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Capital Flight Working Project

Capital Flight Working Project

Publications

MACROECONOMIC IMPACT OF CAPITAL FLIGHT IN SUB-SAHARAN AFRICA MACROECONOMIC IMPACT OF CAPITAL FLIGHT IN SUB-SAHARAN AFRICA

By John Weeks | September 2014

This paper assesses the impact of capital flight on growth in thirty-one sub-Saharan African countries. It first considers the “macro fundamentals” hypothesis that capital flight would be lower in a country whose government adhered to “sound” macroeconomic policies. Analytical considerations fail to support this hypothesis. Second, it develops a growth estimating equation derived from the Harrod-Domar framework.  The growth estimations support the conclusion that capital flight had a major impact on growth over the last three decades, 1980–2010. The negative impact was greatest for the petroleum-exporting countries and those affected by internal conflict, but it was also substantial for the other countries, with a few exceptions. 

NATURAL RESOURCES AND CAPITAL FLIGHT: A ROLE FOR POLICY? NATURAL RESOURCES AND CAPITAL FLIGHT: A ROLE FOR POLICY?

By Rabah Arezki, Gregoire Rota-Graziosi, and Lemma W. Senbet  | September 2014

This paper investigates the relationship between natural resources and capital flight in the form of tax avoidance from multinational corporations. In particular, it focuses on the spillover effects in terms of tax revenue mobilization and stock market development from the thin capitalization rule, a policy instrument aimed at limiting firm tax avoidance through setting limits on a firm’s foreign indebtedness. We exploit the plausibly exogenous within-country variations of data on oil discoveries for a panel of 117 countries during the period 1970–2012. We find evidence that oil discoveries significantly enhance both tax revenue mobilization and stock market development, but only when a thin capitalization rule is in place. We argue that these findings can be explained through the limiting role of a thin capitalization rule in multinational companies’ use of financial transactions among their affiliates or tax havens to transfer part of the profit. The thin capitalization rule may thus not only help limit the erosion of the domestic tax base but may also entice multinational corporations to resort to using and developing the domestic financial system. 

GOVERNANCE AND ILLICIT FINANCIAL FLOWS GOVERNANCE AND ILLICIT FINANCIAL FLOWS

Melvin D. Ayogu and Folarin Gbadebo-Smith | September 2014

Insofar that it corrodes governance, engendering opportunistic crimes, grand corruption lies at the core of the problem of illicit financial flows. We identify at least two likely antagonistic circles in the illicit flow process—a virtuous circle and a vicious circle—both rooted in one common factor, namely, the strategic complementarity between corruption and governance. Also, we consider the scope of global governance architecture in encouraging banks to “do the crime, pay the fine, and do no time.” Given this structure, the observed, rampant impudence of banks’ participation in illicit financial flows is understandable and society would not be shocked should global mega-banks increasingly resemble a police establishment run by ex-convicts. Curbing illicit flows in such a circumstance would be daunting. Therefore, civil society must live up to its civic responsibilities by displacing the vicious cycle first through creating the right incentives for politicians to identify negatively with illicit financial flows.

TAX EVASION AND CAPITAL FLIGHT IN AFRICA TAX EVASION AND CAPITAL FLIGHT IN AFRICA

Abbi M. Kedir |September 2014

Expanding the tax base raises government revenue and is essential for sustainable poverty reduction in African countries. With volatile ODA, FDI, loans, and remittances, domestic resource mobilization via taxes remains a vital source of revenue for African governments. Fighting tax evasion is a significant part of this drive to increase government revenue and reduce vulnerability to shocks, including the sudden depletion of official development aid. Capital flight, tax evasion, and tax avoidance are significant developmental problems that require urgent attention. This paper highlights key issues in relation to tax evasion and capital flight via tax havens. It provides an econometric analysis of factors associated with tax evasion using data from three rounds of Afrobarometer Surveys. Policy implications are discussed

