Counted, sort of: IFF estimates

If you’re in London on 9 March, I’ll be giving a seminar at King’s College on the range of approaches to IFF estimates (illicit financial flows, that is) and tax losses.  All welcome, just email kings-idi@kcl.ac.uk.

IFF estimates

Unrelated #humblebrag: recent social media rankings, are they worth anything?

CityAM Top 100 UK economists

17.

#ICAEWROAR Top Online UK Influencers: Accountancy

17.

#economia50 (Finance) 

24.

Breaking the vicious circles of illicit financial flows, conflict and insecurity

Cobham, A. 2016. Breaking the vicious circles of illicit financial flows, conflict and insecurity. GREAT Insights Magazine, Volume 5, Issue 1. February 2016. Republished with permission of the European Centre for Development Policy Management (ECDPM). 

Illicit financial flows (IFF) not only thrive on conflict and insecurity but exacerbate both, by undermining the financial and political prospects for effective states to deliver and support development progress. Policies to meet the Sustainable Development Goals’ target of curtailing IFF will also promote peace and security. 


In 2014, the Tana High-Level Forum on Security in Africa took as its theme the impact on peace and security of illicit financial flows (IFF). Leading figures from across the region, including a range of current and former heads of state, discussed the nature and scale of illicit flows and the policy options available.

The subsequent report of the High Level Panel on Illicit Financial Flows out of Africa, chaired by Thabo Mbeki, cited the Tana Forum background study (Cobham, 2014) and reiterated its analysis of the linkages with security; and so it was no surprise that the IFF target in the Sustainable Development Goals (SDGs) appeared under Goal 16: ‘Promote peaceful and inclusive societies for sustainable development, provide access to justice for all and build effective, accountable and inclusive institutions at all levels’:

16.4 By 2030, significantly reduce illicit financial and arms flows, strengthen the recovery and return of stolen assets and combat all forms of organized crime…

The linkages between IFF and insecurity are not necessarily well understood, however. Assessing how the two issues interact can help to identify the range of policy responses that will support powerful progress.


Illicit financial flows


There is no single, agreed definition of IFF. The Oxford dictionary definition of ‘illicit’ is: “forbidden by law, rules or custom.” The first three words alone would define ‘illegal’, and this highlights an important feature of any definition: illicit financial flows are not necessarily illegal. Flows forbidden by “rules or custom” may encompass those which are socially and/or morally unacceptable, and not necessarily legally so. Multinational tax avoidance (as opposed to illegal tax evasion) might come under this category.

This particular example also shows why a legalistic approach may introduce an unhelpful bias. Commercial tax evasion affecting a low-income country where the tax and authorities have limited administrative capacity is much less likely either to be uncovered or successfully challenged in a court of law, than would be the same exact behaviour in a high-income country with the same laws but with relatively empowered authorities. A strictly legal definition of IFF is therefore likely to result in systematically – and wrongly – understating the scale of the problem in lower-income, lower-capacity states. For this reason above all, a narrow, legalistic definition of IFF should be rejected.

Figure 1: Main IFF types by nature of capital and transaction

GREAT_Insights_Vol5_iss1_Cobham_Fig1

The central feature of IFF – and incidentally a major reason their measurement is so difficult – is that they are deliberately hidden: financial secrecy is key, in order to obscure either the illicit origin of capital or the illicit nature of transactions undertaken (or both). As illustrated in Figure 1, four main types of behaviour are captured: 1) market/regulatory abuse (e.g. using anonymous companies to conceal political conflicts of interest, or breaches of antitrust law); 2) tax abuse; 3) abuse of power, including the theft of state funds and assets; and 4) laundering of the proceeds of crime. Figure 1 also highlights that there is a broader distinction between ‘legal capital IFF’ (tax abuse and market abuse, types 1 and 2) and ‘illegal capital IFF’ (the abuse of power and laundering of criminal proceeds, types 3 and 4).


Security and state ‘fragility’


There is growing agreement that the concept of fragile states – as a binary division against all other, ‘non-fragile’ states – is an unhelpful one for analysis. Instead, it is more useful to think of all states as occupying some position on a spectrum of (risk of) fragility. As the High Level Panel on Fragile States (2014) put it:

Fragility comes about where [pressures such as those stemming from inequality and social exclusion, or from new resource rents and resource scarcity] become too great for countries to manage within the political and institutional process, creating a risk that conflict spills over into violence – whether interstate or civil war, ethnic or tribal conflict, widespread criminality or violence within the family. Countries that lack robust institutions, diversified economies and inclusive political systems are the most vulnerable. In the most acute cases, violence has the effect both of magnifying the underlying pressures and eroding the institutions needed to manage them, creating a fragility trap from which it is very difficult to escape.

The risk of fragility is then closely related to a state’s ability to provide citizens with ‘negative’ security (to prevent personal, community, political and environmental insecurity) and with ‘positive’ security (to provide the conditions for economic, food and health security and progress). These two forms of security exhibit potentially mutually reinforcing relationships with particular types of IFF.


Two vicious circles


Figure 2 shows a vicious circle linking illegal capital IFF and problems of negative security. Where IFF derive from abuse of power – say, for example, the extreme behaviour of a kleptocratic leader – the cycle follows almost tautologically. The nature of the IFF itself undermines state legitimacy and both the capacity and interest to provide security, or indeed to act to curtail IFF.

