Crime and Corruption

S >> Sam Vaknin >> Crime and Corruption

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There is also what the World Bank calls "State Capture" defined
thus:
"The actions of individuals, groups, or firms, both in the public
and private sectors, to influence the formation of laws,
regulations, decrees, and other government policies to their own
advantage as a result of the illicit and non-transparent provision
of private benefits to public officials."
We can classify corrupt and venal behaviours according to their
outcomes:
(a) Income Supplement - Corrupt actions whose sole outcome is the
supplementing of the income of the provider without affecting the
"real world" in any manner.
(b) Acceleration or Facilitation Fees - Corrupt practices whose sole
outcome is to accelerate or facilitate decision making, the
provision of goods and services or the divulging of information.
(c) Decision Altering Fees - Bribes and promises of bribes which
alter decisions or affect them, or which affect the formation of
policies, laws, regulations, or decrees beneficial to the bribing
entity or person.
(d) Information Altering Fees - Backhanders and bribes that subvert
the flow of true and complete information within a society or an
economic unit (for instance, by selling professional diplomas,
certificates, or permits).
(e) Reallocation Fees - Benefits paid (mainly to politicians and
political decision makers) in order to affect the allocation of
economic resources and material wealth or the rights thereto.
Concessions, licenses, permits, assets privatized, tenders awarded
are all subject to reallocation fees.
To eradicate corruption, one must tackle both giver and taker.
History shows that all effective programs shared these common
elements:
(a) The persecution of corrupt, high-profile, public figures,
multinationals, and institutions (domestic and foreign). This
demonstrates that no one is above the law and that crime does not
pay.
(b) The conditioning of international aid, credits, and investments
on a monitored reduction in corruption levels. The structural roots
of corruption should be tackled rather than merely its symptoms.
(c) The institution of incentives to avoid corruption, such as a
higher pay, the fostering of civic pride, "good behaviour" bonuses,
alternative income and pension plans, and so on.
(d) In many new countries (in Asia, Africa, and Eastern Europe) the
very concepts of "private" versus "public" property are fuzzy and
impermissible behaviours are not clearly demarcated. Massive
investments in education of the public and of state officials are
required.
(e) Liberalization and deregulation of the economy. Abolition of red
tape, licensing, protectionism, capital controls, monopolies,
discretionary, non-public, procurement. Greater access to
information and a public debate intended to foster a "stakeholder
society".
(f) Strengthening of institutions: the police, the customs, the
courts, the government, its agencies, the tax authorities - under
time limited foreign management and supervision.
Awareness to corruption and graft is growing - though it mostly
results in lip service. The Global Coalition for Africa adopted
anti-corruption guidelines in 1999. The otherwise opaque Asia
Pacific Economic Cooperation (APEC) forum is now championing
transparency and good governance. The UN is promoting its pet
convention against corruption.
The G-8 asked its Lyon Group of senior experts on transnational
crime to recommend ways to fight corruption related to large money
flows and money laundering. The USA and the Netherlands hosted
global forums on corruption - as will South Korea next year. The
OSCE is rumored to respond with its own initiative, in collaboration
with the US Congressional Helsinki Commission.
The southeastern Europe Stability Pact sports its own Stability Pact
Anti-corruption Initiative (SPAI). It held its first conference in
September 2001 in Croatia. More than 1200 delegates participated in
the 10th International Anti-Corruption Conference in Prague last
year. The conference was attended by the Czech prime minister, the
Mexican president, and the head of the Interpol.
The most potent remedy against corruption is sunshine - free,
accessible, and available information disseminated and probed by an
active opposition, uncompromised press, and assertive civic
organizations and NGO's. In the absence of these, the fight against
official avarice and criminality is doomed to failure. With them, it
stands a chance.
Corruption can never be entirely eliminated - but it can be
restrained and its effects confined. The cooperation of good people
with trustworthy institutions is indispensable. Corruption can be
defeated only from the inside, though with plenty of outside help.
It is a process of self-redemption and self-transformation. It is
the real transition.

