly government salary as Equatorial Guinea’s minister of agriculture

2010 Year Equatorial Guinea was expelled from EITI for failing to meet its minimum transparency requirements

5  Companies producing oil and gas in Equatorial Guinea who will be covered by Dodd-Frank (Exxon, Marathon, Hess, Noble, and Mitsui produce the vast majority of oil and gas in Equatorial Guinea. The first four are members of the American Petroleum Institute. API sent a letter to the SEC on January 19 saying it would be unlawful to issue a final rule to implement the Dodd-Frank provision.)

No data Percent of Equatorial Guinea’s population living below the poverty line. An estimated 60 percent lived on less than $1 a day according to a 2006 UN report.

700,000 Population in Equatorial Guinea still in the dark about the country’s finances and waiting for full implementation of Dodd-Frank Section 1504

• The extensive use of emergency ordinances
• Low level of accountability for corruption
• Low level of trust of people in the parliament
• A major gap in implementation of laws by the government

If corruption continues to remain high, and the government fails to address it, Romania will struggle to further integrate into the European Economy.

Illicit financial outflows due to corruption, kickbacks, and trade mispricing have been increasing in Romania since 2006. A study by Global Financial Integrity has shown that in the year 2005, when Romania signed the EU adherence treaty, the country’s illicit financial flows declined to a three year low. However, as the graph below shows, illicit financial flows increased significantly at the same time as Romania was integrating into the European Union. Prior to accession, Romania was asked to enact reforms to curb organized crime, corruption, and food safety. Corruption remains one of the biggest drags on Romania’s economy.

Romania has shown that it does address corruption occasionally with the arrest of Former Prime Minister Adrian Natase, who was charged with taking part in organizing a conference to illegally collect money for his 2004 Presidential campaign. He was convicted to two years in prison.

This is a good step forward in creating accountability in the government. However, the amount of money flowing out of Romania indicates that they may be wise to follow Transparency International’s suggestions not only to combat the systemic level of corruption, but also to create a stronger, stable country that all Romanians and the rest of the European Union member-states can be proud of.

What’s the Taxcast?

The Taxcast is an entertaining and informative 15 minute monthly podcast with the latest news, research and analysis of events in tax evasion, tax avoidance and the shadow banking system. It has 3 segments: headlines, analysis with campaigning economist Richard Murphy (The Courageous State) and a mini-documentary.

The report’s author, Dev Kar, estimates illicit financial flows as the sum of two components.[1] One of these components is a measure of trade mispricing. Using IMF statistics, Kar compares Mexico’s recorded imports to what the world says it exported to Mexico; and then he compares Mexico’s recorded exports against world imports from Mexico.

In a perfect world these numbers would line up. But they don’t for two reasons. The first is trade mispricing. Trade mispricing occurs when a company or an individual shifts wealth between countries, using either export under-invoicing or import over-invoicing. Suppose a Mexican furniture manufacturer, who wants to send money abroad illegally, is importing $100 worth of timber from the United States.  Instead of paying $100, the furniture company reports and pays $200.  The company’s U.S.trading partner takes $100 for the furniture, reports the $100 on its own invoice, and shifts the extra $100 to a secret Delaware bank account (and maybe keeps an extra few dollars as a transaction fee).  Now the furniture company has shifted the $100 to the United States without Mexico’s knowledge. But the $100 discrepancy is also reflected in the difference between what the United States says it exported to Mexico and what Mexico reports it imported from the United States.

The second reason these numbers don’t line up—and this is not to be overlooked—there statistical errors associated with compiling such large datasets. Even in the absence of any trade mispricing, it is unlikely Mexico’s recorded imports from the world would match perfectly with the world’s recorded exports toMexico, and vice versa.

Using the normalized estimates, Kar’s study finds illicit financial flows averaged $18.7 billion per year between 1970 and 2010. Of this total, $15.3 billion per year—or 82%—is attributable to trade mispricing.

Kar does not net out “reversals” or illicit inflows from his estimates. This diverges from more traditional models, where economists do subract illicit inflows from illicit outflows, resulting in a lower “net” estimate of capital flight. But this gives a skewed picture. Illicit outflows, because they are illegal by definition, are not supplementing the domestic economy in the same way an illicit outflow is detracting from it. Moreover, as Kar notes, “The traditional method of estimating illicit flows…seriously understates the adverse impact of illicit flows on poverty alleviation and economic development in developing countries.”

While the example I used above about the Mexican furniture company illustrates a way Mexicans can use trade mispricing to send money abroad, Mexicans are able to use the practice to bring money in as illicit inflows. Theoretically one could argue this offsets the outflow of funds. In reality, these inflows are often the proceeds of the drug trade or of money laundering.

As it would turn out, it recent years criminals in Mexico regularly use trade-based mechanisms, including trade mispricing, to launder money and skirt their government’s tight financial rules. This often occurs when drug trafficking organizations want to repatriate their earnings from drug sales overseas. For example, a Mexican front company can ship furniture to the United States and, by over-invoicing the goods, can include in the invoice enough for both the merchandise and laundered funds. The buyer on the other side, who’s holding the illicit cash, remits the payment for the furniture and sends the funds to the Mexican company’s account, which now enter the banking system as a formal, legal transaction.

This method skirts the warning flags provided by most laws and regulations. It would be recorded as an illicit inflow of cash (a “reversal”) and in a traditional model of illicit financial flows it “offsets” the equal amount in outflows. This, quite frankly, is completely nonsensical. Why should laundered money offset the damage of tax evasion?

