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Comprehensive Study of Offshore Financial Centers and Their Effects on Global EconomyDissertation

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¶ … Offshore Financial Centres and Their Effects on Global Economy

The past 3 decades or so have witnessed the proliferation of offshore financial centres that have drawn both criticism and praise for their cumulative effect on the global economy. These offshore financial networks included 36 jurisdictions by the end of the 1970s that involved three main types of geographical locations, inland enclave states, coastal enclave states and island states. The enclave states have established a global pattern of so-called satellite clusters that are compatible with four main business time zones with linkages to the major global and regional capital markets. The Western Hemisphere is generally served through the New York epicenter by the Caribbean and the Central American Basin; European enclaves, coastal enclaves and independent islands are included in the London epicenter; the Asian-Pacific region and Oceania are served within the Tokyo time zone by Hong Kong, Singapore, Vanuatu and Nauru and the final cluster is comprised of Persian Gulf jurisdictions providing service to Middle Eastern oil countries. Although official definitions vary, at the basic level, offshore financial centres provide financial services by banks and other agents to non-residents including the borrowing of money from non-residents and lending to non-residents. This can take the form of lending to corporates and other financial institutions, funded by liabilities to offices of the lending bank elsewhere, or to market participants. Although most of the financial services provided by offshore financial centres are legitimate, the tax advantages, privacy, lower banking costs and more relaxed regulatory systems that characterize offshore financial centres have also been exploited by organized crime and terrorist organizations. The purpose of this study was to provide a comprehensive and critical review of the relevant literature concerning offshore financial centres and their effect on the global economy, guided by the research question, "Is the demand for financial services going to increase or decrease the importance of offshore financial centres in the global financial market?" A summary of the study's findings and relevant conclusions are presented in the study's concluding chapter.

Contents

Chapter 1: Introduction

Statement of the Problem

Purpose of Study

Research Questions

Importance of Study

Scope of Study

Rationale of Study

Overview of Study

Definition of Key Terms

Chapter 2: Review of Related Literature

Chapter 3: Analysis and Discussion

Chapter 5: Summary and Conclusions

A Comprehensive Study of Offshore Financial Centres and Their Effects on Global Economy

Only the little people pay taxes. -- Leona Helmsley, 1989

Chapter 1: Introduction

Critics of offshore financial centres would likely suggest that the epigraph above indicates that Ms. Helmsley would have made a good "poster child" for the offshore financial services industry, while proponents would likely counter that the global economy absolutely needs such offshore financial services in order to grow. Despite the controversy and a modest reduction in the total number of offshore financial centres following the passage of the U.S.A. PATRIOT Act, there has been overall continued growth in the offshore financial services sector since 1936 that has resulted in hundreds of offshore financial centres (OFCs) being concentrated in several geographic regions of the world. These OFCs are typically located in small, low-tax jurisdictions that specialize in the provision of corporate and commercial services to non-resident customers (Suss & Williams 2002). The growth in offshore financial centres has been due in large part to several of the same reasons around the world. These centres feature specific tax advantages, enhanced privacy, lower banking costs and more relaxed regulatory systems than their onshore counterparts (Masciandaro 2004). According to an analysis conducted by KPMG (2010), one of the largest professional services firms in the world and one of the Big Four auditors, although they continue to focus on the same types of financial services, offshore financial centres must remain sufficiently flexible and agile to respond to rapidly changing conditions in the global economy.

Based on the evidence to date, offshore financial centres appear to be increasing in popularity for many of the same reasons (Offshore Financial Centres 2008). For example, offshore financial centres provide a viable alternative for banks that are competing in regions of the world where the emerging market economics are highly regulated, for example. A good indication of this can be seen in the amount of cross-border assets being exchanged through offshore financial centres (Offshore Financial Centres 2008). Besides the U.K. And the low countries of Belgium-Luxembourg (but including the Netherlands), total transnational exchanges with emerging countries increased from 58.5% in 1991 to a record of 67% in 1997 and as of year-end June 1999, receded to about 56% (Offshore Financial Centres 2008). This significant reduction in emerging economy exchanges may be attributable to a wave if consolidations that occurred in the Japanese banking systems during the late 20th century, together with the Asian monetary crisis that occurred shortly thereafter, resulting in a sharp decline in offshore financial services activity in Hong Kong (Offshore Financial Centres 2000). Since that time, the industry has experienced consistent growth in terms of the number of such centres as well as the amount of money that passes through them to the point where more than half of the global monetary supplies are handled at some point by offshore financial centres, an issue that directly relates to the problem examined by this study which is discussed further below.

Statement of the Problem

One of the recurring themes that quickly emerges from a review of the literature concerning offshore financial centres is their dual-edged qualities. On the one hand, offshore financial centres have been demonstrated time and again to be an essential component in successful multinational corporate business by facilitating financing and insurance requirements, as well as mitigating risk and by providing the foreign exchange services required between banks and commercial customers (Rose 2006). On the other hand, the same attributes that make offshore financial centres attractive for legitimate businesses are also highly attractive to organized criminal and terrorist organizations. Indeed, in popular context, offshore financial centres have become virtually synonymous with money laundering and tax evasion, and for good reason. Offshore financial centres have been exploited by these criminal groups with the assistance of collusion from some unscrupulous banking officials in ways that make their detection difficult or impossible, and regulating this industry has been challenging to say the least. In response to the illegal activities that have characterized the offshore financial services sector in the past, a wide range of initiatives sponsored by the international community have been implemented in recent years, including an OECD initiative designed to address the effects of harmful tax competition, the G7's Financial Action Task Force and the FSF, UNODC, the EU and international Non-Governmental Organisations (NGOs) (Rose 2006). These and other regulatory and law enforcement agencies around the world are actively involved in searching for better ways of monitoring and regulating the offshore financial services sector to identify criminal activity and reduce the prevalence of these practices in the future (Dwyer 2009). By and large, the overwhelming majority of offshore financial centres have been compliant with these initiatives and have implemented the OECD program targeting harmful tax practices (Dwyler 2009). Notwithstanding the increased costs of doing business represented by compliance with these initiatives (not to mention the lost illicit revenues that have been attained in the past), these trends in increased oversight are expected to continue to response to corresponding growth in the offshore financial services sector (Dwyer 2009). Although it might be possible to improve domestic tax receipts through the elimination of offshore financial centres, the impact on the global corporate community would be more than offset any gains realized through such a draconian measure (Dwyer 2009). Therefore, identifying the specific impacts that offshore financial centres have on the global economy represents a timely and important enterprise, a need that directly relates to the purpose of the study which is described below.

Purpose of Study

The overarching purpose of this study was to deliver a comprehensive and critical review of the relevant literature concerning offshore financial centres and their effect on the global economy. In support of this purpose, the study was guided by the research question below.

Research Question

Despite international restrictions on some of the offshore businesses, the research question that will guided this study was, "Is the demand for financial services going to increase or decrease the importance of offshore financial centres in the global financial market?"

Importance of Study

This type of study is important for a number of reasons. For instance, a 2008 updated report from the IMF emphasized that, "In recent years, there has been increased recognition of the need to improve understanding of the activities of offshore financial centers. Some offshore financial centres have captured a significant part of global financial flows, and their linkages with other financial centers creates the potential for their activities to affect financial stability in many countries" (Offshore financial centres: IMF Staff Assessments 2008, p. 1). Indeed, by definition, offshore financial centres are popular with the international banking community specifically because there are fewer restrictions involved,… [END OF PREVIEW]

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