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The nature of trade-based money laundering

TBML has, for the most part, not been adequately defined and, as a consequence, its nature and its extent are not well understood. Baker (2005: 25) has argued that because ‘[a]nything that can be priced can be mispriced’ and ‘[f]alse pricing is done every day, in every country, on a large percentage of import and export transactions’ that TBML ‘is the most commonly used technique for generating and transferring dirty money—money that breaks laws in its origin, movement and use’. However, from the publicly available material, the extent of TBML is unknown. FATF (2006: 3) observed in its June 2006 report Trade-based Money Laundering that TBML ‘has received considerably less attention in academic circles than other means of transferring value’. As a result, TBML is currently a rather nebulous activity. However, there is a concern that TBML is becoming a more prevalent threat, with the Australian Crime Commission’s (2011: 48) recent report on organised crime in Australia stating that ‘[t]rade-based money laundering and bulk cash smuggling are international concerns that have been identified as emerging or possible threats in Australia’.

Academic literature and many official reports generally do not clearly define TBML. This is partly due to the fact that TBML can take many forms and the boundaries between TBML and money laundering using the financial system are often blurred. For analysis, the two categories of money laundering (trade and finance) need to be more clearly distinguished.

In this section, the essential features of TBML are distilled in an attempt to define TBML and distinguish it from other forms of money laundering. Selected sanitised TBML case studies and known methodologies are used for this analysis. In addition to categorising the basic techniques used for TBML, this section also examines the use of financial information as an indicator of potential TBML and areas of significant TBML vulnerability.

Defining and distinguishing trade-based money laundering

FATF (2006: 3) defined TBML as ‘the process of disguising the proceeds of crime and moving value through the use of trade transactions in an attempt to legitimise their illicit origin’. By contrast, the FATF (2008a: 1) Best Practices Paper on TBML, defined TBML as:

the process of disguising the proceeds of crime and moving value through the use of trade transactions in an attempt to legitimise their illicit origins or finance their activities.

The former definition is more limited in that it deals only with the obscuring of the origin of funds whereas the latter includes the use of the funds for the financing of activities.

The two FATF definitions capture the essence of money laundering, which is the movement of value. For that reason, they are preferred to the definition used in the BINLEA’s (2004: 21) International Narcotics Control Strategy Report which is ‘the use of trade to legitimize, conceal, transfer, and convert large quantities of illicit cash into less conspicuous assets or commodities’. The FATF definitions are also broader than the definition of TBML used by US ICE, which states that ‘[t]rade-based money laundering is an alternative remittance system that allows illegal organizations the opportunity to earn, move and store proceeds disguised as legitimate trade’ (US ICE nd). This definition is even more limited in that it confines money laundering to an illegal organisation, when it is the illegal activity of an entity that earns and transfers funds that is the real concern. Furthermore, while the storing of funds, either obtained from crime or earmarked for criminal activity, is not particularly desirable, it is less crucial than how those funds are used in practice. Use requires movement of funds through electronic transfer, cheque or physical movement by cash courier for example. Alternatively, movement can be achieved by converting funds into other forms, such as goods and services. While this part of the US ICE definition seems to be directed to conversion of funds, such as assets for example, expressing this in terms of storing proceeds rather than movement of value, limits the accuracy and usefulness of the definition.

Neither FATF definition, however, sufficiently delineates a trade transaction from trade. Use of funds to purchase an asset like real estate can, in a broad sense, be regarded as a trade transaction because money is exchanged; that is, in that sense traded for land, but such an acquisition is not usually considered trade as such and not international trade. Further, a definition based on terms referring to the proceeds of crime excludes TBML involving otherwise legitimate sources of funds but which are intended for illegal activities, such as terrorism financing. Although this broader concept of TBML may not be the primary focus now, it may become a focus in the future. A more accurate and comprehensive definition of TBML, which captures its essential nature, is therefore needed to cover all forms of TBML.

For these reasons, TBML at its broadest and most basic is defined here as the use of trade to move value with the intent of obscuring the true origin of funds.

Trade includes both legitimate and illicit trade in goods and services. This definition adopts the basic approach used by FATF. Like the FATF definitions, the definition of TBML proposed here is framed in terms of movement of value. Movement of value is a defining feature of money laundering. In using ‘trade’ rather than ‘trade transactions’, potential overlap with areas covered by the first tranche of AML/CTF reforms is avoided.