With this report, GFI has put forward a number of policy recommendations for addressing trade mispricing in Mexico. The reasons the Mexican government should heed their advice are not limited to loss of funds—the implications of trade mispricing, and illicit financial flows generally, range from money laundering to the drug trade; from tax evasion to corruption. This is not just a question of loss of resources—although that would be bad enough—but rather a question that reaches into economic stability and national security.

Click here for the Task Force-relevant portion of the interview, here for the full interview. From the transcript:

AMY GOODMAN: What do you want to hear President Obama say in the State of the Union address?

JACK BLUM: That we must not only rewrite the Internal Revenue Code, but we must get a fair contribution from the very wealthy and from corporations, and that that is the only way to balance the budget.

AMY GOODMAN: Citizens United, how does that fit into this picture?

JACK BLUM: We have an amazing situation as a result of Citizens United. “Corporations are people,” says Mitt Romney in one of his statements. They’re not. Corporations are a special privilege granted to a group of people so that they can invest money without the fear of losing if the investment goes bad. They’re not people. And Citizens United has allowed corporations to get in the act and contribute to these funds, which are, quote, “independent funds,” that spend unlimited amounts of money. And that sort of takes control of the election process. Now, that can’t be allowed. What we have developed is a system of representation that is by money talking and no taxation, which is absolutely the reverse of where this republic started.

AMY GOODMAN: How do you talk about tax justice? How do you change the conversation in this country? You’re featured in a film here at the Sundance Film Festival called We’re Not Broke. That’s going to surprise a lot of people.

JACK BLUM: Well, of course, because there’s been this drumbeat of “We’re broke. We’re broke. We’re broke. Fire everybody.” The way we’re going to change that is to show people what’s going on. When people saw this film, when people began to understand that corporations like Google and Apple don’t pay U.S. federal tax, their jaws dropped. Now, how you can solve these budget problems and not talk about that is unfathomable. And we’re going to get them talking about it by looking at those tax returns and looking at what’s really going on.

And this film shows not only the question of how that money has not been paid, but it also shows young people all over the country spontaneously beginning to understand the issue and demonstrating. So, a group called US Uncut stepped forward and began to demonstrate in front of some of these companies, saying, “Pay your fair share of taxes.” And that morphed into some of the folks who are in the Occupy movement. So I think there are groups—there are many groups that are involved now in trying to bring this message across. Tax Justice Network has worked with a coalition called theFACT Coalition. It’s more than 40 different non-profit groups—some conservative, some liberal, some religious, some labor. And they’re all talking about the issue of, we have got to get back to a point where there’s tax collected and where government services are provided based on taxes being collected.

AMY GOODMAN: Jack Blum, I want to thank you very much for being with us, former top congressional investigator of financial crimes, lawyer and chair of Tax Justice Network USA.

This is Democracy Now!, democracynow.org, The War and Peace Report. Two State of the Union addresses ago, President Obama promised a nuclear renaissance. We’ll look at The Atomic States of America. Stay with us.

Read the whole interview here.

flickr / chadedwardus

The U.S. government frequently raises the issue of smuggling of bulk shipments of currency from the U.S. to Mexico as a major economic and security issue, one that demands greater effort by Mexican authorities to detect and deter.

However, as a report released this week by Global Financial Integrity reveals, bulk cash smuggling is not the only form of illicit financial transfer taking place in staggering volumes across the U.S. – Mexico border.

The report’s findings indicate that the Mexican economy lost $872 billion to illicit financial outflows between 1970 and 2010. These non-cash outflows from Mexico serve to feed Mexico’s underground economy, enabling the spoils of illicit activity to be stashed abroad. Notably, the vast majority of capital leaving Mexico, including illicit transfers, is destined for banks in the United States, and a significant increase in illicit outflows from Mexico was observed in the wake of the coming into force of NAFTA, suggesting even more strongly that the bulk of illicit outflows from Mexico is placed in U.S. accounts.

As a result, there is a clear window of opportunity for U.S. policy initiatives to make this country less inviting to criminals and tax evaders from our Southern neighbor, which would benefit economic stability and national security in both the U.S. and Mexico.

There is one most obvious way that the U.S. could make its financial system a less attractive destination for Mexico’s illicit outflows – through the introduction of automatic tax information exchange agreement with Mexico on U.S. deposit accounts held by Mexican residents.

The Mexican government formally requested such an agreement with the Treasury Department in 2009, in order to help counter the laundering of Mexican criminal proceeds and tax evasion through U.S. banks, but it has yet to receive a reply. While Mexico and the U.S. do exchange tax information on a case-by-case basis in instances of suspected tax evasion, moving to automatic exchange would greatly simplify the exchange process, and would curtail unreported cross-border interest income by citizens of both countries.

Such a policy change would not be unprecedented. Though the U.S. does not currently collect information on interest payments made to most non-resident account holders, U.S. financial institutions are required to provide the IRS with such information regarding account holders that are residents of Canada. This information is in turn automatically supplied to the Canadian tax authority under an exchange agreement. The IRS benefits from the receipt of similar tax information in return.

In addition to the automatic exchange of tax information on non-resident account holders between Canada and the U.S., Mexico and Canada also have a similar agreement in place. This leaves the U.S. as the only NAFTA country that has not fully committed to the systematic, dynamic exchange of deposit account information with its major regional trading partners.

An agreement on automatic exchange of tax information on accounts could be readily implemented between the U.S. and Mexico, drawing on the experience in administering the existing agreements in North America, and in accordance with OECD standards. Given the likely volume of illicit funds being covertly transferred from Mexico to the U.S., such an agreement would go a long way towards interrupting the illicit outflows from Mexico, and would demonstrate the U.S. Government’s commitment to combating illicit financial activity on the Southern border in all its forms.

Image:  Some rights reserved by chadedwardus