When the rise in IFF reflects laundering of the proceeds of crime, it is the underlying crimes where the linkages are likely to emerge. Most dramatically, Cockayne (2011) finds that drug and human trafficking has led to little less than the criminalisation of governance itself in West Africa and the Sahel. He identifies two hubs that grew strongly after Caribbean counter-narcotics efforts in the 1990s pushed the trade elsewhere: one around Gambia, Guinea and Guinea-Bissau, and the other around Benin, Ghana and Togo. In addition, Cockayne highlights important services provided in other states – namely money laundering in Senegal, and transit in Mali, Mauritania and Niger. The growing involvement of the state in criminal activity (including IFF), and the growing power of criminality over the state, make the vicious circle somewhat inevitable again.

Figure 2: The vicious cycle of negative security and illegal capital IFF

GREAT_Insights_Vol5_iss1_Cobham_Fig2

Much of the problems of conflict and negative security arise in countries characterised by low levels of institutionalisation of authority, a heavy reliance on patronage politics and an accordingly high level of allocation of state rents to unproductive activities (patronage, to maintain the political machine). For a rent-seeking patronage order to function, it must resist or evade the pressures to institutionalise state finance – through, for example, an incentive structure in which senior officials have a personal interest in financial opacity and the misuse of public funds, and fiscal policy is subordinated to the ‘political budget’ (the state allocation for patronage purposes). Major sources of funds such as natural resource companies may be rewarded through the opportunities to evade tax with impunity, and may maximise net profits through bribery.

In turn this kind of state structure creates structural incentives for violence. Kleptocracy will tend to require violence to protect the position of privilege; those outside may resort to force to extort rents from those in power, or to challenge for the prize of (illegitimate) power itself.

All four IFF types shown in Figure 1 are likely to result in reductions in both state funds and institutional strength – that is, they undermine governance as well as domestic resource mobilisation. While little research has sought to quantify the governance impact, and some attention has been given to the theft of state assets, a growing body of literature seeks to assess the financial scale of flows and the revenue losses associated with particular elements. Consistently, the scale of IFF and of revenue losses from corporate profit-shifting and from individual evasion through undeclared offshore assets is greater in lower-income countries; and often material in respect of countries’ GDP. Indicative estimates of the resulting impacts on basic human development outcomes such as child mortality suggest these too are powerful indeed – potentially bringing African achievement of the Millennium Development Goal target forward from an estimated 2029 to 2016, for example (O’Hare et al., 2014).

Figure 3: The vicious cycle of positive security and legal capital IFF

GREAT_Insights_Vol5_iss1_Cobham_Fig3

Figure 3 illustrates the vicious circle that can arise between these largely legal capital IFF, and problems of positive security. Bluntly, revenues are undermined where they are most needed; and further institutional damage follows from the weakening of the state-citizen relationship that is built on effective taxation.


IFF and security: Policy implications


At the Tana Forum in 2014, President Salva Kiir of South Sudan told how the ‘vultures’ had circled the new state even before it came into existence, building relationships with soldiers and others, so that when the moment came they were poised to create a web of contracts that channelled away oil revenues into anonymity – without delivering on the contracts:

When peace was signed, the vultures that were hovering over Sudan landed. We have learned in our cultures that when you see vultures hovering around, there must be a dead animal – or something is going to die… They knew there would be a vacuum of administration there… That [oil] money was disappearing day by day to where you cannot trace it.

The central feature of IFF is that they are hidden, typically by the financial secrecy provided by other jurisdictions. The secrecy in question relates primarily to the provision of vehicles for anonymous ownership such as shell companies; to the refusal to provide information on foreigners’ assets and income streams to their countries of tax residence; and to the type of corporate opacity that obscures the worst excesses of multinationals’ profit-shifting. As shown by the Tax Justice Network ranking of tax havens, the Financial Secrecy Index, this includes many of the leading economies – not least the USA, ranked third.

States can protect themselves to a degree, by ensuring greater transparency of public contracts for example, and public country-by-country reporting by multinationals; and by engaging fully in the multilateral process for automatic exchange of tax information. But while other states insist on selling secrecy, major obstacles will remain.

Success in the Sustainable Development Goals target of curtailing illicit financial flows would contribute to reducing risks of state fragility across the board – and to achieving many human development targets too. But such progress depends on international progress against financial secrecy. A significant step would be the adoption of indicators for target 16.4 that will ensure individual states are held accountable for the secrecy they provide globally – and the IFF they stimulate as a result.

The following indicators (Cobham, 2015) draw from the agreed policy positions in the Sustainable Development Goals and the Financing for Development declaration from Addis, July 2015:

  • For each country and jurisdiction, on what proportion of foreign-owned assets and to the states of what proportion of the world’s population, are they providing tax information bilaterally to others?
  • For each country and jurisdiction, from which countries and jurisdictions are they receiving tax information bilaterally?
  • For each country and jurisdiction receiving information, what proportion and volume of revealed assets were already declared by the taxpayer, and what resolution has reached each year in respect of the remainder?
  • For each country and jurisdiction, for multinationals making up what proportion of the declared multinational tax base is country-by-country reporting publicly available?

The harder it is for vultures to hide, the fewer may be the unnecessary deaths suffered.

Figure 4: Overview of IFF and security linkages

tana overview fig

 


References


Cobham, A., 2014, ‘The impact of illicit financial flows on peace and security in Africa’, Tana High-Level Forum on Security in Africa Discussion Paper.