Excluded from the definition is reference to the use of trade to avoid tax. There is a fine line between money laundering and tax fraud, which in its widest sense, includes fraud designed to avoid excise duties and income tax. One of the added features of many money laundering schemes is that they also avoid tax and excise. Essentially, the difference between money laundering and tax fraud is the primary objective of the activity. TBML differs from trade-based tax fraud as it is used not just to avoid paying taxes or excise on traded goods, but to use trading operations to move funds clandestinely and obscure the origins of these funds.

Defining a trader

In its Best Practices Paper, FATF (2008a: 2) defined a ‘trader’ as:

anyone who facilitates the exchange of goods and related services across national borders, international boundaries or territories. This would also include a corporation or other business unit organized and operated principally for the purpose of importing or exporting goods and services (eg import/export companies).

However, there are two important caveats to this definition. The first caveat is that this definition only includes the key players in the international goods trade (ie exporters, importers and freight transporters) while domestic trade is not considered. Nonetheless, it is reasonable to assume that if international trade is subjected to increased control and scrutiny, money launderers will look to opportunities presented by domestic trade. Money laundering using domestic trade presents much more challenging issues than international trade, as it doesn’t have the established infrastructure to monitor local or interstate trade transactions. In countries like Australia and the United States, the Constitutional protection given to states’ rights and to freedom of interstate trade, presents additional challenges. The unrestricted nature of domestic trade opens up a particular risk for TBML that would be difficult to detect.

The second caveat is that the FATF definition does not clearly extend to services, other than those ‘related’ to the trade of goods, although it would seem that FATF intended for the definition to cover trade in both goods and services. The case studies and typologies considered in this chapter show that services can also be used to launder money. It seems that the goods trade is more commonly used for TBML, but that may be because TBML using services is more difficult to detect. Moreover, it is reasonable to assume that as TBML schemes become more sophisticated, the use of services for money laundering will become more common.

Trade-based money laundering techniques

TBML techniques range from simple fraud, such as misrepresentation of the price, quantity or quality of goods on an invoice, through to complex networks of trade and financial transactions. Although TBML typically involves merchandise, it may also use trade in intangibles such as information, copyright and services—also known as service-based money laundering (Lormel 2009). Publicly available information on TBML in Australia is quite limited, but Box 1 refers to two publicly known cases of TBML in this country.

Box 1: Australian trade-based money laundering case studies

Case study 1: Paul Anthony Miller, a Managing Director of Eurovox Pty Ltd, was alleged to have conspired with Seigo Ito of Maruwa Electronic and Chemical Company to falsely invoice goods (such as tolling equipment, DVD players and television set-top boxes) and keep a portion of the money exchanged. This fits the TBML criteria of over-invoicing goods by misrepresenting the price of goods in order to transfer additional value between the importer and exporter. The charges against Miller included obtaining financial advantage by deception, money laundering, theft and falsifying documents. Originally sentenced to six years imprisonment (with a 4 year non-parole period), on appeal against his conviction and sentence he received an overall sentence of four years (with a 2.5 year non-parole period).

Source: R v Miller [2007] VSCA 249

Case study 2: Directors of a company were involved in purchasing large quantities of duty free cigarettes and alcohol to sell on the domestic market contrary to their export duty free status, thus avoiding tax obligations. The company generated false receipts [with] an export company detailing their alleged cigarette exports. Investigations confirmed that no such exports had ever been made. Payment was made for the cigarettes on a cash-on-delivery basis. A large number of the company’s sales occurred over the internet from customers paying via credit card. A majority of the sales on the internet were illegitimate and came from three different email addresses. Payments for these orders were made from one of two credit cards linked to Belize bank accounts. One card was held in the company’s name. The money in the Belize bank account was sent there by one of the directors using several false names from not only Australia but also Belize, Hong Kong and Vietnam. The director conducted structured wire transfers under false names and front company accounts. The funds were purchased at well-known banks with multiple transactions occurring on the same day at different bank locations and all of the cash transfers conducted in amounts of just under AUD10,000 to avoid the reporting threshold.

Source: APG 2008: 19

Trade description fraud

Trade description fraud is the most commonly described form of TBML and generally comprises one of the following techniques (FATF 2006).

