Kabul Bank: Statism and Financial Crime

The recent run on Kabul Bank, an Afghan financial institution at the centre of corruption allegations, adds that war torn and impoverished land to a list of countries where the state is taking steps to prop up the financial system at the expense of a strict adherence to liberal economics.  

This collapse makes Kabul Bank the latest in a now long list of banks supported and to some degree controlled by the state, and so seems to mark a trend in economic thinking – the end of the Friedmanite era.  The repercussions of this financial collapse – including global recession and unemployment – have prompted a regulatory backlash in previously liberal states against liberal finance and at the same time have strengthened the convictions of governments long inclined to statism, such as that in China.  As such, the landscape of finance may become much less liberal than in the last two decades.  

This new mindset will have major consequences not just for the formal financial sector, though, but also for the parasitic activities of criminals and money launderers who, like financiers, have to rapidly evolve their behaviours to suit their ecosystem.  This is especially true since, while financial crime has longstanding credentials, its current manifestation is a consequence of the globalisation. In this regard it arguably has two key aspects.

First, recent decades have seen a range of technological or institutional innovations which have increased the speed and frequency of a range of interactions around the world – personal, financial or otherwise.  Second, globalisation in the last few years has been predicated on an attitude of "countenance" from governments.  Prior to the financial crisis, restrictions on financial flows – even on financial activity altogether – came to be seen in certain quarters as retrogressive.  These two facets of globalisation underpinned both the form of the "higher type" of financial crime and the response of those entities seeking to curtail it.  

The world has changed greatly and rapidly in just three years, though. The global financial crisis has upended traditional perceptions about regulatory best practice, the financial balance of power and the role of the state in economic activity.  

In terms of technological innovation, states are increasingly seeking to control technology.  Their efforts naturally face difficulties arising from breadth of use and depth of complexity, but a range of new tools are emerging, as constraints on internet usage in states as varied as China and Australia illustrate.  In terms of "countenance", a determination to return to control of the market has both emerged anew in previously liberal regions and has been strengthened in those places long inclined to statism.  This change in mood is most visible in the expansion of large state owned companies.
But how is this relevant to financial crime?  

The development of increased statism is of paramount importance for the existing architecture developed to tackle financial crime.  The anti-money laundering framework got its start as part of the battle against the drugs trade in 1980s. It evolved to take into account of concerns about corruption or other offences, and grew dramatically after 9/11.  This shift occurred alongside a move towards broad harmonisation encouraged by organisations such as the OECD in areas such as corruption and tax evasion.  As such, it would be accurate to define this evolving architecture as an attempt to limit the costs of globalisation.  

Given the changed climate, then, it seems likely that the next stage in the evolution of this enforcement architecture may be as part of broader efforts to restrain the globalised excesses of recent years. 

Scepticism towards the market and in favour of the state recalls the Keynesian economics of the 1930s and 1940s.  One historical parallel, for instance, is especially striking.  In late 1941 Keynes prepared a draft plan for an International Currency Union, which would operate through the existence of an International Clearing Bank.  At the time of his drafting Keynes foresaw the use of obligations on creditor states to limit the inflow of capital and a selection of punitive measures to ensure that those states acted within their responsibilities.  The main idea was to prevent the hoarding of currency reserves which would lead to imbalances in the global economy – at the time he was thinking of the imbalances between the United Kingdom and the United States.  His ideas, though, were later dropped as too intrusive and a new plan, itself a blend of the ideas of Harry Dexter White and Keynes, evolved in time. 

But the plan remains of interest to students of financial crime because of the striking institutional parallels between it and the architecture of criminal justice which has evolved since the end of the Cold War.   In the same way that creditor states would be under pressure to ensure a rebalancing of their capital accounts in the International Currency Union, so the tools of enforcement against financial crime have sought to shame recipient states into refusing to accept the proceeds of crime and to impose costs or sanctions if they do not act.

In this context a quick glance at the mechanisms in place is instructive.  For instance, an increasing range of entities including states and private sector financial institutions are under pressure to refuse the inflow of funds which fail to operate within reporting requirements and so may be tainted with criminal proceeds.   This trend is perhaps most discernible with regard to tax evasion, both because many states are running severe budget deficits which require replenishment and owing to the anger of those affected by the financial crisis. One key example of this activity is visible in the new Hiring Incentives to Restore Employment (HIRE) Act in the US, which includes withholding provisions on capital remitted to certain entities which do not comply with required reporting standards.  Another, though, is discernible in the world wide acceptance of the Financial Action Task Force (FATF) standards on money laundering, which have ensured that states throughout the world have refined their legal regimes so as to ostracise those jurisdictions or financial institutions which lower the barriers to entry for tainted finance. 

As such, it is fair the system designed to tackle financial crime bears many of the hallmarks of a capital control regime – and one which states could use to limit free flows of funds at short notice and with limited need for administrative change. 

This situation is perhaps most discernible in East Asian, where a range of states have recently introduced capital controls.  South Korea, Indonesia and Taiwan, for instance, have applied a range of restrictions in an effort to prevent the inflow of ‘hot money’ and any corresponding instability in their currencies.  While implemented for often sound macro-economic reasons (putting aside the debate on the value of currency controls), the introduction of these sorts of regulatory measures arguably increases the prospect of financial crime – in the same way that the implementation of international financial sanctions can have criminalising consequences.  And of course their introduction can result in work creation for those seeking to curtail financial crime. 

In this context, then, perhaps the most discernible trend at present is the evolution of financial crime mechanisms into ever broader areas of policy – from drugs money, to terrorist financing, and then to preventing the financing of the proliferation of weapons of mass destruction.  The new ideological climate makes more likely the regime’s expansion into actions aimed at constraining certain forms of market activity, such as liberal capital flows.

The growing expansion of state capitalism and its impact on financial crime enforcement mechanisms, though, begs two key questions. 

First, is the question of the efficacy of the existing mechanisms.  Given that laundering, terrorist financing, and tax evasion are inherently difficult – if not impossible – to measure with any real accuracy, judging whether AML or other regimes are a success at the moment is very hard.  Accordingly, doubts about the worth of expanding these measures to other areas may be intense – even as such steps appear increasingly likely.   

Second, is the question of whether such a process is tenable given that the international architecture of the fight against financial crime and terrorist financing is increasingly dependent on cross-border co-operation at the level of police forces; it pretty clear that international cooperation will not benefit from an increasingly mercantilist approach to regulatory issues.  This in turn may weaken efforts to tackle transnational organised crime, most particularly where states find their national interests threatened by cooperation.  The difference of opinion between the US and Swiss authorities in relation to the US Department of Justice investigation into alleged efforts to help customers evade US tax is a key example of the limits to natural cooperation. 

And if the trend towards statist solutions to international issues continues, their powers and willingness to act on behalf of the policies aimed at restraining the market and limiting free flows of capital may in time come to alter fundamentally their nature.  As the enforcers of aspects of regulation, they may turn into one of the tools with which states set about dismantling and perhaps even balkanising the globalisation of finance of recent years.  Such steps would represent a major change to the existing order and a significant retrenchment to globalisation, which the guns of August 1914 showed is by no means an irreversible process. 


Kit Dawnay is an independent foreign policy analyst specialising in East Asian international affairs and finance. He has worked for a defence services company, the House of Commons Foreign Affairs Committee, and as a newspaper journalist.  He lives in Hong Kong. He writes Current Intelligence magazine's Far East Dispatch.