CAPITAL FLIGHT, SAFE HAVENS AND SECRECY JURISDICTIONS CAPITAL FLIGHT, SAFE HAVENS AND SECRECY JURISDICTIONS

By Frank Barry | September 2014

The terms “safe haven” and “secrecy jurisdiction” are arguably more appropriate than “tax haven” or even “offshore financial center” in discussing capital flight. Florida, for example, is thought to be the main destination for capital flight from Latin America, though it is rarely—if ever—listed under either of the last two headings. Most capital flight is thought to reflect the transfer—typically to jurisdictions characterized by strong financial secrecy regulations—of the receipts of plunder, money laundering, and tax evasion. These same jurisdictions are occasionally used by governments to dodge reparations, evade the impact of sanctions, and/or covertly fund political interference in rival states. The paper considers how capital flight safe havens operate. It also reviews the arguments over financial secrecy laws and practices, and considers recent multilateral and unilateral attempts—by the OECD, the EU, the US and others—to counter secrecy abuses.

ILLICIT FINANCIAL FLOWS AND STOLEN ASSETS VALUE RECOVERY ILLICIT FINANCIAL FLOWS AND STOLEN ASSETS VALUE RECOVERY

Melvin D. Ayogu and Julius Agbor | September 2014

Value recovery of stolen assets is both an enforcement of anti-money laundering laws and a potent weapon against corruption. When obtainable, it represents society’s credible commitment to ensure that “crimes do not pay.” We explore these linkages by reviewing international experiences on the implementation of value recovery. Lessons suggest country-level studies that are more likely to strengthen local initiatives, leading to regional strategies capable of improving negotiations for assistance and cooperation at the global level. 

CAPITAL FLIGHT AND INSTITUTIONAL FRAMEWORKS TO PROMOTE TRANSPARENCY CAPITAL FLIGHT AND INSTITUTIONAL FRAMEWORKS TO PROMOTE TRANSPARENCY

By Humphrey P.B. Moshi | September 2014

The paper has three main objectives.  First it identifies the kind of institutional frameworks at the global, regional and country level which have evolved to address the issues of illicit financial flows.  Second, it analyzes the factors that have inhibited the efficiency and effectiveness of the frameworks. Third it proposes a way forward in terms of addressing the challenges with a view to achieve enhanced progress as far as the war against illicit financial flows is concerned. The main findings are: First, a variety of institutional frameworks has emerged at the three levels. However, they are interlinked and feed into each other, in the sense that those at the country level have been driven by those at the global and regional level. Given that most of these frameworks are not organic to Africa, the continent’s position has thus been more reactive than proactive. Second, the establishment of the institutional frameworks is an outcome of lobbying and advocacy organizations, spearheaded by non-governmental organizations and civil society organizations. This has been complemented by publications undertaken by a number of researchers in a variety of academic and non-academic institutions. All these efforts have underpinned the establishment of policy, legislative and enforcement frameworks at the country level. Third, the level of awareness, across a broad range of stakeholders, of the scope of the problem and its negative impact on African development, has been heightened. This notwithstanding, illicit financial flows continue to flourish unabated. A number of factors have contributed to this state of affairs. They include weak political will, lack of comprehensive legislation, weak enforcement capacities, continued existence of secrecy havens, corruption, and weak human and institutional capacities. Fourth, in order to adequately address the problem of illicit financial flows, solutions to the constraining factors must be sought, and the attendant measures effectively implemented. However, and most importantly, Africa needs to be proactive and own the process. The establishment of the High Level Panel at the Economic Commission for Africa (ECA) is a good starting point for spearheading efforts to combat illicit financial flows.

Strategies for Addressing Capital Flight Strategies for Addressing Capital Flight

James K. Boyce and Léonce Ndikumana   | September 2014

This paper discusses strategies to stem capital flight from African countries. It emphasizes the importance of the distinction between licitly and illicitly acquired capital, and the need to tailor strategies to the specific type of capital flight concerned. Policies to prevent the illegal export of honestly acquired capital and strategies to address both trade-related capital flight and transfer pricing are examined. The paper discusses strategies for preventing asset theft and for tracking and repatriating stolen assets. It discusses the burden of odious debts and the role of debt audits in addressing this problem. Finally it maps the contours of a global compact for the prevention of capital flight and tax evasion.