Money Laundering in A Changed World
Israel has always turned a blind eye to the origin of funds
deposited by Jews from South Africa to Russia. In Britain it is
perfectly legal to hide the true ownership of a company. Underpaid
Asian bank clerks on immigrant work permits in the Gulf states
rarely require identity documents from the mysterious and well-
connected owners of multi-million dollar deposits. Hawaladars
continue plying their paperless and trust-based trade - the transfer
of billions of US dollars around the world. American and Swiss banks
collaborate with dubious correspondent banks in off shore centres.
Multinationals shift money through tax free territories in what is
euphemistically known as "tax planning". Internet gambling outfits
and casinos serve as fronts for narco-dollars. British Bureaux de
Change launder up to 2.6 billion British pounds annually. The 500
Euro note will make it much easier to smuggle cash out of Europe. A
French parliamentary committee accuses the City of London of being a
money laundering haven in a 400 page report. Intelligence services
cover the tracks of covert operations by opening accounts in obscure
tax havens, from Cyprus to Nauru. Money laundering, its venues and
techniques, are an integral part of the economic fabric of the
world. Business as usual?
Not really. In retrospect, as far as money laundering goes,
September 11 may be perceived as a watershed as important as the
precipitous collapse of communism in 1989. Both events have forever
altered the patterns of the global flows of illicit capital.
What is Money Laundering?
Strictly speaking, money laundering is the age-old process of
disguising the illegal origin and criminal nature of funds (obtained
in sanctions-busting arms sales, smuggling, trafficking in humans,
organized crime, drug trafficking, prostitution rings, embezzlement,
insider trading, bribery, and computer fraud) by moving them
untraceably and investing them in legitimate businesses, securities,
or bank deposits. But this narrow definition masks the fact that the
bulk of money laundered is the result of tax evasion, tax avoidance,
and outright tax fraud, such as the "VAT carousel scheme" in the EU
(moving goods among businesses in various jurisdictions to
capitalize on differences in VAT rates). Tax-related laundering nets
between 10-20 billion US dollars annually from France and Russia
alone. The confluence of criminal and tax averse funds in money
laundering networks serves to obscure the sources of both.
The Scale of the Problem
According to a 1996 IMF estimate, money laundered annually amounts
to 2-5% of world GDP (between 800 billion and 2 trillion US dollars
in today's terms). The lower figure is considerably larger than an
average European economy, such as Spain's.

The System
It is important to realize that money laundering takes place within
the banking system. Big amounts of cash are spread among numerous
accounts (sometimes in free economic zones, financial off shore
centers, and tax havens), converted to bearer financial instruments
(money orders, bonds), or placed with trusts and charities. The
money is then transferred to other locations, sometimes as bogus
payments for "goods and services" against fake or inflated invoices
issued by holding companies owned by lawyers or accountants on
behalf of unnamed beneficiaries. The transferred funds are re-
assembled in their destination and often "shipped" back to the point
of origin under a new identity. The laundered funds are then
invested in the legitimate economy. It is a simple procedure - yet
an effective one. It results in either no paper trail - or too much
of it. The accounts are invariably liquidated and all traces erased.
Why is it a Problem?
Criminal and tax evading funds are idle and non-productive. Their
injection, however surreptitiously, into the economy transforms them
into a productive (and cheap) source of capital. Why is this
negative?
Because it corrupts government officials, banks and their officers,
contaminates legal sectors of the economy, crowds out legitimate and
foreign capital, makes money supply unpredictable and
uncontrollable, and increases cross-border capital movements,
thereby enhancing the volatility of exchange rates.
A multilateral, co-ordinated, effort (exchange of information,
uniform laws, extra-territorial legal powers) is required to counter
the international dimensions of money laundering. Many countries opt
in because money laundering has also become a domestic political and
economic concern. The United Nations, the Bank for International
Settlements, the OECD's FATF, the EU, the Council of Europe, the
Organisation of American States, all published anti-money laundering
standards. Regional groupings were formed (or are being established)
in the Caribbean, Asia, Europe, southern Africa, western Africa, and
Latin America.
Money Laundering in the Wake of the September 11 Attacks
Regulation
The least important trend is the tightening of financial regulations
and the establishment or enhancement of compulsory (as opposed to
industry or voluntary) regulatory and enforcement agencies.
New legislation in the US which amounts to extending the powers of
the CIA domestically and of the DOJ extra-territorially, was rather
xenophobically described by a DOJ official, Michael Chertoff, as
intended to "make sure the American banking system does not become a
haven for foreign corrupt leaders or other kinds of foreign
organized criminals." Privacy and bank secrecy laws have been
watered down.

Collaboration with off shore "shell" banks has been banned. Business
with clients of correspondent banks was curtailed. Banks were
effectively transformed into law enforcement agencies, responsible
to verify both the identities of their (foreign) clients and the
source and origin of their funds. Cash transactions were partly
criminalized. And the securities and currency trading industry,
insurance companies, and money transfer services are subjected to
growing scrutiny as a conduit for "dirty cash".
Still, such legislation is highly ineffective. The American Bankers'
Association puts the cost of compliance with the laxer anti-money-
laundering laws in force in 1998 at 10 billion US dollars - or more
than 10 million US dollars per obtained conviction. Even when the
system does work, critical alerts drown in the torrent of reports
mandated by the regulations. One bank actually reported a suspicious
transaction in the account of one of the September 11 hijackers -
only to be ignored.
The Treasury Department established Operation Green Quest, an
investigative team charged with monitoring charities, NGO's, credit
card fraud, cash smuggling, counterfeiting, and the Hawala networks.
This is not without precedent. Previous teams tackled drug money,
the biggest money laundering venue ever, BCCI (Bank of Credit and
Commerce International), and ... Al Capone. The more veteran, New-
York based, El-Dorado anti money laundering Task Force (established
in 1992) will lend a hand and share information.
More than 150 countries promised to co-operate with the US in its
fight against the financing of terrorism - 81 of which (including
the Bahamas, Argentina, Kuwait, Indonesia, Pakistan, Switzerland,
and the EU) actually froze assets of suspicious individuals,
suspected charities, and dubious firms, or passed new anti money
laundering laws and stricter regulations (the Philippines, the UK,
Germany). A tabled EU directive would force lawyers to disclose
incriminating information about their clients' money laundering
activities. Pakistan initiated a "loyalty scheme", awarding
expatriates who prefer official bank channels to the much maligned
(but cheaper and more efficient) Hawala, with extra baggage
allowance and special treatment in airports.
The magnitude of this international collaboration is unprecedented.
But this burst of solidarity may yet fade. China, for instance,
refuses to chime in. As a result, the statement issued by APEC last
week on measures to stem the finances of terrorism was lukewarm at
best. And, protestations of close collaboration to the contrary,
Saudi Arabia has done nothing to combat money laundering "Islamic
charities" (of which it is proud) on its territory.
Still, a universal code is emerging, based on the work of the OECD's
FATF (Financial Action Task Force) since 1989 (its famous "40
recommendations") and on the relevant UN conventions. All countries
are expected by the West, on pain of possible sanctions, to adopt a
uniform legal platform (including reporting on suspicious
transactions and freezing assets) and to apply it to all types of
financial intermediaries, not only to banks. This is likely to
result in ...

The decline of off shore financial centres and tax havens
By far the most important outcome of this new-fangled juridical
homogeneity is the acceleration of the decline of off shore
financial and banking centres and tax havens. The distinction
between off-shore and on-shore will vanish. Of the FATF's "name and
shame" blacklist of 19 "black holes" (poorly regulated territories,
including Israel, Indonesia, and Russia) - 11 have substantially
revamped their banking laws and financial regulators. Coupled with
the tightening of US, UK, and EU laws and the wider interpretation
of money laundering to include political corruption, bribery, and
embezzlement - this would make life a lot more difficult for venal
politicians and major tax evaders. The likes of Sani Abacha (late
President of Nigeria), Ferdinand Marcos (late President of the
Philippines), Vladimiro Montesinos (former, now standing trial,
chief of the intelligence services of Peru), or Raul Salinas (the
brother of Mexico's President) - would have found it impossible to
loot their countries to the same disgraceful extent in today's
financial environment. And Osama bin Laden would not have been able
to wire funds to US accounts from the Sudanese Al Shamal Bank, the
"correspondent" of 33 American banks.
Quo Vadis, Money Laundering?
Crime is resilient and fast adapting to new realities. Organized
crime is in the process of establishing an alternative banking
system, only tangentially connected to the West's, in the fringes,
and by proxy.

This is done by purchasing defunct banks or banking licences in
territories with lax regulation, cash economies, corrupt
politicians, no tax collection, but reasonable infrastructure. The
countries of Eastern Europe - Yugoslavia (Montenegro and Serbia),
Macedonia, Ukraine, Moldova, Belarus, Albania, to mention a few -
are natural targets. In some cases, organized crime is so all-
pervasive and local politicians so corrupt that the distinction
between criminal and politician is spurious.
Gradually, money laundering rings move their operations to these
new, accommodating territories. The laundered funds are used to
purchase assets in intentionally botched privatizations, real
estate, existing businesses, and to finance trading operations. The
wasteland that is Eastern Europe craves private capital and no
questions are asked by investor and recipient alike.
The next frontier is cyberspace. Internet banking, Internet
gambling, day trading, foreign exchange cyber transactions, e-cash,
e-commerce, fictitious invoicing of the launderer's genuine credit
cards - hold the promise of the future. Impossible to track and
monitor, ex-territorial, totally digital, amenable to identity theft
and fake identities - this is the ideal vehicle for money
launderers.
This nascent platform is way too small to accommodate the enormous
amounts of cash laundered daily - but in ten years time, it may. The
problems is likely to be exacerbated by the introduction of smart
cards, electronic purses, and payment-enabled mobile phones.

In its "Report on Money Laundering Typologies" (February 2001) the
FATF was able to document concrete and suspected abuses of online
banking, Internet casinos, and web-based financial services. It is
difficult to identify a customer and to get to know it in
cyberspace, was the alarming conclusion. It is equally complicated
to establish jurisdiction.
Many capable professionals - stockbrokers, lawyers, accountants,
traders, insurance brokers, real estate agents, sellers of high
value items such as gold, diamonds, and art - are employed or co-
opted by money laundering operations. Money launderers are likely to
make increased use of global, around the clock, trading in foreign
currencies and derivatives. These provide instantaneous transfer of
funds and no audit trail. The underlying securities involved are
susceptible to market manipulation and fraud. Complex insurance
policies (with the "wrong" beneficiaries), and the securitization of
receivables, leasing contracts, mortgages, and low grade bonds are
already used in money laundering schemes. In general, money
laundering goes well with risk arbitraging financial instruments.
Trust-based, globe-spanning, money transfer systems based on
authentication codes and generations of commercial relationships
cemented in honour and blood - are another wave of the future. The
Hawala and Chinese networks in Asia, the Black Market Peso Exchange
(BMPE) in Latin America, other evolving courier systems in Eastern
Europe (mainly in Russia, Ukraine, and Albania) and in Western
Europe (mainly in France and Spain).

In conjunction with encrypted e-mail and web anonymizers, these
networks are virtually impenetrable. As emigration increases,
diasporas established, and transport and telecommunications become
ubiquitous, "ethnic banking" along the tradition of the Lombards and
the Jews in medieval Europe may become the the preferred venue of
money laundering. September 11 may have retarded world civilization
in more than one way.

Hawala, or the Bank that Never Was
I. OVERVIEW
In the wake of the September 11 terrorist attacks on the USA,
attention was drawn to the age-old, secretive, and globe-spanning
banking system developed in Asia and known as "Hawala" (to change,
in Arabic). It is based on a short term, discountable, negotiable,
promissory note (or bill of exchange) called "Hundi". While not
limited to Moslems, it has come to be identified with "Islamic
Banking".
Islamic Law (Sharia'a) regulates commerce and finance in the Fiqh Al
Mua'malat, (transactions amongst people). Modern Islamic banks are
overseen by the Shari'a Supervisory Board of Islamic Banks and
Institutions ("The Shari'a Committee").
The Shi'a "Islamic Laws according to the Fatawa of Ayatullah al
Uzama Syed Ali al-Husaini Seestani" has this to say about Hawala
banking:
"2298. If a debtor directs his creditor to collect his debt from the
third person, and the creditor accepts the arrangement, the third
person will, on completion of all the conditions to be explained
later, become the debtor. Thereafter, the creditor cannot demand his
debt from the first debtor."

The prophet Muhammad (a cross border trader of goods and commodities
by profession) encouraged the free movement of goods and the
development of markets. Numerous Moslem scholars railed against
hoarding and harmful speculation (market cornering and manipulation
known as "Gharar"). Moslems were the first to use promissory notes
and assignment, or transfer of debts via bills of exchange
("Hawala"). Among modern banking instruments, only floating and,
therefore, uncertain, interest payments ("Riba" and "Jahala"),
futures contracts, and forfeiting are frowned upon. But agile Moslem
traders easily and often circumvent these religious restrictions by
creating "synthetic Murabaha (contracts)" identical to Western
forward and futures contracts. Actually, the only allowed transfer
or trading of debts (as distinct from the underlying commodities or
goods) is under the Hawala.
"Hawala" consists of transferring money (usually across borders and
in order to avoid taxes or the need to bribe officials) without
physical or electronic transfer of funds. Money changers
("Hawaladar") receive cash in one country, no questions asked.
Correspondent hawaladars in another country dispense an identical
amount (minus minimal fees and commissions) to a recipient or, less
often, to a bank account. E-mail, or letter ("Hundi") carrying
couriers are used to convey the necessary information (the amount of
money, the date it has to be paid on) between Hawaladars. The sender
provides the recipient with code words (or numbers, for instance the
serial numbers of currency notes), a digital encrypted message, or
agreed signals (like handshakes), to be used to retrieve the money.
Big Hawaladars use a chain of middlemen in cities around the globe.
But most Hawaladars are small businesses. Their Hawala activity is a
sideline or moonlighting operation. "Chits" (verbal agreements)
substitute for certain written records. In bigger operations there
are human "memorizers" who serve as arbiters in case of dispute. The
Hawala system requires unbounded trust. Hawaladars are often members
of the same family, village, clan, or ethnic group. It is a system
older than the West. The ancient Chinese had their own "Hawala" -
"fei qian" (or "flying money"). Arab traders used it to avoid being
robbed on the Silk Road. Cheating is punished by effective ex-
communication and "loss of honour" - the equivalent of an economic
death sentence. Physical violence is rarer but not unheard of.
Violence sometimes also erupts between money recipients and robbers
who are after the huge quantities of physical cash sloshing about
the system. But these, too, are rare events, as rare as bank
robberies. One result of this effective social regulation is that
commodity traders in Asia shift hundreds of millions of US dollars
per trade based solely on trust and the verbal commitment of their
counterparts.
Hawala arrangements are used to avoid customs duties, consumption
taxes, and other trade-related levies. Suppliers provide importers
with lower prices on their invoices, and get paid the difference via
Hawala. Legitimate transactions and tax evasion constitute the bulk
of Hawala operations. Modern Hawala networks emerged in the 1960's
and 1970's to circumvent official bans on gold imports in Southeast
Asia and to facilitate the transfer of hard earned wages of
expatriates to their families ("home remittances") and their
conversion at rates more favourable (often double) than the
government's.

Hawala provides a cheap (it costs c. 1% of the amount transferred),
efficient, and frictionless alternative to morbid and corrupt
domestic financial institutions. It is Western Union without the hi-
tech gear and the exorbitant transfer fees.
Unfortunately, these networks have been hijacked and compromised by
drug traffickers (mainly in Afganistan and Pakistan), corrupt
officials, secret services, money launderers, organized crime, and
terrorists. Pakistani Hawala networks alone move up to 5 billion US
dollars annually according to estimates by Pakistan's Minister of
Finance, Shaukut Aziz. In 1999, Institutional Investor Magazine
identified 1100 money brokers in Pakistan and transactions that ran
as high as 10 million US dollars apiece. As opposed to stereotypes,
most Hawala networks are not controlled by Arabs, but by Indian and
Pakistani expatriates and immigrants in the Gulf. The Hawala network
in India has been brutally and ruthlessly demolished by Indira
Ghandi (during the emergency regime imposed in 1975), but Indian
nationals still play a big part in international Hawala networks.
Similar networks in Sri Lanka, the Philippines, and Bangladesh have
also been eradicated.
The OECD's Financial Action Task Force (FATF) says that:
"Hawala remains a significant method for large numbers of businesses
of all sizes and individuals to repatriate funds and purchase
gold.... It is favoured because it usually costs less than moving
funds through the banking system, it operates 24 hours per day and
every day of the year, it is virtually completely reliable, and
there is minimal paperwork required."

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