Trailing the tainted money

Tracing the trail of tainted money from origin to final destination has become an extremely complex proposition because most of the black money normally is camouflaged in more than two dozen jurisdictions uploaded in far-flung networks of trusts, shell corporations, and foundations to conceal it from tax authorities and law enforcers. Wealth managers not only exploit gaps in legal systems but also seek to influence legislation, especially in offshore tax havens, to the benefit of their clients. In doing so, they help undermine the legitimacy of governments that tolerate their wealthy criminals' evasion or avoidance of the financial responsibilities and corruption.
In view of these complexities and also because most of such tainted money is owned by the policymakers themselves in Pakistan who are also the main implementers of these policies they have most of the time resorted, instead, to amnesty schemes claiming that the move was being made to curb expansion in the black economy whose size is said to have almost equaled that of the formal economy. However, such schemes have helped whiten only a small fraction of the black money while at the same time served to penalize the honest taxpayers.
The Panama Papers leaks in April this year have, however, brought home a new dimension of the issue. The political opponents of the PMLN government insist that the flats in the UK owned by the Prime Minister's sons were bought with tainted money transferred from Pakistan through what is called laundering. They have approached the Supreme Court to get the owners of these flats to prove that the resources used for the purchase were clean and not the laundered money earned in Pakistan clandestinely by the Sharif family.
Indeed, all the money that is made through corruption - tax evasion, smuggling, black-marketing, bribery, kickbacks, under the table commissions, etc, - is not hoarded in cash. In fact, most of it is held in goods, in clandestine businesses, in real estate, in secure currencies like dollars, pounds and euros and in gold and jewellery.
The wealthy black money hoarders, however, remain continuously engaged in the game of whitening their loot using various clandestine methods, the primary one being laundering. Money laundering is the process that disguises the proceeds of crime and integrates it into the legitimate financial system. There are countless ways to launder money. For example, a criminal earns $1 million in cash from tax evasion in Pakistan. This cash is smuggled across border, placed in a bank account. From there the money is wired to account owned by anonymous shell company. It is finally integrated into white money when the shell company buys real estate in Pakistan or anywhere in the world for the client.
In recent years, there have been a number of high-profile Western bank scandals over money laundering. Most notably, HSBC admitted to violating the Bank Secrecy Act by failing to monitor over $200 billion in wire transactions between its Mexico and US subsidiaries, among other crimes. $881 million in drug money from the Sinaloa and Norte de Valle drug cartels were found to have been moved through HSBC-Mexico's accounts to HSBC-USA via the unmonitored wire transactions.
Sophisticated criminal operations often use trade-based money laundering, which involves over-and under invoicing export-import trade, to move large quantities of illicit money between countries. For example, in the Lebanese-Canadian Bank case, an international drug money laundering operation with ties to a UN sanctioned organisation commingled the revenues from used car sales in Europe with cocaine sales in Africa.
Many of Global Financial Integrity (GFI) policy recommendations, such as eliminating anonymous shell companies and tackling over-and under invoicing, are expected to make it more difficult to launder money. Countries are being also exhorted to comply with all Financial Action Task Force on Money Laundering (FATF) standards. FATF is an intergovernmental organisation founded in 1989 on the initiative of the G7 to develop policies to combat money laundering. In 2001, the purpose expanded to act on terrorism financing.
The global fight against money laundering and financial crime continues unabated and cash, in the form of high-denomination bank notes, is also being targeted. The European Central Bank (ECB) recently announced that it is cracking down on high-denomination notes, by gradually phasing out the €500 bill. And the Swedish central bank, the Riksbank, which announced last month that it is examining the possibility of eliminating all national banknotes, and replacing them with a Swedish digital currency. And last month Indian Prime Minister Narendra Modi in a surprise move ordered the withdrawal of 500 and 1,000 rupee notes from circulation.
