Ontario Global Research

The mechanisms of secrecy

TaxJustice Report July/2012


Highlight: Transparency International is now, following pressure from TJN and others, adopting a forward-looking agenda on corruption. We very much welcome these words from Cobus de Swardt, the new head of TI. Nevertheless, change takes time to be implemented, and our critique, below, remains valid. (Our blog gives a fuller reaction to TI's latest pronouncements.)  

Rethink the Geography of Corruption by Frank Dosebio , Evedex Inc.

Many of the world’s big development institutions suffer from a kind of blindness with respect to corruption. They define it too narrowly, and especially they ignore the role of the offshore financial system in encouraging and facilitating capital flight and tax evasion. Secrecy and corruption are symbiotic; tax havens, by offering secrecy, foster corruption and must be brought to the centre of the corruption debate.

Berlin-based Transparency International (TI) deserves great credit for bringing corruption onto the development agenda since the 1990s, but now its famous Corruption Perceptions Index (CPI) is part of a problem. TI has a powerful brand name, and the World Bank and many other international development institutions tend to follow where TI leads. And yet its CPI, by focusing on just one aspect of the problem, risks distracting people from some of the most important aspects of corruption. Now would be a good time to begin a more profound analysis of corruption, so as to get to grips with the factors that are arguably the greatest cause of poverty and injustice on the planet today. Eva Joly, the investigating magistrate who broke open the “Elf Affair” in Paris (and won TI’s Integrity Award for 2001) has described the road ahead: the fight against tax havens must now, she says, be “Phase Two” in the fight against corruption.

TI’s two most important analytical tools are particularly problematic. One is the famous CPI, which is widely used as the index of first resort for busy journalists and policy-makers trying to analyse and rank corruption around the world. The second is a mistaken definition of corruption as “the misuse of entrusted power for private gain.” While this definition is potentially quite broad, it has usually been interpreted in a narrow way, notably by focusing excessively on the public sector, and ignoring the private sector. The World Bank has an even narrower approach, defining corruption as "the abuse of public office for private gain." This focus on the public sector as the only arena for corruption is not just arbitrary. It is wrong, and indeed pernicious.

These outdated tools have skewed our perceptions of the geography of corruption to a terrible degree. To give one example: TI’s Bribe-Payers’ Index (BPI) ranks the tax haven of Switzerland – the secret repository of vast quantities of criminals’ and corrupt dictators’ loot – as the world’s “cleanest” country. And over half of the countries ranked in the “least corrupt” quintile of the CPI are offshore tax havens. Something is clearly badly wrong here.

Apart from methodological problems with the ranking itself, these indices' core mistake is this: by splitting the problem of corruption into discrete units of analysis, it entirely ignores the global systemic problem: that one country’s secrecy and tax haven policies harm other countries. Once we look at corruption on a global level, rather than on a national level, we will begin to entirely re-shape the geography of corruption and start to understand properly what corruption is, how it comes about, and how to tackle it.

Not just bribery

The current tendency of the World Bank, TI, the OECD, and many people in the legal professions to restrict their definitions of corruption to the bribery of public officials must change. Corrupt practices involve much more than this, as the following four examples illustrate.

First, take an example from the dot-com boom of the late 1990s: at that time, Wall Street investment banks offered stock in "hot" initial public offerings to corporate executives who were in a position to direct their companies' business to their bank, while Wall St. banks' analysts curried favour with companies by writing absurdly upbeat assessments of companies to persuade them to direct their business (issuing fresh capital, or mergers & acquisitions) to the analysts' banks, which would earn large fees as a result.

A second example would be illegal market-rigging: private companies building up secret monopolistic positions by using tax havens to hide the identities of parties which, to the outsider, appear unrelated, but are in fact related and secretly colluding to fix prices.

A third illustration comes from the byzantine "Elf Affair", which involved, among many other things, African oil money being routed via tax havens to provide secret financing for French political parties.

A fourth case in point involves multiple exchange rates, for example in Zimbabwe or in Angola during the 1990s. Under multiple official exchange rates, well-connected people can get access to very cheap dollars, then round-trip them through another exchange rate, ending up with what is effectively free money from public coffers. The point is that under multiple exchange rates, this is entirely legal. This system is clearly corrupt.  

All these four activities are examples which most people would view as corrupt, but which do not fit into TI's and the World Bank's definitions. The first and second examples do not involve public officials,  and while the first example arguably involves a form of bribery, the second and fourth, and probably the third, do not. The third example does not involve private gain. The fourth example does not even involve an activity: it is the rules themselves that is corrupt. The traditional definitions of corruption are not fit for purpose and should be scrapped. The debate must now move on.

In restricting their agenda to these narrow definitions, the institutions that claim to be fighting corruption have shaped perceptions around the concerns of multinational companies: TI’s corruption rankings provide multinationals (who want to reduce the “cost” of bribery) with a handy ranking of “corruption risk,” while doing almost nothing to identify the wider costs to society arising from their own aggressive tax avoidance policies, which are among most fundamental reasons for poverty in the world.

It is time to shift perceptions to reflect more strongly the concerns of poor people, by bringing tax havens and tax dodging decisively into the corruption debate. These practices are corrupting, for several reasons.