Over- and under-invoicing of goods and services

As FATF (2006: 4) explains,

[t]he key element of this technique is the misrepresentation of the price of the good or service in order to transfer additional value between the importer and exporter.

Invoicing the good or service at a price below the fair market price enables the exporter to transfer value to the importer. Similarly, invoicing at a price above market price enables the exporter to obtain a higher payment than the importer will receive on the open market.

The following example illustrates the types of inaccuracies which have been found:

…[c]otton dishtowels imported from Pakistan into the U.S. for the…high price of $153.72 each, briefs and panties imported from Hungary for $739.25 a dozen, metal tweezers imported from Japan at $4,896 a unit, toilet bowls exported to Hong Kong for the ridiculously low price of $1.75 each, and missile and rocket launchers exported to Israel for a mere $52.03 each (BINLEA 2004: 21).

Multiple invoicing of goods and services

Unlike over- and under-invoicing, there is no need to misrepresent the price of the good or service on the commercial invoice. A complicated web of transactions is used whereby the same good or service is invoiced more than once, often using a number of different financial institutions to make the payments. Even if a case of multiple payments relating to the same shipment of goods or delivery of services is detected, the money launderers can explain the situation on the basis of amendment of payment terms, corrections to previous payment instructions or the payment of late fees, for example.

Over- and under-shipments of goods and services

By manipulating export and import prices, a money launderer can overstate or understate the quantity of goods being shipped or services being provided. There may be no actual supply of goods or services, only paperwork agreed by the importer and exporter. Financial institutions may unknowingly be involved in financing the phantom trade. An example of the under-shipment of goods, published by FATF (2006: 10), is as follows:

  • A criminal organisation exports a relatively small shipment of scrap metal, but falsely reports the shipment as weighing several hundred tons.
  • Commercial invoices, bills of lading and other shipping documents are prepared to support the fraudulent transaction.
  • When the cargo is loaded on board the ship, the customs officer notices that the hull of the ship is still well above the water line. This is inconsistent with the reported weight of the shipment of scrap metal.
  • The cargo is examined and the discrepancy between the reported and actual weight of the shipment is detected.
  • It is assumed that the inflated value of the invoice would have been used to transfer criminal funds.

Falsely described goods and services

The quality or type of good or service can be misrepresented. For example, a relatively inexpensive good is supplied but it is invoiced as being more expensive, of different quality or even as an entirely different item so the documentation does not accurately record what is actually supplied. This technique is particularly useful in TBML using services, such as financial advice, consulting services and market research, because, in practice, it can be difficult to determine the fair market value of these services (FATF 2006).

The Eurasian Group on Combating Money Laundering and Terrorism Financing’s Working Group on Typologies (2009: 7) present an example of TBML by falsely describing goods in its 2009 report:

A consignment of underwear, produced in Turkey, was exported from the country under fictitious documents with the aim of receiving a value-added tax refund. The goods sent abroad were, in fact, nothing more than shredded cloth. It was established that the company, the recipient of the goods, had been set up to create the illusion of international sales.

Other types of trade-based money laundering

There are other types of TBML that do not fit neatly into categories of trade description fraud, such as related party transactions and the acquisition and sale of intangibles.

Related party transactions

TBML requires collusion between traders at both ends of the import/export chain, but they do not need to be linked (in the sense of ownership). Related party transactions (ie transactions between entities that are part of the same corporate or business group) can possibly make TBML easier to conduct and more difficult to detect as it is done ‘in-house’. As FATF (2006: 5) pointed out, over- or under-invoicing of goods and services requires collusion between exporter and importer:

[T]here is nothing that precludes a parent company from setting up a foreign affiliate in a jurisdiction with less rigorous money laundering controls and selling widgets to the affiliate at a ‘fair market’ price. In such a situation, the parent company could send its foreign affiliate a legitimate commercial invoice (e.g. an invoice of $2 million for 1 million widgets) and the affiliate could then resell (and ‘re-invoice’) these goods at a significantly higher or lower price to a final purchaser. In this way, the company could shift the location of its over- or under invoicing to a foreign jurisdiction where such trading discrepancies might have less risk of being detected.

Differing tax rates and government incentives encourage international organisations to move funds and assets within the group.