Cobham, A., 2015, ‘Uncounted: Power, inequalities and the post-2015 data revolution’, Development 57:3/4, pp.320-337.

Cockayne, J., 2011, ‘Transnational threats: The criminalization of West Africa and the Sahel’, Center on Global Counterterrorism Cooperation Policy Brief (December).

High Level Panel on Fragile States, 2014, Ending Conflict & Building Peace in Africa: A call to action, African Development Bank: Tunis.

High Level Panel on Illicit Financial Flows out of Africa, 2015, final report.

O’Hare, B., I. Makuta, N. Bar-Zeev, L. Chiwaula & A. Cobham, 2014, ‘The effect of illicit financial flows on time to reach the fourth Millennium Development Goal in Sub-Saharan Africa: a quantitative analysis’, Journal of the Royal Society of Medicine 107(4), pp.148-156.

 

Time for a global compact on financial transparency?

Apologies for the recent absence of the Tax Justice Research Bulletin. The TJRB will be back soon, and in the meantime here’s a review of the major research contribution from the second half of 2015. This longish post is based on my remarks at the book’s launch in Oslo in December (and includes a couple of the authors’ slides), where the idea of a global compact ended up being discussed at some length…

Challenging narratives: Illicit flows, corruption, Africa and the world

Ndikumana coverIbi Ajayi & Léonce Ndikumana (eds.), 2015, Capital flight from Africa: Causes, effects and policy issues, Oxford University Press.

This new volume from the AERC (African Economic Research Consortium) is a very welcome milestone in scholarship on the complex and contested areas of capital flight and illicit financial flows (IFF). It is more than that however. It is a powerful book in terms of what it represents; what it contributes; and above all, of what it challenges. These are discussed in turn below, before consideration of a major policy opportunity that now beckons.

Context

Capital flight is defined as consisting of (predominantly illicit) unrecorded movements of capital across borders, made up of discrepancies between the recorded sources and uses of foreign exchange, combined with the movements hidden through trade mispricing. The larger set of IFF will also include recorded flows of illicit capital, for example through money laundering.

This is only the second major volume to address IFF directly, and it is no coincidence that the Norwegian government has provided support to both. This issue, now firmly on the global policy agenda, was nowhere when Norway first began to promote it. Has any donor managed such powerful impact on any issue, through targeted, strategic interventions? And yes, full disclosure: the Tax Justice Network, too, has benefited from Norwegian funding.

The first IFF volume, Draining Development, was published by the World Bank in 2012 following a 2009 conference. Despite initial agreement, the Bank backed out of providing a full study itself and instead brought together external researchers (myself included). The resulting work remains a milestone, but is inevitably somewhat patchy given the quite disparate nature of the group.

Ajayi & Ndikumana, in contrast, have produced a volume with a good degree of coherence across the individual chapters and above all in terms of the overall arc, presumably reflecting the authors’ common AERC involvement as well as the editors’ guiding hand.

The report of the African Union and Economic Commission for Africa’s High Level Panel (HLP) on Illicit Financial Flows out of Africa, chaired by H.E. Thabo Mbeki, has already brought significant policymaker focus to the issues – including outside the continent. The HLP report was itself preceded by an IFF focus for the 2014 Tana High Level Forum on Peace and Security in Africa; and over many years, the development of a strong civil society engagement spearheaded by Tax Justice Network – Africa.

And so the new volume represents further evidence of African leadership on these issues, in the research sphere also. But its contribution is greater than this.

Major findings

First, the book provides updated (Ndikumana & Boyce) estimates of the scale of capital flight from the continent over four decades. In the context of inevitable difficulties of estimating from data anomalies, things which are deliberately hidden – as well as general weaknesses of data quality and/or availability – these are the leading time-series estimates available (more on the question of estimates below).

Ndikumana slide1 The book’s major contributions lie in the analysis of the determinants, and as importantly the non-determinants, of capital flight. The non-determinants include:

  • risk-adjusted returns (chapter 2: Ndikumana, Boyce & Ndiaye);
  • ‘orthodox’ monetary policy (high interest rates in particular – chapter 6: Fofack & Ndikumana);
  • capital account liberalisation (results for domestic financial liberalisation are less clear – chapter 7: Lensink & Hermes); and
  • ‘macro fundamentals’ (especially the pursuit of inflation control and balance of payments sustainability – chapter 9: Weeks).

Weeks’ sharp statement of findings arguably applies across the wider set of results too:

“the orthodox narrative that capital flight results from unsound macro policies [is reversed]. On the contrary, capital flight may force governments into policies that work against the majority of the population”

Evidence is also found for the following determinants of capital flight:

  • external debt (much of which has historically left again through the ‘revolving door’ – chapters 2, 3: Ajayi, and 5: Murinde, Ocheng & Meng);
  • weak rules and/or capacity (throughout, but most clearly in chapter 10: Arezki, Rota-Graciozi & Senbet, which addresses the impact of thin capitalisation rules in resource-rich countries);
  • habit, and the impact of continuing impunity – including social determinants of tax compliance and the possibility of vicious circles of IFF and governance (chapters 5, 11: Ayogu & Gbadebo-Smith, and 12: Kedir); and far from least
  • international financial secrecy (chapters 8: Massa, 9, 13: Barry, 14, and 15: Moshi).

