Hot money may be defined in two ways. Currency traders define it as opportunistic funds seeking the highest short-term return in international markets, moving from one trend to the next—hence, its highly liquid or “hot” character. In more journalistic usage, the adjective refers to money whose ownership is concealed at least from the tax authorities and often from criminal prosecutors as well. This is done by creating corporate shells, and it is done increasingly legally, blurring the boundary between legal and illicit. Rather than countering the activity, European and American governments have promoted it and offered special tax advantages in order to attract this money.
The corrupt associations of “hot money” derive less from the activity itself than from the social status of its practitioners. It is disparaged when the funds come from dope dealing and arms trading or from small-fry falsifying their tax returns. But hot money is blessed and even given special tax subsidy when conducted at the top of the economic pyramid.
Early hot-money centers were Switzerland, Liberia, and Panama. Switzerland long refused to cooperate with foreign criminal prosecutors on the logic that its laws did not recognize tax avoidance as a crime. Liberia and Panama offered “flags of convenience” to the oil industry and refrained from imposing any income or sales taxes in a fiscal “race to the bottom.” Oil companies avoided taxes by incorporating shipping affiliates in Panama and Liberia to buy crude oil at low prices from their branches in the producing nations and sell them at a high enough markup to their refineries in the consuming nations, so that neither oil wells nor refineries had reportable income.
By the 1960s these tax-avoidance centers inspired smaller versions throughout the Caribbean and other islands. These “offshore banking centers” specialized in legal “tax avoidance” as distinct from outright tax evasion. By far the major quantitative suppliers of funds in such centers are large multinational corporations, global money managers, and post-Soviet kleptocrats. Smaller fry simply have moved in their wake, facilitated by the international banks that have set up branches in these enclaves.
When the U.S. dollar came under pressure in the late 1960s, Congress voted to refrain from imposing the usual 15 percent income-tax withholding on interest paid to holders of Treasury bonds in these centers. Deeming it to be in the U.S. interest to attract tax-evasion money and the soaring sums of overtly criminal wealth to stabilize the balance of payments, the government encouraged U.S. banks to set up branches in these centers. Britain announced a similar rationale to permit its residents to conduct real estate and other transactions via the Channel Islands, along with the British West Indies and a few other imperial dependencies in the Caribbean. For continental Europe, Liechtenstein and more recently Cyprus have played a similar role, with Russian oligarchs and their counterparts in other parts of the former USSR favoring Cyprus.
The prize for banks in these centers is a volume of flight capital, tax-avoidance, and criminal money that took a quantum leap after the breakup of the Soviet Union in 1991. Capital flight from Russia alone is estimated at $25 billion annually since that time. Usually a “veil of tiers” is set up by lawyers using multiple offshore banking centers to make the funds more difficult to trace. The ultimate magnitude is reported regularly by central banks. The Federal Reserve Board reports U.S. deposits from offshore banking centers quarterly, segregating out deposits at U.S. bank branches. The Bank of England and the German Bundesbank publish similar quarterly reports in their central bank bulletins, and U.S. congressional committees periodically hold hearings to assess how the rising flow of hot money can best be tapped to serve U.S. national interests.
These statistics show the major role hot money has come to play in international banking. The United States has become the world’s largest hot-money haven, followed by Britain. The Bank of Credit and Commerce International and Riggs Bank in Washington, D.C., and the Bank of New York and Citibank have been singled out for serving kleptocrats, dictators, and smaller crooks, highlighted by the uncovering in 2004 of secret accounts for former Chilean dictator Augusto Pinochet (1915–2006). An eight-year 1998–2006 FBI probe of money laundering focused on operations by Semion Mogilevich and other members of Russia’s mafiya at the Bank of New York.
In sum, the growth of “legitimate” savings by multinational firms, government officials, and major vested interests makes any estimate of the magnitude of hot money fairly irrelevant. Different observers may draw the line at different points along the line from respected multinationals to small-time tax dodgers and crooks who use these centers to make their money invisible to the tax and police authorities.
SEE ALSO Capital Flight; Corruption; Crime and Criminology; Drug Traffic; Money Laundering; Offshore Banking; Taxes
Naylor, R. T. 2004. Hot Money and the Politics of Debt. 3rd ed. Montreal: McGill-Queens University Press.