Although there is a higher risk of related party transactions being used for fraud and for TBML, dealings between related parties are not necessarily illegal. Transfer pricing is a related party transaction that is commonly used by international organisations as part of the group financial and tax planning strategy. Multinational organisations use transfer pricing to shift taxable income from jurisdictions with relatively high tax rates to jurisdictions with relatively low tax rates to minimise income tax. Similar strategies are also employed in relation to import duties and value added tax, for example:

a foreign parent could use internal ‘transfer prices, to overstate the value of the goods and services that it provides to its foreign affiliate in order to shift taxable income from the operations of the affiliate in a high-tax jurisdiction to its operations in a low-tax jurisdiction. Similarly, the foreign affiliate might understate the value of the goods and services that it provides the domestic parent in order to shift taxable income from its high-tax jurisdiction to the low-tax jurisdiction of its parent (FATF 2006: 2–3).

FATF (2006: 3) made it clear though that

[i]n the case of transfer pricing, the reference to over- and under-invoicing relates to the legitimate allocation of income between related parties, rather than customs fraud.

Related party transactions, including transfer pricing, rely on mutual agreement between the parties, rather than free market forces. Consequently, in Australia, related party transactions are subjected to close scrutiny especially by the Australian Tax Office.

Acquisition and sale of intangibles

To date, the focus of anti-TBML initiatives has primarily been on TBML using merchandise, but TBML using the services trade presents a much more significant challenge. Global trade in services provides greater opportunities for money laundering than trade in merchandise because fraud is more difficult to detect and prove. The intangible nature of services makes supply difficult to determine. Unlike merchandise, services are also less likely to be standard, so anomalies in value and price are less apparent and more difficult to substantiate. It is also common and lawful to include retainer and penalty payments which are payable even if the service is not actually supplied.

While trade description fraud covers most TBML, it is not used in all TBML schemes. Case Study 4 in the FATF (2006: 12) Typologies Report outlined a detected case of TBML using intangibles. This scheme involved the following steps:

  • an alternative remittance system operator in the United States wants to transfer funds to his Bangladeshi counterpart to settle an outstanding account;
  • the US operator deposits US dollars into his bank account and then wires the money to the corporate account of a large communications company to purchase telephone calling cards;
  • the personal identification numbers (PINs) of these calling cards are sent to Bangladesh and sold for cash; and
  • the cash is given to the Bangladeshi counterpart to settle the US operator’s outstanding account.

This scheme uses trade, specifically the purchase of calling cards and the subsequent sale of PINs, to avoid the scrutiny that would have been attracted by remitting the funds using the financial system. While there are (tangible) calling cards used in this case study, it highlights the sale of intangibles in TBML as the ‘thing’ that moves across borders. As the FATF (2006: 12) commentary on the case study explained:

In this case, rather than simply wiring the funds to his Bangladeshi counterpart, the US operator chose to minimise the risk of detection through the use of the international trade system. Interestingly, the operator’s scheme does not depend on fraudulently reporting the price or quantity of the goods in order to transfer the funds required to settle the outstanding account. In addition, the calling cards are not actually exported. All that is required is the cross-border transfer of the PINs (ie the sale of an ‘intangible’ good).

Trade-based money laundering risk environment

FATF has recently placed greater attention upon TBML. FATF (2006: i) considers that TBML is ‘an increasingly important money laundering and terrorist financing vulnerability’. The features of trade make it highly attractive to money launderers. The chain of supply comprises many links, including transport, insurance and finance. More links provide more opportunity to launder money. International trade also involves different legal systems, different procedures and often different languages. These differences and discrepancies in communication and exchange of information between jurisdictions, compound to make international trade fertile ground for money laundering.

Nonetheless, ‘[i]nternational trade as a means of laundering money is...a technique generally ignored by most government law enforcement agencies’ (Zdanowicz 2009: 855). Although there is increasing awareness of the use of trade for money laundering, it is only in the United States that there is a formal method of enforcement specifically for TBML, largely as a result of the work done by US ICE and BINLEA.

It is estimated by BINLEA that, globally, hundreds of billions of dollars are laundered through trade (BINLEA 2009). While the exact extent and impact of TBML is unknown, it is certainly likely that the dollar value of money laundered using trade is high, especially considering the volume and value of world trade. In 2008 for example, global merchandise exports amounted to US$15.7t (WTO 2009). However, global trade has been significantly affected by the Global Financial Crisis. According to DFAT (2010a: 4), the Global Financial Crisis ‘saw global trade flows (in volume terms) fall by 12 per cent in 2009’.