Taken together, these findings provide a base of new evidence sufficiently broad that it has implications not only for national policymakers, but also for the wider narrative.

A new challenge to sticky narratives

There are a number of sticky narratives in development. As in other fields, these are stories which seem to have a staying power in popular and policy discourse that far outlives any basis they may have in technical research. Two of these come together in the issues explored here.

Perhaps the stickiest of narratives, and certainly one of the most pernicious, is the persistent association of corruption with poverty. This narrative has its roots in self-justifying colonial discourse of fitness to rule (and to be ruled), and its persistence reflects the decades-long promulgation in the media (and by some NGOs) of images of kleptocratic elites in post-independence regimes. The largely (though far from exclusively) African identity of those states (i.e. those that most recently gained independence) often provides an additionally unpleasant (and sticky) racist element.

The Corruption Perceptions Index, which aggregates multiple surveys (largely of international elites), is highly correlated with per capita GDP: so respondents tend to perceive poorer countries as more corrupt. But the consistent presence of Somalia, for example, near the bottom; or of Switzerland near the top; may reveal more about those whose perceptions are surveyed, than those who are perceived.

One of the motivations for the creation of the Tax Justice Network’s Financial Secrecy Index was precisely to challenge this view, by using objectively verifiable criteria to rank jurisdictions according to their provision of financial secrecy to non-residents: if you will, the selling of corruption services.  Top ranking – that is, the biggest global provider of financial secrecy – is Switzerland. The United States comes in third place, Mauritius 23rd and Ghana 48th.

The second sticky narrative holds that capital flight is, in effect, a punishment on (especially African?) governments for bad policy. This can act in combination with the first to produce the story that African capital flight is the result of African corruption.

The findings of the AERC volume provide a powerful challenge to this story. First, they offer some support to the old challenge: that it takes ‘two to tango’. Or as Mobutu Sese Seko is quoted: “It takes two to corrupt – the corrupter and the corrupted” (p.406, citing Bob Geldof). In this view, African elites may be culpable but so too are their ‘partners’.

More importantly, the findings support a new challenge: What if most of the blame lies elsewhere? While governments have tended to pursue the policies shown to be ineffective in reducing capital flight, many of the real levers of power have lain outside the continent. In each of the following cases, for example, who is the corrupter and who the corrupted?

  • An anonymous BVI company is awarded a cheap Zambian mining concession, then flips it to a UK-listed plc
  • A Swiss bank holds a Nigerian resident’s overseas assets through a Jersey trust; nothing is reported to the Nigerian authorities
  • A US-headquartered multinational shifts profit from Ghana to Luxembourg

We could go on; and indeed the book offers many examples. We should also consider other examples, such as that of a South African multinational shifting Uganda profits to Mauritius. We might perhaps settle on a view that the blame is very well shared indeed around the world. We might also wonder if poverty is not associated with corruption, so much as with exploitation by the corrupt.

At a minimum, the evidence presented by the AERC authors should serve to unstick the casual elision of corruption and poverty, and of capital flight and African policies.

As Nkurunziza (chapter 2) shows, the potential gains in poverty reduction from reversing capital flight are substantial.

Ndikumana slide2

Policy opportunities

The Sustainable Development Goals’ target to reduce illicit financial flows is a golden opportunity to catalyse improved quantitative methodologies; to ensure more and better data is available; and to introduce indicators that drive accountability for progress. But the SDGs will not fill the policy gap.

Although the ‘crazy ideas’ generated by civil society in the early 2000s now dominate the global policy agenda, there is a failure across the board – most obviously in terms of country-by-country reporting, and automatic exchange of tax information – to ensure that the benefits flow to developing countries as well as OECD members.

It seems that political power, rather than genuine commitment to transparency principles, still determines who is able to benefit. The Mbeki panel has called for greater progress in these areas. But is there an opportunity to sidestep, or indeed to leapfrog, much of the current issues by taking a more direct approach?

The final chapters of this important volume (15; and 16 – Boyce & Ndikumana in particular) detail a wide range of policy responses to the various findings, from capital controls and debt audits to some of the fundamental challenges to financial secrecy that the Tax Justice Network exists to champion – not least, fully public country-by-country reporting for multinational companies.

A global compact on financial transparency

The most striking proposal, however, is one not currently on the international policy agenda: a global compact among governments, CSOs and international institutions, covering strategies at the national, continental and global levels. Boyce & Ndikumana highlight the importance of:

  • National governments integrating the various mechanisms and agencies that are relevant for each type of illicit flow;
  • Continental conventions to provide a framework for harmonisation and coordination of national initiatives;
  • Global civil society networks working more closely with local civil society organisations, with greater speed of communication, greater coordination and institutionalised collaboration.; and
  • Global initiatives that have ‘adequate enforcement capacity. At the moment, global conventions do not have the legal capacity to hold individual governments accountable for the implementation of relevant dispositions; their rules are not binding at the national level’ (p.413)

The proposal, and the last point above all, carries an echo of an earlier proposal for an international financial transparency convention. In 2009, the Norwegian Government Commission on Capital Flight from Poor Countries (section 9.2.3) proposed such a convention, which would apply to all countries and include two main elements relating to transparency:

First, it must bind states not to introduce legal structures that, together with more specifically defined instruments, are particularly likely to undermine the rule of law in other states. Second, states which suffer loss and damage from such structures must have the right and duty to adopt effective countermeasures which will prevent structures in tax havens from causing loss and damage to public and private interests both within and outside of their own jurisdiction.

