Backgrounder: Illicit financial flows

Curbing illicit financial flows to finance the adaptation costs of climate change

14. Illicit financial flows are a major challenge to the development of Africa, which is the most vulnerable continent to the impact of climate change and the least able to cope with this change, due, in part, to its low level of economic development. Adaptation to the impact of climate change will cost African countries billions of dollars a year, increasing pressure on development budgets.

15. The continent is expected to experience increased drought and flood episodes, frequent extreme events such as hurricanes, cyclones and rising sea levels. These changes will have serious adverse consequences for many development sectors, and threaten the economies and livelihoods of many African countries. Recent research further highlights these risks and the urgency to seek solutions, considering that the current dynamic growth of the continent is mainly attributed to increased natural resource use and climate-sensitive rain-fed agriculture, vulnerable to seasonal variability and climate change (IPCC, 2013).

16. Given the potentially devastating implications of climate change on the lives and livelihoods of people, adaptation measures are being implemented throughout Africa at all levels. These, however, are not far-reaching, due to the limited budget. Adaptation costs for sub-Saharan Africa are projected to be between $14 billion and $15 billion per year and expected to reach $70 billion by 2045, if no additional mitigation action is taken (UNEP, Adaptation Gap Report).

Innovative domestic climate finance opportunities such as resource savings from curbing illicit

financial flows could help in financing climate change.

Understanding illicit financial flows and conflict in Africa

17. According to the Inter-Governmental Action Group against Money Laundering in West Africa, extremists in the Sahel and insurgency in some African countries are obstacles to tackling the problem of illicit funds related to terrorism (Sahadath, 2014).

18. Many of the violent conflicts in the forest regions of Africa are tied to “lootable” commodities such as precious metals and rough diamonds that can be used to fuel conflict (CIFOR, 2010). Revenue from forestry is used by belligerents to purchase arms and other materials. Logging operators participate in the conflict by trafficking weapons and trading timber for arms. The sector facilitates money laundering and other financial crimes.

19. Illicit financial flows pose a threat to the stability and security of African countries, undermine institutions and democracy, and jeopardize sustainable development and the rule of law. Clearly, to deal with the problems of conflict in Africa, it is important to understand the nature and patterns of illicit financial flows.

Cross-cutting issues

Corruption

20. While corruption cuts across all categories of illicit financial flows, it is clear that the term is mostly associated with public sector corruption such as bribery and abuse of office (ECA, 2014). It has the potential to facilitate criminal activities such as drug trading, racketeering, counterfeiting, terrorism financing, tax evasion, trade in contraband goods and laundered commercial transactions. Private sector businesses also perpetuate these vices by bribing public officials and using their personal connections to influence administrative processes (ECA, 2013).

Tax havens and financial secrecy jurisdictions

21. Tax havens and financial secrecy jurisdictions serve as destination points for illicit financial flows through tax evasion and money laundering. Their nature allows for secrecy and ease of registration, which is often taken advantage of by business owners who use fake corporations as fronts. By serving as a destination point for funds, these tax havens undermine efforts to stem illicit financial flows from Africa and may encourage some African countries to also become havens and financial secrecy jurisdictions (ECA, 2013).

Capacity issues

22. Capacity constraints have made it difficult to tackle the issue of illicit financial flows. One clear example is the customs and revenue service, which is unable to deal with the issue of mispricing in the trade of goods, services and intangibles. Another area is the extractive sector, which lacks the capacity to negotiate contracts or ensure that Africa’s views are reflected in the emerging global architecture to stem illicit financial flows. There is capacity imbalance between prosecuting authorities and multinationals, which are always able to hire the best legal and accounting experts to fight their case (ECA, 2014).

Conclusion

23. It is imperative to curtail illicit financial flows and fight corruption and the institution of tax havens, so as to ensure the efficient and effective use of resources and domestic long-term financing. Illicit financial flows should be retained on the continent; they could be invested, saved or consumed. Much of this could be appropriately taxed to provide additional tax revenue to fund Government budget, which is often in deficit; it would also help boost domestic resource mobilization efforts. In line with this, Africa needs strong findings on mechanisms, strategies, and peer research to distinctly show the impacts of illicit financial flows on the different sectors of economic activity. Indeed, curtailing illicit financial flows could become a key delivery mechanism for sustainable development.

24. Tackling the issue of illicit financial flows requires concerted efforts by countries of origin and destination countries alike. The legal and financial approach must be transparent and the international asset recovery regime integrated, in an effort to curb these outflows and unlock the much-needed resources.