By Afe Babalola

WHY is money laundering such a big issue? Why have many countries, individually and collectively devoted so much time, energy and resources into combating money laundering? The reason is simple. Money Laundering poses a grave and present danger to the global economy. How and why this is so will be discussed this week.

Private sector

One of the most serious microeconomic effects of money laundering is felt in the private sector. As stated last week, money launderers often use front companies, which co-mingle the proceeds of illicit activity with legitimate funds, to hide the ill-gotten gains. In some cases, front companies are able to offer products at prices below what it costs the manufacturer to produce. Therefore, front companies have a competitive advantage over legitimate firms that draw capital funds from financial markets. This makes it difficult, if not impossible, for legitimate business to compete against front companies with subsidised funding, a situation that can result in the crowding out of private sector business by criminal organisations. The management principles of these criminal enterprises are not consistent with traditional free market principles of legitimate business, which results in further negative macroeconomic effects.

Nigeria- map

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Banks and financial institutions

Financial institutions that rely on the proceeds of crime have additional challenges in adequately managing their assets, liabilities and operations. For example, large sums of laundered money may arrive at a financial institution but then disappear suddenly, without notice, through wire transfers in response to non-market factors such as law enforcement operations. This can result in liquidity problems and runs on banks. Criminal activity has been associated with a number of bank failures around the globe, including here in Nigeria as evidenced by the trial of some former bank directors a few years ago.

Banks are particularly susceptible to risks from money launderers on several fronts. There is today a very small step between a financial institution suspecting that it is being used to launder money and the institution becoming criminally involved with the activity. Banks that are discovered to be laundering money are most certain to face costs associated with the subsequent loss of business as well as legal costs. Banks and their directors face the risk of criminal prosecution for money laundering whether they know the funds are criminally derived or not.

More often than not, bank directors are unaware that their institution is being used to launder money. Typically, an employee colluding with a criminal will circumvent the bank’s depository procedures to launder money. However, the bank is still liable for the actions of its employees. It is, therefore, essential that banks adopt and enforce the new legal procedures in deposit taking and keep tight controls on staff likely to be useful to money laundering.

Two conflicts of interest arise here that may dampen the enthusiasm of banks in complying to such laws. The first is that bank officials are under increasing pressure to bring in new business and drive up profits. It has been argued that many banks remain afloat due to money laundering services. The second conflict is that certain banks and countries have a competitive advantage in providing private banking services, that is, client confidentiality. Bank secrecy laws exist in 50 nations worldwide, and for such banks, these are important in attracting customers. Any moves to abolish or continually override such laws are likely to be strongly opposed.

Effect on economic growth

Money launderers are not interested in profit generation from their investments but rather in protecting their proceeds. Therefore they invest their funds in activities that are not necessarily economically beneficial to the country where the funds are located. Furthermore, to the extent that money laundering and financial crime redirect funds from sound investments to low quality investments that hide their proceeds, economic growth can suffer. In some countries, for example, entire industries, such as construction and hotels, have been financed not because of actual demand, but because of the short-term interests of money launderers. When these industries no longer suit the money launderers, they abandon them, causing a collapse of these sectors and immense damage to these economies.

Effect on taxation

Money laundering diminishes government tax revenue and, therefore, indirectly harms honest taxpayers. It also makes government tax collection more difficult. This loss of revenue generally means higher tax rates than would normally be the case if the untaxed proceeds of crime were legitimate. It also threatens the efforts of many countries to introduce reforms into their economies through privatisation. Criminal organisations have the financial capacity to outbid legitimate purchasers for formerly state-owned enterprises. Furthermore, while privatisation initiatives are often economically beneficial, they can also serve as a vehicle to launder funds. In the past, criminals have been able to purchase marinas, resorts, casinos and banks to hide their illicit proceeds and further their criminal activities.

Countries cannot afford to have their reputations and financial institutions tarnished by an association with money laundering, especially in today’s global economy. Confidence in markets and in the signalling role of profits is eroded by money laundering. The negative reputation that results from these activities diminishes legitimate global opportunities and sustainable growth while attracting international criminal organisations with undesirable reputations and short-term goals. This can result in diminished development and economic growth. Furthermore, once a country’s financial reputation is damaged, reviving it is very difficult and requires significant government resources to rectify a problem that could be prevented with proper anti-money-laundering controls.

Money laundering is a problem not only in the world’s major financial markets and offshore centres, but also for emerging markets. Indeed, any country integrated into the international financial system is at risk. As emerging markets open their economies and financial sectors, they become increasingly viable targets for money laundering activity. Increased efforts by authorities in the major financial markets and in many offshore financial centres to combat this activity provide further incentive for launderers to shift activities to emerging markets. There is evidence, for example, of increasing cross-border cash shipments to markets with loose arrangements for detecting and recording the placement of cash in the financial system and of growing investment by organised crime groups in real estate and businesses in emerging markets. Unfortunately, the negative impacts of money laundering tend to be magnified in emerging markets.

Although the economic costs are particularly emphasised, we must also remember the social and political dimensions of crime and related money laundering, the suffering of the victims and the overall weakening of the social fabric and collective ethical standards. This is particularly true of Nigeria where corruption remains endemic and fuels money laundering activities. All of this lends urgency to anti-laundering efforts which attack criminal activity at the most vulnerable point-where its proceeds enter the financial system.

  Overall, the government here in Nigeria has been very pro-active in combating money laundering with constant changes to legislation to meet emerging trends. Aside from the creation of the Economics and Financial Crimes Commission, EFCC, legislation was also passed to grant independence to the Nigerian Financial Intelligence Unit, NFIU, in line with international standards and commitment. It is hoped that other areas requiring attention such as a revamp of the criminal justice system will receive attention so as to add fillip to the overall fight against money laundering. One of such is the Companies and Allied Matters Amendment Bill which is still awaiting the assent of the President. It is hoped that the Bill, which contains many innovative features aimed at further making it difficult for criminals to lauder the proceeds of illicit activity, will receive the attention it deserves.