The commonalities with the proposed global compact are the recognition that states have responsibilities towards each other in respect of financial transparency; and that these are sufficiently serious, and their abnegation sufficiently damaging for other states and citizens, that practical enforcement is necessary.

The authors and others in the AERC network are now working on a range of country studies which will provide detailed further evidence of the issues in question. Meanwhile the ‘Stop the Bleeding’ consortium that brings together a wide range of African actors to carry forward the agenda of the Mbeki panel is increasingly active.

Part of the reason this book is a milestone is that it sheds new light on what is known about the causes of illicit capital flows; offering supporting to the narrative that corruption and IFF should be seen not as the result of poverty, but rather as its exploitation – often led by external actors and always facilitated by financial secrecy elsewhere.

It will take on a new significance altogether if it also marks the starting point for an African-led process, perhaps backed by Norway and others, to develop an international agreement establishing the basic transparency expected – nay, required – from states toward one another; and making enforceable for the first time, claims against states for the damage caused by their financial secrecy.

[Talking of counter-measures – look out for a new TJN proposal launching tomorrow…]

Uncounted: Power, inequalities and the post-2015 data revolution

Data: Facts and statistics collected together for reference or analysis

Revolution: A forcible overthrow of a government or social order, in favour of a new system

– Oxford English Dictionary

Just published: a special double issue of the journal Development on African inequalities, including my (open access) guest editorial setting out the thesis of ‘Uncounted’ – how power and inequality are intimately related to who and what go uncounted, from tax evasion in the 1% to the systematic exclusion of women and girls, from the corrupting influence of illicit financial flows to the marginalisation of people living with learning disabilities…

Guest Editorial: Uncounted: Power, inequalities and the post-2015 data revolution

Development (2014) 57(3–4), 320–337. doi:10.1057/dev.2015.28

People and groups go uncounted for reasons of power: those without power are further marginalized by their exclusion from statistics, while elites and criminals resist the counting of their incomes and wealth. As a result, the pattern of counting can both reflect and exacerbate existing inequalities. The global framework set by the Sustainable Development Goals will be more ambitious, in terms of both the counting and the challenging of inequalities, than anything that has gone before. This article explores the likely obstacles, and the unaddressed weaknesses in the agreed framework, and suggests a number of measures to strengthen the eventual challenge to inequalities, including by the promotion of tax justice measures.

Keywords: inequality; data; household surveys; SDGs; tax; uncounted

 

While the whole edition just came out, it is technically the 2014 volume. The majority of the papers are drawn from the Pan-African Conference on Tackling Inequalities in the Context of Structural Transformation held in Accra that year, and include some cracking contributions – not least important papers on gender inequality, sustainability and disabilities, as well as broader pieces on the economics and politics of inequality. Check out the full table of contents.

Power in the darkness, uncounted

Measuring illicit flows in the SDGs

Today (Tuesday 15 December) is the last day of the consultation on ‘grey’ indicators for the Sustainable Development Goals – that is, the ones where there remains a substantial degree of uncertainty about the final choice of indicator. To the surprise of literally no one, this includes 16.4: the illicit financial flows (IFF) indicator.

At the bottom of this post is my submission, which makes two main proposals for the way forward. Short version: we need a time-limited process to (i) improve data and (ii) build greater methodological consensus; and we need to include from the outset measures of exposure to financial secrecy which proxy for IFF risk.

The consultation

The full list of green and grey indicators is worth a look, as much as anything as a snapshot of where there’s more and less consensus on what the new development agenda will, and should, mean in practice. The late-October meeting of the Inter-Agency Expert Group (IAEG-SDGs) produced a plethora of documents showing the range of positions.

As an aside, I particularly liked the IAEG stakeholder group‘s demand for a proper inequality measure in 10.1:

The omission of any indicator to measure inequality between countries is glaring. We propose an indicator based on either the Gini coefficient or Palma ratio between countries which will not require additional data from states, but will provide a crucial guide to the effectiveness of the entire agenda. In general, inequality is not limited to income and therefore Gini and Palma must be measured within countries. Of the proposals to measure inequality, we support 10.1.1 comparison of the top 10% and bottom 40% and further breakdown wherever possible.

On illicit financial flows, this was the sensible and promising position of the UN Chief Statisticians:

Target 16.4. As commented by many countries, the indicator on illicit financial flows, while highly relevant, lacks an agreed standard methodology. Statistical programmes in international organizations stand ready to support the IAEG to initiate a process for developing such a methodology and support the gradual implementation of the indicator in future monitoring.

This engagement of international organisations is exactly what has been lacking in this area, and what organisations producing estimates such as our colleagues at Global Financial Integrity, have long called for: “don’t complain about our methodology, do better”.

Below is my quick submission. (The consultation phase only runs 9-15 December, and I only heard yesterday – clearly need to spend more time on UNSTAT.org…) Any comments very welcome.