Specific risks

There are several specific areas of risk that can be exploited to facilitate TBML—barter/contra transactions, shell and front companies, and FTZs and other high-risk jurisdictions.

Contra and barter transactions

The use of contra and barter transactions presents a much more difficult problem than cash transactions. Contra and barter transactions do not involve financial institutions and are not generally subject to scrutiny and reporting requirements in the present AML/CTF regime. Like cash, these types of transactions are appealing vehicles for TBML. BINLEA (2004: 21) reported that

in some areas of the world, trade goods are bartered for other commodities of value. In regions of Pakistan and Afghanistan, illegal drugs are commonly thought of as a commodity or trade good. Law enforcement authorities have reported, for example, that the price for a kilogram of heroin in this region of the world is a color television set. There are other barter networks where narcotics in Pakistan and Afghanistan are exchanged for foodstuffs such as vegetable oils.

Shell and front companies

Both shell and front companies can be used to facilitate TBML but in different ways. A shell company has no real operating activities and is used to hide money laundering activity and the identities of individuals involved to obscure the money trail. If activity is traced to the company it is literally an empty shell. As FATF (2010: 20) explained:

TBML and other money laundering schemes rely on the ability of the perpetrator of the crime to distance themselves from the illicit proceeds. Shell companies enable illicit actors to create a network of legal entities around the world.

By contrast, a front company is a real business whose legitimate operations are used as a cover for money laundering and other criminal activity. In many ways, front companies present a much more significant TBML threat than shell companies. The UNODC (2007: 44) in its 2007 report An Assessment of Transnational Organised Crime in Central Asia explained how front companies are used for TBML in that region:

One of the most important money-laundering techniques in Central Asia is the use of front companies. These companies provide ostensibly legitimate sources of income and opportunities for trade-related laundering through false invoicing. In order to open front companies, organized criminal groups in Kazakhstan have targeted banks, casinos and businesses engaged in food processing, distilling and export trade. Casinos are particularly useful for money-laundering and there is some concern about their exploitation in both Kyrgyzstan and Kazakhstan. According to the UNDP country profile for 2002, front companies have also been widely used in Kyrgyzstan, where it is believed that illicit revenues from trading in drugs and weapons and the smuggling of alcohol and tobacco are typically transferred to front companies.

In many jurisdictions, including Australia, it is relatively easy to form a company. This ease of incorporation is driven by a desire to facilitate legitimate business. There is little, if any, scrutiny given to the individuals seeking to form a company, nor its managers and shareholders. Non-existent or low capital requirements encourage the formation of shell companies and minimal corporate reporting requirements, combined with the ability for shares to be freely traded, further encourage abuse. As one commentator recently observed:

In many places, an offshore corporation does not need to disclose the information of its shareholders, equity ratio, earnings and so on to the public. In such areas as the Cayman Islands, even the names of the shareholders can be kept as a secret...offshore companies can enjoy rather preferential local taxation policy. In a word, the characteristics of offshore companies, for example, convenient formation, free operation, tax exemption and financial secrecy, all provide rather good opportunities for tax evasion, capital flight and money laundering (He 2010: 26).

High-risk jurisdictions

A number of Australia’s major trading partners present a high TBML risk due to the volume of trade, value of the trade, the type of commodity or service traded and/or the domestic regulatory environment. Often, all these factors combine to make a jurisdiction at high risk of TBML. The People’s Republic of China, for example, presents a TBML risk on the basis of volume of trade alone. Other jurisdictions in the Asia–Pacific region are a high TBML risk because of the type of trade that passes through the border. Transhipment jurisdictions like Singapore (Australia’s fifth largest provider of imports according to DFAT (2010b)) have a higher risk of TBML and trade fraud because transhipped consignments are not inspected. A report by BINLEA (2010) advised that Singapore needed to pay greater attention to TBML and strengthen its border security. Another one of Australia’s key import providers, according to DFAT (2010b), is Japan, with the report by BINLEA (2010) also identifying the country as a potential TBML risk because of the presence of organised crime in Japan and its status as a major trading power.