Capital Flight: Measurement and Drivers Capital Flight: Measurement and Drivers

By Léonce Ndikumana, James K. Boyce and Ameth Saloum Ndiaye | September 2014

This paper describes the nature of capital flight, the methodologies used to measure it, and its drivers. The paper presents updated estimates of the magnitude of capital flight from 39 African countries for which adequate data are available for the period 1970-2010. It gives a global context of the problem of capital flight from Africa by providing comparative indicators on capital flight and related flows for other developing regions. The paper undertakes a detailed econometric analysis of the drivers of capital flight from African countries. It explores empirically the role of domestic and external factors in driving capital flight, including structural factors, the macroeconomic environment, governance, risk and returns to investment, capital account openness, and financial development. The first objective of the study is to contribute to the literature by providing the most comprehensive analysis of capital flight from Africa that takes into account economic as well as non-economic dimensions, and recognizes the importance of both the domestic and global contexts. The second objective is to contribute to the policy debate on capital flight both in Africa and globally.

CAPITAL FLIGHT AND ECONOMIC DEVELOPMENT IN AFRICA CAPITAL FLIGHT AND ECONOMIC DEVELOPMENT IN AFRICA

By S. Ibi Ajayi | September 2014

This paper takes a broad approach to the analyses and implications of capital flight for economic growth and development in Africa. It provides an overview of why capital flight constrains and undermines economic growth and development in Africa because of the resource gap which it exacerbates. Capital flight undermines domestic resource mobilization effort, reduces private domestic investment, and reduces the tax base, and thus brings about reduced public investment and social services. The analysis draws on a distinction between economic growth and development. In drawing out the distinction, the analysis goes beyond economic growth and covers the deeper issues of social development (wellbeing of citizens) as measured by the Human Development Index, and economic transformation. The paper deals with the issues of poverty and inequality. In addition the paper pushes the analysis to the implications of capital flight for developmental policy. Addressed in the paper also are issues of the quality of public finance and the absorptive capacity of a country in the event of reduced capital flight/ and capital flight repatriation and its implications for resource management and attainment of developmental objectives. Considered in particular with respect to absorptive capacity are macro-economic, institutional and policy, technical and managerial constraints. 

CAPITAL FLIGHT AND POVERTY REDUCTION IN AFRICA CAPITAL FLIGHT AND POVERTY REDUCTION IN AFRICA

By Janvier D. Nkurunziza September 2014

This paper investigates the impact of capital flight on poverty reduction through the investment and growth channel. It uses two approaches. First, the Incremental Capital-Output Ratio (ICOR) approach is used to estimate additional income that would have been generated if all capital flight had been invested domestically. The second approach uses capital stock to derive the potential effect of capital flight on income per capita and on poverty. The effect on poverty reduction is computed by taking into account country-specific and time-varying income-growth elasticity of poverty. The ICOR method suggests that the average annual rate of poverty reduction over the period 2000-2010 could have been 1.9 percentage points higher. The capital stock method generates an additional 2.5 percentage points per year above the current rate of poverty reduction. The evidence in this paper confirms that capital flight has significantly undermined African countries’ efforts to reduce poverty.

 

CAPITAL FLIGHT AND FLOW OF FUNDS CAPITAL FLIGHT AND FLOW OF FUNDS

By Victor Murinde | September 2014

This paper specifies three asset demand equations in a flow-of-funds framework to underpin the demand for capital flight, domestic money, and foreign debt. The estimation uses data on four groups of African countries over 1970–2010: (1) the entire sample of 39 African countries; (2) South Africa, Algeria, Nigeria, and Egypt (SANE); (3) oil- and natural resource-rich countries; and (4) all countries excluding the SANE countries. The results show that across the four groups the demand for capital flight mimics habit persistence. Moreover, past external debt is positively related to current capital flight, suggesting debt-fueled capital flight and asset complementarity rather than asset substitution. The impact of factors such as inflation and growth on the demand for the three assets is unique to each country group.

