outflows are considered to be illicit transfers). Hence, one cannot derive the licit component simply by netting out HMN+GER from CED+GER. According to the balance of payments identity, licit private sector flows are obtained by adding the World Bank Residual estimates to the HMN; the sign is reversed so that the three add to zero. While the gross capital flight (CED+GER) and illicit outflows (HMN+GER) are strictly not comparable, we can observe that cumulative gross outflows of capital amounting to US$782.5 billion (CED+GER) dwarf cumulative illicit outflows of US$211.5 billion (HMN+GER) over the period 1994-2011 (Table 3). In fact, gross capital flight exhibits much larger swings than do gross illicit outflows. This is perhaps due to the fact that a wider range of complex factors drive capital flight than flows that are purely illicit in nature. However, as we shall see later, that does not necessarily imply that the drivers of illicit financial flows are easier to capture. It is clear that, as Russia struggled to replace the old order with an untried new order, capital flight broadly measured by the CED+GER averaged about US$20 billion per annum from 1994-1999. But macroeconomic instability along with continued weaknesses in governance and increasing lawlessness were responsible for boosting capital flight to an average of US$49.3 billion per annum over the next decade ending 2009. Over the last two years 2010-2011, the pace of such outflows accelerated to US$84.7 billion per annum. In contrast, illicit outflows have not ratcheted upwards on a comparable scale. From an average of US$7.2 billion per annum over 1994-1999, illicit outflows crept up to just US$11.7 billion per annum over the decade ending 2009, although over the last two years, they surged to nearly US$26 billion per annum (Table 3). Much of the outflows are recorded and therefore licit as opposed to being illicit. That said, we emphasize that while almost all licit capital flight is recorded in the balance of payments, a major portion of illicit flows (generated through illegal activities such as drug and human trafficking, smuggling, etc. which are settled in cash), cannot be captured by economic methods. Therefore, the share of illicit capital in total capital flight is likely to be significantly understated. On balance, the pace of increase in illicit outflows is much lower than that of capital flight in general and the year-to-year fluctuations are also lower. One reason for this difference in behavior perhaps lies in the fact that the governance-related drivers of illicit flows have a steadier capacity to generate such funds than has the complex interplay of forces to drive a mix of licit and illicit funds from the country. Let us consider macroeconomic drivers. Although a well-managed and technically competent CBR made impressive gains in achieving price stability, the efficiency and effectiveness of fiscal policy lagged behind due to archaic tax and budget policies and rudimentary fiscal policy tools in general. As a result, tax evasion was endemic in the face of systemic weaknesses in tax collection mechanisms, although inflation abated somewhat in later years. Swings in exchange rate expectations can also drive the cross-border transfer of licit capital in short order.
14
Global Financial Integrity