Similar vulnerabilities have been identified for the US by the Financial Crimes Enforcement Network (FinCEN) from suspicious activity reports. FinCEN’s (2010: 8) report, while specifically relating to US trade, indicated the risk of TBML in relation to trade with China:

Transactions involving entities in Mexico and China were the most frequently named in SAR narratives reporting TBML activity. However, over the four year period from 2004 to 2008, TBML SAR narratives involving transactions in China continued to increase while narratives citing a connection to Mexico were beginning to decrease.

Free trade zones

FTZs are also emerging as being especially vulnerable to TBML. FATF (2010: 4) defines FTZs as ‘designated areas within countries that offer a free trade environment with a minimum level of regulation’. FinCEN has identified TBML red flags that are specific to FTZs and FTZs were the subject of a recent money laundering report by FATF (FATF 2010; FinCEN 2010). Although Australia does not have any FTZs, they are of general concern to Australia and Australian interests because FTZs are part of the international trade network.

The number of FTZs has rapidly increased and there are now approximately 3,000 FTZs in 135 countries (FATF 2010). In 2007, total exports from FTZs were estimated at US$400b (FATF 2010). While FTZs have existed throughout the twentieth century, the globalisation of the world economy over the last few decades has seen an expansion in the number of FTZs. But FATF (2010: 3) has also observed that the liberalisation of trade barriers in the FTZs has made them ‘highly attractive for illicit actors who take advantage of this relaxed oversight to launder the proceeds of crime and finance terrorism’.

In its report, FATF (2010: 16) noted that

[m]ost zone authorities operate separate company formation services from those that exist in the rest of the jurisdiction and market the ease of setting up a legal entity in an FTZ to attract business. Many zone authorities request little or no ownership information of the companies interested in setting up in the zone. As a result, it is simpler for legal entities to set up FTZs and hide the name(s) of the true beneficial owners.

This lack of transparency has allowed companies located in FTZs to create layers of transactions that are difficult (if not impossible) for law enforcement agencies to follow (FATF 2010).

Significantly, FATF (2010: 16) reported that ‘goods introduced in a FTZ are generally not subject to the usual customs controls, with goods undergoing ‘various economic operations, such as transhipment, assembly, manufacturing, processing, warehousing, re-packaging and re-labelling as well as storage for timely marketing, delivery and transhipment’. In particular, FATF observed that ‘repackaging in FTZs is one of the tools used by criminals to cut the links with the real country of origin or destination’ (FATF 2010: 17).

FTZs also compound the money laundering risk of other practices, notably the use of cash. Cash and bearer negotiable instruments present particular money laundering/terrorist financing risks because of their portability and lack of an audit trail. As FATF (2010: 15) pointed out, cash is also easy to use in trade transactions in FTZ—‘integration of cash into a jurisdiction’s financial system is often facilitated by the presence of financial institutions in the zones’. FATF (2010: 15) further reported that

[even] if banks outside of the FTZs are involved in the trade transactions, they are less able to manage [money laundering/terrorism financing] risks because of the other vulnerabilities of the zones (opaqueness and relaxed oversight).

In its 2010 report, FinCEN (2010: 4) signalled that a number of

red flags seen in conjunction with shipments of high dollar merchandise (such as electronics, auto parts and precious metals and gems) to duty free trade zones, such as in the Colon Free Trade Zone in Panama, could be an indication of a trade-based money laundering activity.

These include:

  • third-party payments for goods or services made by an intermediary (either an individual or an entity) apparently unrelated to the seller or purchaser of goods. This may be done to obscure the true origin of the funds;
  • amended letters of credit without reasonable justification;
  • a customer’s inability to produce appropriate documentation (ie invoices) to support a requested transaction; and
  • significant discrepancies between the descriptions of the goods on the transport document (ie bill of lading), the invoice, or other documents (ie certificate of origin, packing list etc) (FinCEN 2010).