 

Capital Flight and Monetary Policy in African Countries Capital Flight and Monetary Policy in African Countries

By Hippolyte Fofack and Léonce Ndikumana | September 2014

According to conventional economic theory, high interest rates are expected to stem capital flight by raising the relative rate of return to investment in domestic assets. However, African countries have experienced high capital flight over the past decades despite high interest rates and improved macroeconomic stability, implying that capital flight is not driven by arbitrage on the basis of the risk-adjusted rate of return to investment. Drawing on panel data covering 39 countries over 1970–2010, this study investigates the interactions between capital flight and monetary policy in Africa. The econometric analysis in this study finds no evidence of an impact of monetary policy instruments or targets on capital flight. Specifically, neither the domestic interest rate nor the interest rate differential with the rest of the world has an impact on capital flight. The evidence, however, shows that capital flight has a negative effect on monetary policy targets. It discourages domestic investment and retards the adjustment of output to its long-term growth rate. Two implications follow from the analysis. First, conventional policy prescriptions may not be effective for stemming capital flight from African countries. Second, capital flight may make monetary policy less effective in stimulating domestic demand and growth. This poses an important dilemma that calls for a serious rethinking of the monetary policy orientation in Africa.

FINANCIAL LIBERALIZATION AND CAPITAL FLIGHT: EVIDENCE FROM THE AFRICAN CONTINENT FINANCIAL LIBERALIZATION AND CAPITAL FLIGHT: EVIDENCE FROM THE AFRICAN CONTINENT

By Niels Hermes and Robert Lensink | September 2014

During the past decades, many countries experienced considerable capital flight. Residents moved their wealth abroad, using different ways to accumulate foreign assets. Since the 1990s, several of these countries reformed their domestic financial markets in an attempt to improve the functioning of their domestic financial systems and to increase the efficiency of resource allocation—that is, to enhance financial development. In this paper, we examine the relationship between financial liberalization and capital flight, with special emphasis on countries on the African continent, and carry out an empirical analysis using data for a sample of 18 countries from this region for the period 1973–2005. We find that whereas reforms related to opening up domestic banking markets for new domestic and foreign entrants and bank privatization programs seem to reduce capital flight, policies focusing on liberalizing the capital account increase capital flight.

 

CAPITAL FLIGHT AND THE FINANCIAL SYSTEM CAPITAL FLIGHT AND THE FINANCIAL SYSTEM

By Isabella Massa | September 2014

Capital flight has become an increasing source of concern for policy makers in developing countries, including African economies, since it represents a severe constraint for growth and development. This paper analyzes how the domestic and global financial system may facilitate capital flight from Africa. We argue that on the domestic side, a high presence of foreign banks and underdeveloped financial markets; weak banking regulatory and supervisory frameworks, capital controls; and the take-off of mobile banking are some of the factors that may be conducive to capital flight. On the other hand, the global financial system may facilitate capital flight through banking secrecy, business in secrecy jurisdictions, and financial innovation (new payment methods, financial derivatives, hedge funds, private equity funds). Bank secrecy laws and financial activities in secrecy jurisdictions also represent an important obstacle for capital flight repatriation to Africa. In the paper, policy responses adopted at both the international and national level to prevent and combat capital flight and promote asset recovery are investigated. The analysis suggests that the effectiveness of such policy measures is far from satisfactory. This is due to a number of factors, which include, but are not limited to: (1) the lack of political will at both the African and global level; (2) weaknesses of the initiatives promoted at the international level, such as the lack of legal enforcement mechanisms, scarce credibility, and limited involvement of African countries; (3) the existence in Africa of regulatory loopholes, weak governance, and low levels of expertise and knowledge; (4) the lack of collaboration between local and foreign authorities; (5) differences in the legal systems of African economies and foreign countries; and (6) the lack of a universally recognized institutional body for global governance.

 

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