Illegal Capital Flight Handicaps Asian Economies

ARCHIVES 2012

By admin-s On Dec 22, 2012

But report by Global Financial Integrity may be misstating the case

Private capital outflow by the disadvantaged non-bumiputras has long been a feature of Malaysia but the GFI report suggests that the number is even greater than hitherto assumed. Its puts the average unrecorded outflows at US$28 billion a year for the past decade and US$64 billion in 2010 alone.

Philip Bowring, Asia Sentinel

The recent report by Global Financial Integrity, a US-based group aimed at improving governance, contains some mind-boggling data about the prevalence of illicit money transfers costing developing countries hundreds of billions of dollars.

The bottom line, the report says, is that over the past 10 years these countries have lost a total of US$5.8 trillion. Of this, Asia has accounted for nearly half, with China leading the field by a long way and Malaysia, Philippines, Indonesia and India all appearing in the top ten list of losers, who together account for 75 percent of the global total.

However, although the numbers are useful indicators of the extent of evasion of currency regulations and taxes, they can be criticized as greatly over-stating national as opposed to purely government revenue losses.

The figures comprise two principal components. Primarily they are the sum of discrepancies between export and import data of the countries concerned with the comparable data of their trading partners. Thus export values are understated in order to accumulate funds offshore and import values are overstated for the same reason, the differences between declared and actual value accumulating in offshore accounts. These account for some percentage of the total. Second are what the report terms “Hot Money Flows,” essentially the difference between recorded transactions and balance of payments data.

The report details different ways of calculating these two ingredients but even the lowest one shows, for example, an illicit global outflow of at least US$738 billion in 2010 alone while the largest calculation puts it at US$1.19 trillion.

However, the report is essentially a compilation and analysis of data that doesn’t attempt to show actual trade and other transactions or explain the motives. Thus China apparently lost US$420 billion in 2010 alone and a total of $2.7 trillion over the past decade – almost 50 percent of the global total.

Although superficially horrifying, it actually looks odd given that over this period China’s foreign exchange reserves have risen at a pace that suggests massive financial capital inflows, not outflows, as its reserves grew far faster than its trade and investment account data would suggest. In other word China could have been a net winner, not the world’s major loser from illicit transactions.

This circle can in fact probably be squared by reference to Hong Kong through which a still large (but diminishing) trade is conducted. It has long been well know that under-invoicing of trade through Hong Kong has been on a massive scale mainly aimed at taking advantage of the territory’s lower tax rate. Similarly Hong Kong’s apparent huge capital inflow reflects not actual investment but round-tripping by mainland enterprises, again primarily for tax reasons.

The net impact is a loss of revenue by Beijing but no loss to the nation as a whole. While it may be technically illegal the under or over-invoicing game is played by almost all multinationals – not least brand names like Google, Apple and Starbucks which divert most of their profits in developed as well as developing countries into tax havens where they have located patents.

That is a serious global problem but the GFI report muddies the issue by making it one of the developing countries always being the losers. In the case of China there is of course large illicit capital outflow, into real estate in the US, Australia etc, Swiss and Singapore bank accounts, often ill-gotten gains laundered through Macau gambling tables. But clearly there must have also been large informal inflows. These may now have dried up and been partly reversed but they were clearly on a huge scale when speculation on yuan revaluation was at its height.

That said, the data for Malaysia and the Philippines should be especially worrisome as these suggest that massive outflows are a cause of the very weak levels of private investment in the both countries. The Malaysian case is already quite well known. For a decade the current account surplus has been running at a massive 10 percent or more of GDP but foreign exchange reserves have only partially reflected this. Some large scale capital outflow is well-known – not least foreign investments by government and quasi-government entities such as Petronas and Malayan Banking.