FTZs should be clearly distinguished from Free Trade Agreements (FTAs). While Australia does not currently have any FTZs, it does have FTAs including the agreement establishing the Australia–New Zealand Free Trade Area and FTAs with New Zealand, Chile, Singapore, Thailand and the United States. Australia is also negotiating FTAs with China, Japan, Malaysia, the Republic of Korea, the Gulf Cooperation Council and the Trans Pacific Partnership (DFAT 2010a). The primary purpose of an FTA is to increase competition by reducing or removing barriers to trade, particularly tariffs. FTAs also address restrictions, such as quotas and other measures, taken by countries to protect their domestic markets from foreign competition. However, goods from countries that have FTAs with Australia are still subject to inspection. This means that the TBML risk for Australia is lower than for countries in FTZs, with an economic benefit from the FTA, but the physical cargo still being scrutinised under Australia’s customs and border protection guidelines.

Difficulties associated with evaluating trade-based money laundering risks

Information is the foundation of an effective AML/CTF strategy. With current AML/CTF programs, information provided by law enforcement agencies, international research and typologies and financial intelligence units (such as AUSTRAC) forms the basis of much of the analysis of money laundering in all its forms, which can include TBML. Information influences the design and implementation of the money laundering programs and the programs’ effectiveness in addressing money laundering. Consequently, the type and quality of information provided by reporting entities influences the accuracy of money laundering analysis. Analysis is used to tailor national and international programs and to fine-tune management of money laundering risk at reporting entity level, as well as for any intelligence unit in monitoring and investigating money laundering activity. However, there are several factors, as described below, which pose difficulties for gathering and analysing information about TBML.

Limited case study knowledge

There is concern about the relevance of the some of the information which is collected under the present AML/CTF schemes. As Geary (2009: 218) wrote:

It has been suggested that up-to-date, relevant ML information is not readily and promptly available to entities under the present AML/CTF regime...something more by way of information is needed to design useful controls to avoid the two evils of either being a merely compliant AML/CTF program or, alternatively, a business-stopping AML/CTF program. And this information needs to be current information about [money laundering]—its extent and mode within the business sector of the regulated entity as it is occurring in real time, in all of its chaos and randomness.

FATF (2008b: 5), in its 2008 report entitled Money Laundering & Terrorist Financing Risk Strategies concluded that

the best risk assessment methodology uses a combination of approaches in order to capture all that is known and as much as possible about what is not known.

The report specifically referred to retrospective risk assessments, namely, risk assessments that draw on data from the past to help anticipate future problems, as well as prospective risk assessments that anticipate future developments. For the most part, however, money laundering risk is assessed on the basis of retrospective information, particularly known case studies and typologies, rather than anticipated, hypothetical scenarios. Information about money laundering methods and schemes is generally made available to regulated entities in the form of sanitised cases and typologies, which are disseminated primarily through business/industry conferences and seminars.

The use of sanitised typologies and sanitised case studies is driven by confidentiality and privacy obligations, and concerns by regulatory authorities not to tip off criminals that their operations are being scrutinised. These are legitimate concerns and precautions are clearly necessary. However, as a consequence, the information available to reporting entities, which influences their risk assessment, is often not current, nor is it sufficiently specific to the business of the recipient reporting entities. Potentially, this reduces the effectiveness of the design and implementation of an entity’s risk-based program. Ultimately, it impacts on the overall effectiveness of the national and international AML/CTF regime.

Economic profiling and statistical modelling

As is the case for reporting entities, typologies and case studies also provide limited information to TBML intelligence units. Typologies and case studies tell investigators how and where money laundering takes place and may also provide information about the identity of the money launderer and their motive and objective. However, even detailed information about a particular case or typology can provide only limited information about money laundering and TBML from a macro perspective.

While typologies and case studies add to an understanding about the behaviour of money launderers, it is unclear to what extent specific case information is representative of TBML activity. What percent of total money laundering cases do the known cases and typologies account for? Are the known features of TBML still current and most importantly, are those known features typical or atypical?

While these questions may never be definitively known, economic and statistical modelling has attempted to answer these questions. Economic profiling has also attempted to predict the likely development of TBML. The use of statistical modelling and economic profiling as descriptive and predictive tools for money laundering (particularly for TBML) is currently an under-researched but emerging research area, which requires further development. It should be acknowledged, however, as is the case for case studies and typologies, statistical modelling and economic profiling have their own set of limitations.

By way of background, Unger (2009: 808) pointed out:

[i]n academia, money laundering is still an unexplored field, in particular in economics. So far, the economics of crime has not devoted much attention to financial crime. And the economics of finance has not dealt with criminal behavior. Cooperation with other disciplines such as law, criminology and anthropology, and with international organizations and practitioners of crime enforcement remains almost absent in this area.

