How do we understand illicit financial flows from a financial integrity perspective? 

Illicit financial flows (IFFs) are understood to have a negative impact on the growth and development of countries as they drain them of resources that could have been utilised for social spending and other important functions. Moreover, they destabilise the development trajectory of countries by engendering corruption and incentivising unsustainable economic activity. Given the need for sustainable, long-term development in sub-Saharan Africa, IFFs are a major concern. The importance of addressing IFFs for development is recognised in the Sustainable Development Goals (SDGs) as a key target under SDG16, but what are they specifically?

Our research finds that the definition of IFFs is not broadly agreed upon. In particular, there is disagreement on whether illicit flows refer specifically to illegal flows or whether they include flows which are legal but contravene with the spirit of the law. For example, tax avoidance activities by multinational corporations which are legal but only possible through exploitation of legal loopholes would be considered illicit flows under the latter definition but wouldn’t be considered illicit flows under the former. Inconsistencies in definitions and understanding of illicit flows make them a challenge to address.

In addition, illicit flows are difficult to measure and quantify. The current methodologies for quantifying IFFs are prone to over-estimation as well as under-estimation errors. This is mostly due to the fact that calculations of IFFs are based on Trade data which can sometimes be reported incorrectly. Moreover, they can only measure certain aspects of IFFs, such as Trade-Based Money Laundering. As such, current methodologies can only give insights into the scale certain aspects if IFFs, and they are not necessarily appropriate for precise quantifications of the exact magnitude those IFFs. However, they provide important insights and indications of the potential order of magnitude, scale and risk of IFFs within countries.

Building on the above, this note positions IFFs within financial integrity by exploring the linkages between the various components of IFFs and the impact that these have on financial integrity. It shows that by focusing narrowly on money laundering, the bigger picture of IFFs (which has a much greater impact on financial integrity) is being ignored.

It ultimately argues that IFFs need to be incorporated into risk assessments and need to be understood as a key financial integrity issue demanding the attention of Financial Intelligence Units. Given the robustness of the above methodologies as indicators of risk, IFFs could be incorporated into country risk assessments, which will give this important issue the attention it deserves.

This work forms part of the Risk, Remittances and Integrity programme, a partnership between FSD Africa and Cenfri.