Global Financial Integrity

GFI header image

Curtailing Illicit Financial Flows a Human Rights Imperative

Raymond Baker

This article was originally published by the Thomson Reuters Foundation.

Illicit financial flows are a key issue impacting economic justice and human rights. They stifle domestic resource mobilisation, undermine government accountability and stability, and fuel economic inequality. For many decades, the human rights movement focused its programs and campaigns on civil and political rights. Experts and policymakers are now working to include issues of economic justice. This is the lens through which we in the development community should view the issue of illicit flows. While 1.2 billion people struggle to survive on $1.25 per day, we estimate that $859 billion drained illicitly out of developing countries in 2010.

Domestic resource mobilisation is seen as a key component of future development efforts, but nations cannot mobilise what they cannot capture, and they cannot capture what they cannot see. Many businesses and individuals have created complex financial structures, including shell corporations, fake foundations, and anonymous trusts, to move and hide their assets and disguise their identity from government officials. Many businesses use these structures to evade and aggressively avoid taxes through trade mispricing and abusive transfer pricing, which allow them to reduce their tax bills by surreptitiously shifting significant portions of their profits out of the countries in which they are earned, creating a competitive disadvantage for other businesses that play by the rules. Global Financial Integrity’s research shows that over half of illicit financial flows are the result of trade mispricing. With governments unable to accurately tax this income, less money is available for infrastructure development and the provision of critical services, including education and healthcare.

Illicit financial flows hamper government accountability and stability by facilitating kickbacks, bribery, and other forms of grand corruption. When elites can sign opaque contracts, hide money, and transfer illicit funds abroad, every infrastructure project, aid program, and day-to-day basic service becomes more costly and less efficient. Civil society struggles to act as a watchdog as public officials can easily keep its members in the dark. This leads to more distrust in government, which leads to more corruption and inefficiency, creating a negative feedback loop.

Finally, these complex mechanisms of the shadow financial system that support illicit financial outflows favor the richest individuals and the largest businesses, which places a greater burden on the poor and the middle class. When governments cannot capture the tax revenues and customs duties which the laws say they are due, they may make up the difference by relying more heavily on VAT and taxes on small businesses and lower- and middle-income families. This imbalance, combined with the damage to services from reduced domestic resource mobilization, is a major driving force behind the high rates of economic inequality in so many developing countries.

This is not a formula for successful poverty alleviation, for promoting strong democracies, for encouraging sustainable environmental practices, for maximizing economic growth, or for improving the welfare of the billions of people living in developing countries. Global financial and economic transparency is badly needed, and this is indeed a human rights issue.

In December 2009 GFI, together with Dr. Thomas Pogge, hosted a conference at Yale University bringing together for the first time key decision makers in the human rights community with key members of the financial transparency community. The result of this conference was the “New Haven Declaration on Human Rights and Financial Integrity,” which recognizes that, “human rights and international financial integrity are intimately linked.” Signatories to the New Haven Declaration include Oxfam, Human Rights Watch and Amnesty International, among many others.

The next step is to put this intellectual connection into practice. The key to curtailing illicit financial flows is transparency. We can accomplish much at an international policy level, especially among OECD member countries. The G8, led this year by UK Prime Minister David Cameron, and the Nordic Countries, are championing crucial transparency mechanisms: automatic exchange of tax information across borders; public registries of beneficial ownership; country-by-country reporting by multinationals of sales, profits, taxes paid, and staff levels; harmonising predicate offenses for money-laundering, including tax evasion; and cracking down on trade mispricing and abusive transfer pricing. Ultimately, it is civil society organisations, government officials, media, and academics in developing countries that can push for the greatest changes at the national level.

Expanding the notion of human rights and economic justice to include illicit financial flows will strengthen–not weaken or dilute—the overall campaign for global development. Nations cannot reach their full potential so long as the abuses and externalities of illicit financial outflows continue. If a government or company wants to call itself a champion of human rights, curtailing illicit outflows needs to be high on its agenda.

Raymond W. Baker is director of Global Financial Integrity, a Washington-based research and advocacy organization, and author of “Capitalism’s Achilles Heel: Dirty Money and How to Renew the Free-Market System