ILLICIT FINANCIAL FLOWS

Shankaran Nambiar

It has been reported that Malaysia is among the list of countries with high illicit financial outflows. The Global Financial Integrity (GFI) report ranks Malaysia as having the third largest illicit financial outflows in the world, falling two slots below China and Mexico. GFI is a Washington DC-based non-governmental organisation (NGO) that undertakes research and advocacy on cross-border flows of illegal money. GFI aims at curtailing illegal financial flows; and it seeks to suggest safeguards and solutions towards this end. Some journalists have not taken kindly to Malaysias position in this list, even going so far as to suggest that corruption is to blame for this unacceptably high figure. The debate that has ensued on this issue has been a misdirected one, mainly because it has been fuelled by emotion, in large part because of the term illicit which conjures all kinds of negative images. The GFI report was released in mid-December 2012. It was not until mid-March 2013, or more precisely on 13 March 2013, that Bank Negara Malaysia (BNM) released a statement in response to the figures relating to Malaysia in the GFI report. It should be noted that the statement does not mention the GFI report by name, but presumably that was the NGO that was being referred to. At the core of the BNM statement is its observation that the GFI estimates highlighted in its reports are essentially unrecorded financial flows, which are not necessarily synonymous with illicit financial flows. There is a serious definitional misunderstanding here. GFI bases its estimates on the understanding that most unrecorded flows are illicit so long as they are legally inappropriate. This means that financial flows would be deemed illicit if they are in contravention of national civil and criminal codes, violate customs or banking regulations. Offenses relating to the incorrect declaration and assessment of goods and services tax (GST) leading to corresponding financial flows would also be considered to be illicit financial flows. What, then, about smuggling, corruption, cross-border movements of cash that are not in accordance with the capital controls issued by the central bank, and the transfer of money due to criminal activities? The GFI report explicitly states that its estimates do not take these components into account, important as they may be.

The distinction BNM makes between unrecorded financial flows and illicit financial flows does not clarify matters, nor does it convincingly invalidate GFIs ranking process. Unrecorded flows, as BNM points out, are not necessarily synonymous with illicit flows. GFI anticipates this objection, and as if in response to this observation, GFI argues in its 2008 report that by far the greater part of unrecorded flows are indeed illicit. As far as GFI is concerned, most unrecorded flows are illicit in so far as they violate the countrys civil, criminal or tax laws, value added tax (or in our case GST) assessments or exchange control requirements. Since the GFI report does not take into account the more exotic forms of illicit financial flows, i.e. those arising from, say, drug or human trafficking and smuggling, it is at least (theoretically) possible that its estimates, in that respect, are an understatement of the true extent of illicit financial flows. Nevertheless, the BNM statement is correct to assert that there are bound to be discrepancies in trade statistics. Different countries do use different conventions in compiling trade statistics. Variances will arise, as BNM correctly notes, due, among other things, to time lag, variations in valuation and exclusion of certain types of goods. The 2008 GFI report acknowledges the issue raised by BNM. The GFI report notes that a countrys net errors and omissions figure reflects unrecorded capital flows and statistical errors in measurements, adding that under certain circumstances a significant part of the errors and omissions may be due to statistical issues in recording the external accounts rather than a reflection of illicit financial flows. The BNM note reiterates GFIs point when it emphasises that the entire errors and omissions figure cannot be attributable to illicit activities but also includes genuine statistical errors. Having mentioned that unrecorded financial flows are not synonymous with illicit financial flows, BNM should have explained the differences between the two categories, and how its conceptualisation differs from that of GFIs. Better still it should have provided estimates of the two categories for Malaysia. If BNM is of the view that the figures suggested by GFI were overstated, then it should have offered its own figures. On the other hand, if BNM feels that Malaysias position in the ranking is to be questioned, then it should have offered an alternative ranking. As it stands, the BNM statement repeats clarifications and limitations that GFI has already noted in its reports, without providing a rebuttal, conceptually or empirically. Central banks have the onerous task of crafting precise statements which, without going into too much detail, and without getting lost in methodological and conceptual debate, should bring clarity to a problem and at the same time inspire confidence in an economy.

A statement such as the one that BNM issued is meant to provide a sense of assurance that the financial system is being prudently managed. The BNM statement was certainly successful in that regard, even if its criticism of GFIs measurement could have been more effective. Those sections of the BNM statement that discuss the measures that have been undertaken to address illicit financial flows show the seriousness with which the problem is viewed. The actions that the Malaysian Customs Department is taking to mitigate trade mispricing certainly deserve to be highlighted. Further, the fact that a High Level Multi-Agency Special Task Force (Task Force) has been instituted indicates a determined attitude. The composition of the Task Force is particularly welcome. The Task Force is composed of the Attorney Generals Chambers, the Customs Department, the Royal Malaysia Police, the AntiCorruption Commission, the Inland Revenue Board, the Immigration Department and BNM. The membership of the Task Force is recognition of the fact that a comprehensive and multi-agency approach is necessary, something that is certainly warranted under the circumstances. The BNM note lists some of the institutional reforms that have been undertaken to curb illicit financial flows. The Anti-Money Laundering and Anti-Terrorism Financing Act 2001 was put in place so as to root out money laundering of proceeds from criminal activities. Among them is the introduction of the Money Services Business Act 2011 which aims at creating a competitive money services business industry. This Act has within its scope attempts to prevent money changers from becoming conduits of illegal fund transfer activities. A significant contribution to these flows possibly comes from the accounting machinations of corporations. As much as terrorists, smugglers and traffickers capture our imagination, we need to keep a close eye on the smartly dressed corporate businessmen. There is no doubt that the Malaysian government takes the issue of illicit financial flows seriously. One can be sure that no effort will be spared in rooting this problem out. This article appeared in the Edge Financial Daily