Two proposals: Illicit flows in the SDGs

At present, there is great consensus on a target in the SDGs to reduce illicit financial flows, but a lack of consensus on an appropriate methodology and data sources by which to estimate them (and hence to ensure progress). There are important implications for the SDG indicator, set out below. To summarise:

  • A fully resourced, time-limited process is needed to bring together existing expertise in order to establish priorities for additional data, and a higher degree of consensus on methodology, so that by 2017 at the latest consistent IFF estimates (in current US$) will be available; and
  • Recognising that even the best such estimates will inevitably have a substantial degree of uncertainty, and are likely also to lack the granularity necessary to support national policy decisions, additional indicators should be adopted immediately which proxy for the risk of IFF and provide that granularity – specifically, by measuring the financial secrecy that countries are exposed to in their bilateral economic and financial relationships.

Illicit flows are, by definition, hidden. As such, most approaches rely on estimation on the basis of anomalies in existing data (including on trade, capital accounts, international assets and liabilities, and of the location of real activity and taxable profits of multinational corporations). Almost inevitably then, any estimate is likely to reflect data weaknesses as well as anomalies that result from illicit flows – so that one necessary response is to address the extent and quality of available economic and financial data, especially on bilateral stocks and flows.

In addition, there is no consensus on appropriate methodologies – despite leading work by many civil society organisations, and growing attention from academic researchers. In part, this reflects the failure of international organisations to engage in research here – a failure which should be rectified with some urgency, as part of the second necessary response which is to mobilise a sustained research effort with the aim of reaching greater consensus on high quality methodologies to estimate illicit financial flows.

Since the SDG indicators are needed almost immediately, the efforts to improve data and methodologies should be resourced in a strictly time-limited process, ideally under the auspices of a leading international organisation but recognising that the expertise resides with civil society (primarily among members of the Financial Transparency Coalition) and in academia, so that the process must be fully inclusive.

The results of this process are unlikely to be available before 2017. In addition, it must be recognised that the eventual estimates of illicit financial flows (IFF) will not be free of uncertainty. Moreover, individual IFF types (e.g. tax evasion or money-laundering) do not map onto individual channels (e.g. trade mispricing or non-declaration of offshore assets), so that overall IFF estimates – however good – will not immediately support granular policy responses.

The SDG indicators should therefore include, starting immediately, a set of measures of risk. Since IFF are defined by being hidden, measures of financial secrecy therefore provide the appropriate proxies. The stronger a countries’ trade or investment relationship with secrecy jurisdictions (‘tax havens’), the greater the risk of hidden, illicit components. For example, there is more risk in trading commodities with Switzerland than with Germany; and less risk in accepting direct investment from France than from Luxembourg.

The Tax Justice Network publishes the major ranking of secrecy jurisdictions, the Financial Secrecy Index (FSI) every two years. This combines measures of financial scale with 15 key indicators of secrecy, in a range of areas relevant across the horizon of IFFs. The African Union/Economic Commission for Africa High Level Panel on Illicit Flows out of Africa, chaired by H.E. Thabo Mbeki, published pioneering work using the FSI to establish indicators of vulnerability for each African country, separately for trade, investment and banking relationships.

In addition, each country and jurisdiction should be asked to publish the following information annually, in order to track consistently the contribution of each to financial secrecy affecting others:

  1. the proportion and absolute volume of domestically-established legal persons and arrangements (companies, trusts and foundations) for which beneficial ownership information is not publicly available;
  2. the proportion and absolute volume of cross-border trade and investment relationships with other jurisdictions for which there is no bilateral, automatic exchange of tax information; and
  3. the proportion and absolute volume of domestically-headquartered multinational companies that do not report publicly on a country-by-country basis.

These indicators map to three proposed IFF targets which are estimated to have very high benefit-cost ratios.

By prioritising the suggestions made here, the SDG process can make a great contribution to both the analysis and the curtailment of IFFs.

mbeki vulnerability

HSBC, money-laundering and Swiss regulatory deterrence

Number-crunching, a la Private Eye: the case of HSBC and its Swiss fine for “organisational deficiencies” in relation to money-laundering.

 

[table id=1 /]

 

Not all the assets under management were laundered, of course. Far from it, we must hope. But the “organisational deficiencies” – including reassuring clients that no information would reach their home authorities, or using offshore accounts to circumvent disclosure requirements – represent risks that applied to the whole operation.

To put it another way, the fine is about a fifth of the £135 million in tax that HMRC recovered in the UK alone.

Even the prosecutor imposing the fine was embarrassed, and “launched a stinging attack” on the Swiss law that apparently prevented anything within yodeling distance of being a deterrent.

New publication: The Financial Secrecy Index

EG FSI grab

The Financial Secrecy Index is the Tax Justice Network’s flagship index of secrecy jurisdictions, or ‘tax havens’. The idea emerged from discussions at the World Social Forum in Nairobi, in January 2007.

In part, it came from frustration with a popular view of corruption as a ‘poor country’ problem – when all the analysis of experts in the Tax Justice Network showed high-income countries as central to financial crime.

And in part, it stemmed from recognition that the lists of ‘tax havens’ compiled by the OECD, IMF and others would never solve the problem – because the subjective, political nature of their processes meant that the jurisdictions left on the list were not the most dangerous, but merely the least powerful (the least able to negotiate their way off).

Since 2009, the Financial Secrecy Index (FSI) has been published biennially as a ranking of major secrecy jurisdictions. It combines a ‘secrecy score’ with a measure of global scale. The secrecy score reflects around 50 measures of financial secrecy, most compiled by international organisations. The scale measure reflects the importance of each jurisdiction in providing financial services to non-residents around the world.