Modi's decision to eliminate the 500 and 1000 rupee notes and replace them with new designs has been justified as a blow against corruption in the country. Under the scheme, the old notes could be swapped for the new ones, but owners of such notes were recorded and were called upon to explain how they came to have the cash.
However, according to commentator Haylea Campbell the disadvantages inherent in India's approach are more severe than the anticipated benefits, as subsequent developments quickly made obvious. The commentary by Campbell (The global war on cash: Another front in the fight against corruption and crime) that appeared in Rusi's ( Royal United Services Institute) newsletter Focus on December 2, 2016 claimed that the consequences are threefold.
First, in a cash-heavy society such as India's (with 85% of the cash in circulation consisting of 500 and 1,000 rupee notes), there has been an impact on the way in which citizens across the country can pay for necessary services and conduct transactions. Queues for cash machines were witnessed across India, and some banks were reported to have run out of cash in the week following the announcement. Restrictions on cash were felt in particularly poor communities, where local people cannot rely on electronic payments to facilitate day-to-day transactions.
Second, despite the fight against the black market and illicit financial flows being a key reason behind the decision to ban the notes in question, Modi has introduced a new 500 rupee note and also a higher denomination 2,000 rupee note. High-denomination notes are a key to the illicit economy, where they are highly prized by those transferring large amounts of cash. So, while Modi may have hit one generation of black marketeers with his measure, he has done nothing to prevent the rise of another, once the new high-denomination notes are in circulation.
The third reason why this move will not have the intended benefits is that the Indian monetary authorities forfeited something that cannot so easily be won back - trust. A central bank that declares its notes worthless (even after a prescribed period of time, as in India) is one that will struggle to convince its citizens that it can in fact be trusted not to do the same thing more frequently in future.
The Indian measure could, therefore, have the effect of pushing people to store money in currencies that seem more secure and are not subjected to the vagaries of the Indian government, such as the US dollar or the euro. Meanwhile, in Europe, the ECB, which issues and manages the euro, took the lead in showing how the fight against large cash denominations should really be run. In May, the ECB announced that the €500 note would be gradually phased out and would not be replaced by a higher denomination note.
This was helped in part by the fact that Germany is less reliant on cash now than when the Eurozone was first created; it was pressure from Germany that persuaded the ECB to create the €500 note to appease those citizens who were accustomed to using the 1,000 Deutsche mark note, which was worth around the same as €500. As cash usage has waned in Germany and other European states, the ECB has been able to eliminate high-denomination notes to crack down on illicit financial flows.
"Within criminal circles, the €500 note is known as the 'Bin Laden' because of its propensity to be used for money-laundering and terrorist financing due to the ease with which a large value can be stored and transferred. However, unlike in India, the ECB notes will continue to be redeemable by the ECB even after it ceases to be issued, which is expected to be around the end of 2018.
"So, a variety of criminals may no longer find it so easy to move around large quantities of cash. However, at the same time, the ECB has protected its essential reputation as an issuing bank which does not demonetize its own currency notes.
"While the ECB has taken steps to eliminate a certain note, another - non-Eurozone - EU member state is looking into moving away from cash altogether. Hoping to be the first central bank to issue its own virtual currency, the Riksbank - the world's oldest central bank - announced last month its intention to explore the feasibility of creating electronic krona (e-krona). Sweden's move seems less focused on tackling corruption and more a reflection of the way in which Swedish society has developed and moved away from physical cash.
"However, even if it is not the principal reason behind the research, creating a digital currency is expected to result in black money being brought into the legitimate banking system, and illicit financial activities being more difficult to conduct in the future, since presumably all the electronic currency transactions would be traceable.
"While each one of these examples is underpinned by its own logic, it is clear that the continuing battle against illicit financial flows is now focused on the technical aspect of cash. What will be interesting to follow in the coming years is the debate that will emerge between fighting criminality and the need for governments to keep in place a monetary instrument that provides its citizens with a way to conduct payments in relative privacy. And, hopefully, with more efficiency than the latest moves in India."