Global Capitalism, Trust and Accountability Conference: Opacity and Illicit Flows

Key Concepts

• Opacity: The state of being obscure or not easily understood, often used to conceal information about ownership, transactions, or activities.
• Illicit Flows: The movement of money or assets that are illegally obtained, transferred, or used.
• Beneficial Ownership: The real person or people who ultimately own or control a company or asset, even if it is held in the name of a nominee or shell corporation.
• Shell Companies: Companies that exist on paper but have no real business activity or assets, often used to hide the identity of the beneficial owner or to facilitate illicit transactions.
• Financial Action Task Force (FATF): An intergovernmental organization that sets standards and promotes effective implementation of legal, regulatory, and operational measures for combating money laundering, terrorist financing, and other related threats to the integrity of the international financial system.
• Know Your Customer (KYC): The process of verifying the identity of customers and assessing their risk profile, used by financial institutions to prevent money laundering and other illicit activities.
• Smart Sanctions: Targeted sanctions that are designed to minimize harm to innocent civilians and maximize pressure on the targeted individuals or entities.
• Corporate Transparency Act (CTA): A U.S. law that requires companies to disclose their beneficial owners to the Financial Crimes Enforcement Network (FinCEN).
• Wealth Managers: Professionals who manage the assets of high-net-worth individuals and families, often providing services such as tax planning, investment management, and estate planning.
• Kleptocracy: A government or system of government in which those in power exploit national resources and steal on a large scale.
• Strategic Ambiguity: The deliberate use of unclear or ambiguous language or structures to create uncertainty about ownership, control, or intentions.

1. Introduction: The Problem of Hidden Institutions and Assets

• Victoria Baronetski, General Counsel at the Center for Investigative Reporting, introduces the panel on opacity and illicit flows.
• She highlights the difficulty journalists face in accessing information due to limited transparency laws in the U.S.
• Example: A reporter's inability to determine the beneficial owners of 40% of rental units in the U.S. due to LLC registration.
• FinCEN denied access to beneficial ownership information, citing the Bank Secrecy Act.
• The U.S. is one of the few countries without publicly available beneficial ownership records.
• Example: The purchase of property around Travis Air Force Base by Flannery Associates, a group of Silicon Valley individuals, highlighting the issue of hidden ownership.
• The panel will discuss how to fight hidden institutions, people, and assets, and the role of different institutions in this fight.

2. Dan Nielsen: Field Experiments on Access to the Financial System

• Dan Nielsen from the University of Texas at Austin presents research on access to the financial system for high-risk customers.
• The research uses field experiments (audit studies) to generate data on how easy it is to access the financial system, even with a high-risk profile.
• The study involves sending emails to companies, banks, and incorporation services around the world, patterned after correspondence leaked in the Panama Papers and Paradise Papers.
• The study aims to determine if the FATF's system of global monitoring and sanctions is effective.
• The study was conducted primarily in 2019 and 2020, and then repeated after the Russian invasion of Ukraine to assess any changes.
• Key Question: Does increased risk (customer risk) lead to the application of a risk-based approach and screening of potential criminals from the financial system?
• The study involved approximately 40,000 email approaches worldwide, with a 25% response rate.
• To avoid fraud, shell companies were formed in nine different countries, making the research project the beneficial owner.
• The identities of the senders were randomly varied, and risk was signaled through the jurisdiction in which their company resided.
• The study measured whether the recipients responded, demanded photo ID of the beneficial owner (compliance), refused service, or were non-compliant.
• Placebo Condition: Companies formed in New Zealand or Australia.
• Treatment Conditions: Jurisdictions associated with major financial powers, offshore jurisdictions, corruption, and terrorism (Pakistan).
• Deception: Used with corporate service providers by using the names of individuals on Magnitsky sanctions lists (with a changed middle initial for legal reasons).
• Example Response: A company offering full nominee service to set up a company and open a bank account for a Russian citizen, ensuring full anonymity.
• Results: Non-response rates increased across all high-risk jurisdictions, but the effects were not substantively large. Compliant firms were more likely to drop out and not respond.
• Before the invasion, there was no meaningful difference between placebo personas and those on sanctions lists. After the invasion, treatment effects were larger, but access remained for sanctioned individuals.
• Conclusion: The financial system has many holes, and the FATF standards are not consistently enforced.