First, just like the drugs trade, corruption has a supply side and a demand side. The demand side involves those who would practice corruption; while the supply side includes those who offer, provide and facilitate corruption opportunities. (Or, one might split it into three parts: the supply side, the demand side, and the intermediaries.) The general strategy for fighting drug trafficking by tackling both the supply and the demand sides is equally applicable to tackling corrupt activities.

While Transparency International and others would tend to restrict this “supply side” to bribery, it is clear, as the example of Switzerland and the Bribe-Payers’ Index shows, that we need to focus on a larger arena than that. It is much larger: Raymond Baker,  a world authority on corruption and money-laundering, has estimated that the cross-border component of bribery and theft by government officials is the smallest part of “dirty money”, or only about three percent of the global total. The criminal component constitutes about 30 to 35 percent, while the commercially tax-evading component, which is driven primarily by falsified pricing in imports and exports, is by far the largest, at some 60 to 65 percent of the global total. The “pinstripe infrastructure” of offshore bankers, lawyers and accountants who welcome these flows of “dirty money” with open arms are a central part of the corruption problem. 

Second, tax evasion has the same effects as more traditionally defined forms of corruption, and they both share the same political and social dynamics. Both involve élites avoiding and evading their responsibilities to the societies that sustain them, with impunity. This "Revolt of the Élites" has two main components just like the more traditional forms of corruption: first, the élites involved remove themselves from carrying the costs involved in maintaining healthy societies; and second, they remain actively involved in the democratic (or other) processes of government, notably in the form of lobbying. Both thrive on secrecy; both have the same effect of worsening poverty, and both corrode people’s faith in the integrity of the political and economic structures that govern their societies. Both involve the abuse of the public interest by narrow sectional interests. 

Both are often, but not always, illegal. For example, the transparency campaigners Global Witness, in a seminal 1999 report on oil, corruption and war in Angola, refer to “ . . . legal theft. Just because the oil revenues are being paid into structures set up by the leaders, which makes them technically legal, does not make them morally defensible”. In short, the corruptors and the corrupted will often find ways to legalise what they do, and they are often in the positions of power that enable them to do it.

Transparency International acknowledges the facilitating role played by financial intermediaries. In a press release accompanying the 2006 Corruption Perceptions Index results, TI commented:"Corrupt intermediaries link givers and takers, creating an atmosphere of mutual trust and reciprocity; they attempt to provide a legal appearance to corrupt transactions, producing legally enforceable contracts; and they help to ensure that scapegoats are blamed in case of detection."

But, having acknowledged this key role played by the financial intermediaries, they fail to go to the next step, which is to accept that supply of such services, which includes supplying secrecy through offshore shell companies, offshore trusts and similar subterfuges, actually stimulates the demand side, by offering protection from discovery.

Alternative definitions of corruption?

TJN suggests two alternative definitions of corruption, at this stage just as discussion points, or as ways of thinking about the issue, rather than as hard definitions. The first would be this: corruption is the abuse of the public interest by narrow sectional interests. This is almost certainly too broad, but it helps illustrate some of the dynamics we feel are important.) The second is somewhat more specific: an activity which undermines public confidence in the integrity of the rules, systems and institutions that govern society is corrupt. This second definition is, among other things, not culturally specific. (To envisage it better, it can help to focus not on the noun “corruption” but instead on the verb “to corrupt.”) This definition also highlights better the threat that corruption poses to people's confidence in governments, democracy and even capitalism itself. Among other things, we think these approaches take us away from a focus on bad people and get us to focus more on harmful or dangerous processes.

These alternative definitions are a work in progress; they may well evolve over time as we discuss the issues. In the meantime, look at this definition of political corruption offered by the Catholic church (see point 411 in this link.) We were not aware of this definition when we formulated our approach, but we are struck by how similar theirs is.)

TJN is also planning an eventual launch of a Financial Transparency Index (FTI.) It is a big project, which will take time. Watch this space.  

The American economist Paul Krugman once remarked upon how economists tend only to see what they know how to model: and that this creates blind spots. Corruption is one of these blind spots: modern economic theory has almost entirely failed to model or even to see how economic liberalisation has created vast criminogenic, corrupting environments around the world. The time has come to remove our blindfolds.

Find out more

John Christensen’s paper, Mirror, Mirror, on the Wall: Who’s the Most Corrupt of All?, discusses these issues in more detail. Also, Richard Murphy and Nicholas Shaxson, in a comment piece in the Financial Times, discuss the Extractive Industries Transparency Initiative, and how the misplaced ideologies of corruption that are currently prevalent have led us down the wrong path in the quest for transparency in natural resource sectors. A book, "Measuring Corruption," provides a good overview of the current discourse around corruption, and identifies some of the methodological and analytical problems inherent in the CPI. In addition to the above analysis, TJN would like to highlight another entire layer of research into the often-forgotten but crucial relationships between taxation, accountability and governance. See more on a special section on TJN's web site, and on academic research highlighted in a special edition of TJN's newsletter.

Other resources

Transparency International is the most well-known. Other bodies include Global Witness (which has a particular focus on natural resources like oil and diamonds), the Norwegian-based U4 Anti-Corruption Resource Centre which has a much longer list of partners; and the Australia-based John Walker's Crime Trends Analysis. 

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