Figure 1 shows how the main lists used have failed to capture the bulk of this activity – in most cases, including jurisdictions which in total account for a smaller share of global activity than the top ten by scale. Indeed, list-based approaches would in general have been more encompassing, and of equivalent financial secrecy, if they had simply listed instead the top ten of the FSI (by the combination of secrecy and scale).

FSI fig1

The 2009 G20 was probably the final high point for international policymakers trying to use tax haven lists to make progress. The one attraction was that it used an objective and relevant criterion (number of tax information exchange agreements), but set the bar so low that it was almost immediately depopulated, with no discernible impact – hence the academic assessment as a fairly dismal failure.

Since then, the importance of specific policies as required for progress on the FSI has come to dominate the international agenda (in rhetoric, if not yet in practice) – from automatic information exchange, to public registries of beneficial ownership.

The FSI itself has been used in a whole range of ways, including by central banks and international organisations, by rating agencies and in risk analysis, in a number of other indices, and now increasingly in academic studies.

Now a full paper on the FSI is being published for the first time in a leading academic journal, Economic Geography. Here’s the abstract:

Both academic research and public policy debate around tax havens and offshore finance typically suffer from a lack of definitional consistency. Unsurprisingly then, there is little agreement about which jurisdictions ought to be considered as tax havens—or which policy measures would result in their not being so considered. In this article we explore and make operational an alternative concept, that of asecrecy jurisdiction and present the findings of the resulting Financial Secrecy Index (FSI).

The FSI ranks countries and jurisdictions according to their contribution to opacity in global financial flows, revealing a quite different geography of financial secrecy from the image of small island tax havens that may still dominate popular perceptions and some of the literature on offshore finance. Some major (secrecy-supplying) economies now come into focus. Instead of a binary division between tax havens and others, the results show a secrecy spectrum, on which all jurisdictions can be situated, and that adjustment for the scale of business is necessary in order to compare impact propensity. This approach has the potential to support more precise and granular research findings and policy recommendations.

I was working at the Center for Global Development when this paper was being written, and the ungated version is published in their working paper series.

IFF risk intensityWe hope that the FSI continues now to be used increasingly in research. We know of one major paper on the FSI which is forthcoming, and a number of applications are under discussion. These include the creation of measures of vulnerability to financial secrecy index, which were piloted in Thabo Mbeki’s high level panel report for the Economic Commission for Africa (the figure shows the relative intensity of financial secrecy of the partners for bilateral trade and investment for each country).

We plan a major evaluation of the index after the 2015 edition comes out in November, so we would warmly welcome comments and criticisms of the methodology.

We’re grateful to all who have contributed to the creation and construction of the index over the years, not least John Christensen, Moran Harari, Andres Knobel, Richard Murphy, Nick Shaxson and Sol Picciotto (who may have had the idea first, and certainly provided the whisky that drove the discussion).

And we’re grateful also for important funding to this work from the Ford Foundation, the Joffe Trust, Misereor and Oxfam-Novib; as well as broader support for dissemination and mobilisation from Norway and Christian Aid.

It’s not necessarily easy to fund work that challenges accepted intellectual positions directly. But it can be the only way that policy errors are undone.

Uncounted: has the post-2015 data revolution failed already?

This was originally posted at the Development Leadership Program. I’m grateful to Cheryl Stonehouse for patient(!) editing.

Counting matters. As the Stiglitz-Sen-Fitoussi report puts it:

What we measure affects what we do; and if our measurements are flawed, decisions may be distorted…. [I]f metrics of performance are flawed, so too may be inferences we draw.

The UN Secretary General was told two years ago by the 2012–13 High Level Panel of Eminent Persons on the Post-2015 Development Agenda that any follow-up to the Millennium Development Goals (MDGs) had to include adata revolution.

In common with the UN global thematic consultation on inequality earlier in 2013, the High Level Panel recognised that challenging inequalities and better data collection are inextricably linked – because better data make it clear which goals are and are not being met, and because with better data we can all demand answers and action.

So the data revolution can only be about changing the balance of power. Yet much of the current discussion emphasises purely technical reforms instead.

I use the term ‘Uncounted’ to describe a politically motivated failure to count that reflects power. It ignores people and groups at the bottom of distributions whose ‘uncounting’ adds another level to their marginalisation. It ignores people at the top whose uncounting hands them even greater power.

Kenya enrolment series - justin-amandaWhy do we fail to count well at the bottom? This figure shows three different series for primary school enrolment in Kenya. One comes from the Kenyan National Bureau of Statistics (KNBS); one from the Demographic and Household Surveys (DHS); and one from the Ministry of Education (MOE). MOE data come directly from schools and are used as the basis for funding decisions.

Now, MOE trends tell you that progress is rapid and unsustained, while surveys look static. Which do you believe? If your children are in Kenyan state education, how well counted do you feel?

Not that survey data are perfect either. Six groups are systematically excluded from most household survey and census returns. Excluded by design are the homeless, those in institutions and nomadic populations. Ignored by undersampling are those living in fragile, disjointed households, in areas facing security risks and in informal settlements. These groups, thought to amount to around 250 million uncounted people – roughly 3.5% of today’s global population – obviously contain a disproportionate share of the world’s poorest people. They are being systematically failed even in the ‘best’ counting approaches we have.

It’s no coincidence that people in poverty are excluded. Nor is it because of technical problems that Sudan’s government in Khartoum suppresses publication of data on regional development outcomes. Or that the deaths of those living with disabilities in the UK go uncounted.