3. Gary Kalman: The U.S.'s Role in Facilitating Illicit Cash

• Gary Kalman from Transparency International US discusses the U.S.'s role in facilitating illicit cash and the implications for the global economy.
• He notes that Dan Nielsen's previous work showed the U.S. was arguably the easiest place in the world to set up an anonymous company.
• Example: A GAO study found that an FBI office in Seattle was owned by a Malaysian family being investigated for money laundering.
• He emphasizes that the U.S. dollar is the de facto reserve currency, making U.S. financial rules globally significant.
• The U.S. had been the most significant enforcer of foreign anti-bribery laws, but this has declined.
• The Biden administration's national security strategy recognizes corruption as a key component, which is a positive step.
• The Corporate Transparency Act was a big deal, but loopholes in the Bank Secrecy Act allowed temporary exemptions for the real estate and private investment sectors.
• The U.S. government and the UK government have started enforcing governance reforms in IMF loan agreements, using Sri Lanka as a test case.
• FinCEN, the U.S.'s financial intelligence unit, is underfunded compared to its counterpart in Australia.
• Looking forward, there is a need to rethink coalitions and who is on our side in the fight against corruption.
• Some multinational corporations may benefit from a certain level of corruption, but excessive corruption harms even the business community.
• Example: The Asian-Pacific Economic Cooperation found that digitizing business licensing and permitting in Guadalajara reduced bribe requests by 70%.
• The Chamber of Commerce is not happy about the FCPA suspension, and the National Association of Realtors supports the residential real estate rule.
• Conclusion: A new world requires new thinking about coalitions and strategies to combat corruption.

4. Brooke Harrington: The Offshore Financial System as a Platform for Elite Insurgency

• Brooke Harrington from Dartmouth College argues that the offshore financial system is a platform for elite insurgency, linking wealth inequality, attacks on democracy, the climate emergency, and the invasion of Ukraine.
• She identifies kleptocrats as a global phenomenon, including politicians and business leaders who use offshore finance for illicit purposes.
• The offshore financial system sells secrecy to people who want to hide an unpopular political agenda.
• Economists estimate that at least $12 trillion in private household wealth is floating around in the offshore system, costing governments at least $200 billion in taxes.
• Sociology can add to this understanding by locating human agency in the system, specifically the role of wealth managers.
• Wealth managers are instrumental in undermining democracy because they help the ultra-rich hide their assets and avoid regulations.
• Harrington spent two years training to be a wealth manager and 15 years interviewing 70 of them in 19 offshore centers.
• She found that the ultra-wealthy often know each other and use the same small group of offshore wealth management experts.
• Wealth managers fuel the kleptocratic insurgency by selling invisibility, creating strategic ambiguity around ownership, and acting as political hackers.
• They exploit gaps and conflicts among the laws of different countries, and sometimes even draft laws to benefit their clients.
• The centrality of wealth managers is a vulnerability in the system that can be exploited.
• A study showed that removing wealth managers from the offshore system could significantly reduce corruption.
• Offshore networks of autocratic countries often resemble airline networks with a hub and spoke system, where the hubs are the wealth managers.
• Sanctioning wealth managers and banning them from working with sanctioned clients could be an effective strategy.
• Conclusion: Targeting wealth managers is a key strategy for fighting kleptocracy and protecting democracy.

5. Mark Widmire: Private Enforcement and the Ambiguity of Opacity

• Mark Widmire from the University of North Carolina School of Law discusses the role of private actors in uncovering and recovering siphoned-off assets.
• He notes that even with the best system of laws and regulations, there will still be significant amounts of illicit capital flows.
• He studies arbitration and sovereign debt, both of which involve opacity and coordination challenges.
• Market intermediaries are often indifferent to problematic or sanctionable behavior.
• Private actors, such as hedge funds, are increasingly involved in untangling complex corporate structures and recovering assets.
• There is a tension between harnessing private litigants as regulatory adjuncts and their own conflicting interests.
• Opacity can sometimes generate public goods, such as allowing capital-exporting countries to avoid seizure of assets by creditors.
• Conclusion: There is a need to design regulations that bring additional transparency into the system without costing us those public goods.

6. Discussion and Q&A

• The panel discusses the role of transparency, the successes of regulation, and the importance of coalition building.
• Gary Kalman emphasizes that the Corporate Transparency Act is a foundational reform, and that the burden of compliance is not as significant as some claim.
• Dan Nielsen notes that some countries, particularly small island tax havens, are very compliant with FATF standards, but the UK and the US do not apply those standards to their own systems.
• Brooke Harrington identifies the big four accounting firms as hubs of the corporate offshore game, helping clients achieve creative compliance.
• The panel discusses the challenges of building legitimacy for a transnational movement to shut down abuses of the offshore system, and the incentives for countries to defect from international coalitions.

7. Synthesis/Conclusion

The panel discussion highlights the complex and multifaceted nature of opacity and illicit flows. While transparency is generally seen as a positive force, it is not a panacea, and can sometimes have unintended consequences. The U.S. plays a significant role in facilitating illicit cash, and there is a need for stronger regulations and enforcement. Wealth managers are key enablers of kleptocracy, and targeting them is a promising strategy for fighting corruption. Building effective coalitions and rethinking who is a friend and who is a foe are essential for making progress in this area.