Nevertheless, there are three new methods to estimate the amount of money laundering globally, which Unger (2009: 812) has described as ‘promising’. The three recent methods are the gravity model (Walker & Unger 2009), statistical analysis of unusual trade data (Zdanowicz 2009); and the dynamic equilibrium model (Bagella, Busato & Argentiero 2009).

The Walker and Unger (2009) gravity model is based on international trade theory. According to Walker and Unger (2009: 821), if the scale of money laundering is known, this model can be used to calculate ‘its macroeconomic effects and the impact of crime prevention, regulation and law enforcement effects on money laundering and transnational crime can also be measured’. However, this relies upon the scale of money laundering being known, which it is not.

Zdanowicz (2009) used economic analysis of US trade data, produced by the US Commerce Department of the Census Bureau, to identify suspicious trading countries and suspicious trade. The data were used to develop indices for TBML risk, based on country and on the item traded, according to both weight and price, and hence to identify the country and trade that sat outside normal parameters. Zdanowicz’s (2009) method assumed that prices and weights were normally distributed and that unusual prices (which may be legitimate) indicated money laundering. However, Unger (2009: 813) noted that a ‘still-unresolved weakness of the model’ was that 10 percent of all transactions consistently came out as suspicious, irrespective of price fluctuations.

The third model uses economic theory to determine how a rational money launderer will act. This theoretical model was developed by economists Bagella, Busato and Argentiero (2009) to estimate money laundering in Italy. They have since applied the model to the United States and to the EU-15 countries. The model forecasts the development of the legal and the illegal sectors of the economy.

The model’s legal sector can be compared to the development of the actual gross domestic product of a country, so the accuracy of the model in predicting the observable part of the economy can be assessed. The theoretical finding for the illegal sector indicates the extent of money laundering. This model is considered promising in predicting rational money laundering behaviour but it relies on liquidity as a predictor and does not take interest rates into account. Its usefulness is therefore currently limited, especially as a predictor of money laundering emanating from Australia, although it may provide an indication of the growth of the illegal economy in countries which trade with Australia.

McSkimming (2010) has noted, using Unger’s work among others, that statistical modelling on money laundering, particularly TBML, is based on several assumptions and is limited in what it can tell us about TBML patterns and frequency. This also affects how countries prepare for dealing with TBML. As McSkimming (2010: 57) wrote:

There is little reliable data on the volume of capital that is laundered...which of course, makes estimating its effects almost impossible, Within this context, it is not possible to convincingly demonstrate the effects of money laundering generally, let alone the particular effect of [trade-based money laundering/terrorism financing] TBML/TF. This, in turn, makes responding proportionally to the TBML/TF threat very difficult.

This discussion has sought to clearly define TBML and to distinguish it from other forms of money laundering, while acknowledging that in practice, these forms of money laundering may overlap or both may be employed at once. TBML often involves a complex series of transactions and operations to ensure that the value of what is being traded is concealed or obfuscated; thus, a clearer understanding of TBML and its associated typologies is helpful for those who seek to combat the crime.

Risks of TBML arise from several sources. First there is the barter trade, where goods are traded instead of money (which makes the origin and flow of these goods difficult to trace) and can be used for laundering and terrorism financing. Second, there is the use of shell and front companies that can be used to make fraudulent imports and exports. Third, TBML operates most effectively where there is a limited chance of the goods being inspected and placed under scrutiny. For these reasons, FTZs and places where there are lax borders provide opportunities for TBML that can be exploited.

This understanding of TBML is primarily sourced from a combination of publicly available case studies and statistical modelling, and some of the limitations that researchers and other interested parties come across in trying to determine occurrences of TBML have been highlighted. These include a lack of publicly accessible material on TBML typologies and awareness of TBML as a distinct form of money laundering. It is evident from the available literature than there needs to be an emphasis on further research on TBML typologies and risks across the globe. Specifically, there would appear to be a need for a more fine grained approach to researching TBML, which focuses on identifying the key features of a trading relationship that facilitates this form of money laundering and that identifies the vulnerabilities in the TBML system that might be exploited by law enforcement agencies.

Last updated
3 November 2017