As for counting at the top, it’s equally no coincidence that high-income households are undersampled in surveys. Or that even when tax data are used to adjust the picture, major wealth – $8 trillion? $32 trillion? – remains uncounted. Or that the OECD, charged with measuring the ‘misalignment’globally between the profits of multinational companies and the actual location of their economic activity, has so far been unable to lay its hands on the necessary data.

UK wealth inequalityOur choice of measure is also important – and also political. Take a look at this chart which shows how two measures, the Gini coefficient and the Palma ratio, come up with radically different answers to the same question about income distribution. Has UK wealth inequality been flat across the crisis? Or did it fall sharply, then immediately rebound even more dramatically?

The Gini coefficient embodies such strong normative views (pp. 129–144) that it doesn’t capture well changes in the top 10%, or in the bottom 40% where most poverty lies. It is very encouraging (to me!) that instead the Palma ratio has featured in recent drafts of the post-2015 indicators.

The Palma – which expresses the ratio of income shares of the top 10% to the bottom 40% – also embodies a normative view, but it’s absolutely explicit about it. The chart of UK wealth distribution across the financial crisis shows why the Gini gave rise to so many congratulatory headlines about stable inequality, and why they’re wrong.

What might an actual ‘data revolution’ look like? If there’s no recognition of the political nature of the problem, then we’d be fooling ourselves to expect any great change: the same people and the same things will continue to go uncounted.

What’s noticeable in the discussion so far is that there has been a great deal more attention paid to the uncounted at the bottom than at the top. There’s been precious little mention of Piketty’s proposal for a global wealth register, for instance, or of specific measures that would eliminate anonymous company ownership, require states to exchange tax information with each other (think SwissLeaks), or multinational companies to publish country-by-country reporting (think LuxLeaks). Yet if we don’t start counting things that make elites uncomfortable, then we’re not doing it right.

Data reforms are, broadly, welcome; but a revolution remains far off.  People and things go uncounted largely for political, not technical reasons.

That’s why a data revolution is so badly needed. And revolutions aren’t technical: they’re political.

An African civil society perspective on FfD

The African regional consultation on Financing for Development (FfD) took place at the start of the week (like the European one). The submission from TJN-Africa puts particular emphasis on inequality, including women’s rights, and on global data issues.

Summary of CSO Recommendations to African governments

  1. African countries should push for the centrality of taxation as both the most important source of financing for development needs and the key lever to fight inequality.
  2. African countries should call for the establishment of a new intergovernmental body on tax matters with a clear mandate.
  3. African countries should stand together to ensure that FfD process not only recognises the importance of measures to increase transparency and accountability within the private sector as it does in Article 25 of the Zero draft but also that it commits the countries to act.
  4. African countries should implement the recommendations contained in the AU/UNECA high level panel (HLP) on IFF report.
  5. African countries should push for the integration of women’s rights into the FfD agenda as an  important issue which has relevance for tax policy.
  6. African countries should push for commitment  to the principle of redistribution via taxation and ensure the global data collection effort envisaged within the SDGs includes tracking the equity implications of tax policy
  7. African countries should call for the recognition of international cooperation on tax as a key priority related to financing within the new global partnership for sustainable development.
  8. African countries should make an explicit statement that MNCs paying their share of tax will be a major means of financing the SDGs.

The full document (with thanks to Savior Mwamba) can be found here.

3 ways to remove obstacles to effective taxation: #FFD3ECE

Update 24 March:

An interesting conference, including Amina Mohamed’s stressing of the urgency for development finance of tackling tax evasion and illicit financial flows. Of the three elements I discussed, it was governance that generated the most interest (perhaps in part because the suggestions on norms and transparency fall more clearly under post-2015 targets).

There felt to be quite broad consensus that simply upgrading the UN tax committee to intergovernmental standing would not do – resources are crucial if this is to become the globally representative, rule-setting body. To think about how much resourcing is required, think of the OECD’s current capacity on tax – and then scale up to global level.

But much supportive capacity already exists, if so mandated – for example, James Zhan of UNCTAD was on the same panel and spoke impressively about the work they have done on ensuring investment is not pursued for its own sake, nor maximised in terms of quantity, but rather seen as an important tool in the pursuit of the sustainable development. UNCTAD’s expertise in, for example, assessing investment and tax treaties in terms of their overall development benefit can be of value.

Is the required level of resourcing realistic? I’m not sure. But one suggestion from IBIS seems the right starting point: to hold a ministerial panel on the subject during the Financing for Development summit in Addis in July. If there is sufficiently broad desire to address the failed international governance of taxation, it should start in Addis – and if nobody turns up, I guess that’s the signal that the same failure will be accepted for the next wee while…

The pdf of my slides, in case the viewer below is too fiddly.

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Here are the slides I’m presenting at the UNECE regional consultation on Financing for Development in Geneva today (click on them to see the controls to move forwards). I’m arguing for a bit of focus in FfD on changing norms, governance and transparency at the international level, in order to open up space for effective taxation at the domestic level.

The slides are a little basic, because (a) I am, and (b) I’ve only got 7 minutes. With those excuses in place, comments are very welcome. And the hashtag is #FFD3ECE…

Alex-Cobham-UNECE-Geneva-FfD-230315

A couple of bits of related reading: