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December 16, 2013

Poor countries are losing $1 trillion a year to illicit capital flows – 7 times the volume of aid

December 16, 2013
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I was surprised not to see more coverage of last week’s hard-hitting report from the Global Financial Integrity watchdog. Illicit Financial Flows fromGFI Developing Countries: 2002-2011 has a whole bunch of killer facts about the escalating haemorrhage of wealth from poor countries. Here are some highlights. My additions in square brackets/italics:

“We estimate that illicit financial outflows from the developing world totalled a staggering US$946.7 billion in 2011, with cumulative illicit financial outflows over the decade between 2002 and 2011 of US$5.9 trillion. [By way of comparison, total global aid in 2011 was $134bn (not mn as first printed -thanks to all of you who pointed this out) – 14% of illicit flows – and has fallen since, even as illicit flows keep booming. Want that as a soundbite? ‘For every dollar of aid, the South loses $7 in illicit outflows; developing countries are losing $2.6 bn a day/$108m per hour/$2m per minute/$30,000 per second’.]

This gives further evidence to the notion that illicit financial flows are the most devastating economic issue impacting the global South.  Large as these numbers are, perhaps the most distressing take-away from the study is just how fast illicit financial flows are growing. Adjusted for inflation, illicit financial flows out of developing countries increased by an average of more than 10 percent per year over the decade. Left unabated, one can only expect these numbers to continue an upward trend.

Heat map of illicit flows by country, % of GDP

Heat map of illicit flows by country, % of GDP

The pattern of illicit outflows, trend rate of growth, and impact in terms of GDP all vary significantly among the five regions. Asia accounts for 39.6 percent of total illicit outflows from developing countries, the largest share of illicit flows among the regions, and six of the top 15 exporters of illicit capital are Asian countries (China, Malaysia, India, Indonesia, Thailand, and the Philippines). Developing Europe (21.5 percent) and the Western Hemisphere (19.6 percent) contribute almost equally to total illicit outflows.

While outflows from Europe are mainly driven by Russia, those from the Western Hemisphere are driven by Mexico and Brazil.  The Middle East and North Africa (MENA) region accounts for 11.2 percent of total outflows on average. MENA’s share increased significantly from just 3 percent of total outflows in 2002, reaching a peak of 18.5 percent in 2009, before falling to 12 percent in 2011. In comparison,  Africa’s share increased from just 3.9 percent in 2002, reaching a peak of 11.1 percent just  before the Great Recession set in (2007), before declining to 7 percent in 2011, roughly on  par with its average of 7.7 percent over the decade.

The volume of total outflows as a share of developing countries’ GDP increased from 4.0 percent in 2002 to 4.6 percent in 2005. Since then, barring a few upticks, illicit outflows have generally been on a declining trend relative to GDP, and were 3.7 percent in 2011.  While Africa has the smallest nominal share of regional illicit outflows (7.7 percent) over the period studied, it has the highest average illicit outflows to GDP ratio (5.7 percent), suggesting that the loss of capital has an outsized impact on the continent. [Got that? The poorest continent has the biggest problem of illicit outflows]

capital flightThe MENA region registered the fastest trend rate of growth in illicit outflows over the period studied (31.5 percent per annum) followed by Africa (20.2 percent), developing Europe (13.6 percent), Asia (7.5 percent), and Latin America (3.1 percent). The sharply faster rate of growth in illicit outflows from the MENA region is probably related to the rise in oil prices.

Trade misinvoicing comprises the major portion of illicit flows (roughly 80 percent on average).  Balance of payments leakages fluctuate considerably and have generally trended upwards from just 14.2 percent of total outflows in 2002 to 19.4 percent in 2011.

[Statistical analysis shows that] An increase in corruption increases trade misinvoicing while capital account openness leads to greater export misinvoicing in both directions if openness is not accompanied by stronger governance. In fact, as the experience of developed countries shows, greater openness and liberalization in an environment of weak regulatory oversight can actually generate more illicit flows.’ [So by making it easier for people to shift $, liberalization risks making things worse not better, which fits with the rapid rise in volumes of illicit flows]

Maybe one reason for the lack of coverage is that the report is a bit, errm, boring. It fizzles out just when advocacy should have come in to follow up the number crunching, and the format is very old school, with none of the razamatazz required to get a buzz going – infographics, animations, short video presentations etc. But the content is excellent, so could someone out there give the data geeks a hand with the advocacy and comms next time?

18 comments

  1. Very interesting/alarming. Does the report touch on where these outflows end up in terms of regions/countries/’end users’, or is that the subject of another report?

  2. Apologies for not immediately diving into the actual report after your only-semi-ringing endorsement… but do they talk about the decision process that led to them leaving the OECD countries a nice neutral grey on the heatmap?

    I understand the advocacy value of highlighting the impact on the South — but there’s a danger of painting corruption as a poor-country problem. Seems that the real dimensions of the problem would be better served by two global maps, one of outflows, one of inflows.

    1. Hi Joel and Iain
      no report doesn’t discuss destinations. Have asked guru Alex Cobham about sources on this, and will get back to you when he replies!

    2. This from Alex Cobham at CGD
      Equivalent estimates don’t exist (for inflows), sadly – emphasis remains very firmly on outflows, despite view that illicit inflows also damaging. However: the Financial Secrecy Index points to those that are both secretive and providing financial services cgd.to/17em3DI. Caveat is FSI reflects provision of financial services, so might not catch eg commodity trade abuse – eg bit.ly/SWiSS

  3. Duncan, this is very surprising. And I thought that the problem was mostly internal corruption. At any rate, when people take their money out of their country, it could be for protection. They may feel that their government does not offer sufficient safety or guarantees. I live in Venezuela, and people here do whatever they can to take their money out of the country, and convert it to hard currencies so that hard earned money does not lose its value as does the national currency. Now I suppose the activity includes misinvoicing. However, I had not perceived this phenomenon as being illicit capital flows, nor had I realized it was such a large problem. The solution to the problem is what I usually recommend: people must have access to teledemocratic control of the machinery of their own government.

  4. Hi Duncan, a quick comment (not a negative, just a thought)on your comparison of illicit funds outflows to global aid. You consider DAC aid flows only. I wonder when ‘global aid flows’ will include the growing south south cooperation – particularly when conducting analysis of changes in the global financial landscape. Also I think 2011 DAC $134 billion (not million).

  5. Read the Guardian article on this report when it came out last week, some truly draw-dropping statistics indeed and definitely cements illicit financial flows as the most important economic issue facing the global south.

    The problem is its all linked to the shadow financial system, which is such a mind-bogglingly complex behemouth (now in the region of $100 trillion if i remember correctly), it’s hard to even begin thinking how to go about campaigning on it and what policies to propose to reform it…

    Haven’t been able to read this full report yet, but from what I’ve read they seem to suggest that global tax havens are just one cog in this massive machine we would have to tackle if we wanted to make any progress in reducing illicit financial flows…

  6. Duncan,

    I wonder if part of the reason why these figures on illicit flows do not get enough media coverage is because they have already been so widely repurposed to stand in as the headline numbers for ‘tax avoidance by multinational companies’. So that when they are reported without the sizzle of a link to brand name scandal they look boring. ..and there is a perverse incentive not to look at them too closely as this would mean having to acknowledge that they have been so widely misunderstood.

    GFI itself states clearly that these estimates are not able to capture the problem of transfer mispricing within multinational corporations, and that they should not be misinterpreted as being a ‘tax gap’ number (i.e. it is an estimate of capital flight from an economy, not direct revenue losses to government). http://iff.gfintegrity.org/iff2013/explanation2013.html

    But they are widely misinterpreted this way (for example earlier in the year in relation to tax avoidance in Africa (including by Oxfam) http://hiyamaya.wordpress.com/2013/09/09/38-4-billion-is-a-very-big-number-but-what-does-it-mean/ )

    This week’s Eurodad report on tax avoidance and evasion was launched with the headline ‘EU firms tax dodging costs poor countries up to €870bn every year’. Which suggests that the report had estimated how much tax avoidance and evasion by EU firms costs the governments of developing countries (thats what it says on the tin, right?). But when you look at the report (http://www.eurodad.org/files/pdf/52aebfed659f4.pdf) and follow footnote number 7 back to the source it turns out that inside the tin is simply the GFI estimate of illicit flows from last year converted into Euros! – i.e. an estimate that is not specifically related to EU firms, not a measure of tax loss to governments, and not related to the issues behind the debates about how much tax Starbucks, Google, Amazon, Apple and Associated British Foods should be paying (these are the cases that the Eurodad report references).

    I agree that serious research should be reported in a way that makes it accessible – infographics, killer facts etc…. but at the same time organisations need to take responsibility to make sure their comms and campaign led messages are true to what the geeks have actually been able to work out from the data. That would also be helping out!

  7. Dear Ms Forstater,

    Thank you for contributing to this important debate.

    We agree with your point that the GFI numbers do not cover tax avoidance by multinationals nor are they an estimate of the total “tax-gap” in developing countries. As you can see this is also clearly stated in our report (Eurodad.org/givingwithonehand2013). If tax avoidance was included the numbers would be higher.

    Actually, the focus of the report was not on the numbers but on our call to European leaders to take action to promote transparency and tax justice.

    The fact that we do not yet have the figure of the total “tax-gap” in developing countries should not prevent us from taking action on this issue. It’s very clear that we have an urgent problem which is undermining the fight against poverty, and that a part of the solution needs to come from Europe.

  8. Eurodad – Thanks for replying.
    Duncan – Hope you don’t mind if we continue the conversation here?

    There are three issues as to why this number has been presented in a misleading/misunderstood way:

    1) It does not relate specifically to ‘EU Firms’
    2) It is not about tax avoidance/evasion by multinational corporations
    3) It is not a tax gap estimate

    You have replied on points 2 and 3.

    On 2 we are agreed that the number does not relate to tax avoidance by multinationals. However the report and press release say that ‘conservative estimates report that these countries lose between €660 and €870 billion each year through illicit financial flows, MAINLY IN THE FORM OF TAX EVASION BY MULTINATIONAL COMPANIES’ – I don’t think this is clearly stating that tax avoidance/evasion by MNCs is NOT included in this number at all!

    On point 3 I think there has been a complete misunderstanding of what the GFI estimate is (not only by Eurodad, this mistake has been made by the Africa Progress Panel, Oxfam, Action Aid (who made a correction) and the International Bar Association amongst others)

    The Eurodad report and press release presents the 870 Euro number as if it was a ‘tax gap’ estimate (i.e. parallel to the 1 trillion Euro estimate by the tax justice network) http://www.eurodad.org/Entries/view/1546115/2013/12/16/Press-Release-Giving-with-one-hand-and-taking-with-the-other-CSOs-urge-European-leaders-to-take-action-against-tax-dodging

    In your reply you confirm that you understand this number to be a partial estimate of the total tax gap.

    The key point to understand is that the GFI number is not a partial estimate of a bigger ‘tax gap’ number – it is not A TAX GAP NUMBER AT ALL.

    It does not aim to be. That is just not what it does (ask GFI…)

    If you wanted to work out the tax gap associated with GFI’s trade mispricing number you would need to make some assumptions and do some calculations involving the tax rates of the countries where the money originates. (something like this: http://www.gfintegrity.org/storage/gfip/documents/reports/implied%20tax%20revenue%20loss%20report_final.pdf) – this hasn’t been done here so it is a mistake just to repurpose the whole number as a part of the tax gap.

    I don’t think saying ‘its not about the numbers’ is good enough, when you are using numbers and analysis to drive a call for policy action.

    (Sorry for the capital letters, I don’t mean to shout, but there aren’t any other formatting options for emphasis!)

  9. Maybe the New Year will see someone – GFI? – update the tax gap analysis, so that people then have no excuse for quoting GFI’s estimates on illicit financial flows as if they were tax gap estimates.

    Anyway, no matter what the numbers, it’s clear that OECD countries are doing a poor job of tackling the scourge of illicit financial flows as the OECD itself made clear today http://www.theguardian.com/global-development/2013/dec/18/rich-countries-money-laundering-tax-evasion-oecd

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