Global Policy Forum

By Phar Kim Beng

Capitalism is known to be a good wealth generator. Edward Luttwark, a noted political scientist at Johns Hopkins University, quaintly called it turbo-capitalism. His rationale? Once properly charged, capitalism can dismantle many old industries, while at the same time produce new ones, a cycle of creative destruction.

At the height of the Asian financial crisis five years ago, when free-market capitalism went literally haywire, blame was not placed on the market mechanism nor its ideological trajectory. Rather, pundits of all stripes pointed to corruption and lack of accountability as the root cause of the systemic failure. In the post-Enron period, many continue to affirm that in the global age, commercial entities could only succeed when more information is divulged. Capitalism works best when balance sheets are not cooked. The calls for greater transparency, thus, amount to the need to create a see-through, glass-like company that can live up to public expectation and scrutiny.

Be that as it may, in the lucrative world of private banking, this sector remains oblivious to this need. In fact, there are legal institutional factors that do not permit firms engaged in private banking to do what globalization expects: make financial information available to all and sundry. To this date, highly secretive private banking continues to be the world's biggest business. According to a report released by Gemini Consulting and Private Banker International, the amount of money deposited in the world's private institutions - currently numbering 4,000 - has increased steadily over the past decade. In 1986, the amount was said to be US$4.3 trillion. A decade later, the figure has more than doubled to $10 trillion. In year 2000 alone, the figure hit $13.6 trillion, and is currently still growing at a rate of 30 percent per year. To be sure, if private banking can serve as a corral for safe and clean banking, then all would be well. The specter of money laundering would be absent. But it is not.

However, private banking is susceptible to abuse. Indeed, due to the institutional incentives for greater discretion, private banking runs the full gamut of services that are not liable to disclosure; not unless confronted with legal orders, which are not easy to obtain. A case in point is Switzerland, the haven of private banking. In the so-called Due Diligence Convention signed by the Swiss National Bank and Swiss Bankers Association in 1977, the banks agreed not to open any account or deposit without first establishing the identity of the potential client. The convention also agreed not to provide any active assistance in capital flight or tax fraud. In other words, Swiss banks agreed not to help others fleece their own countries or engage in criminal activities. However, to the extent that the private banks do not ask and the clients do not tell, the assumption of innocence is also maintained. Furthermore, Swiss lawyers may, for reasons of professional secrecy, withhold the name of the person they represent. This itself constitutes a serious loophole.

In the United States, the federal government is wary of what private banking can do. Currently, the Federal Reserve System, three congressional committees, the General Accounting Office, the Comptroller of Currency, the Treasury Department and the US Attorney's Office for the Southern District of New York are all investigating just how private banking works. In light of the attempt to stop money laundering from reaching active or would-be terrorists after September 11, 2001, their efforts have been intensified. But the review has not been effective. The original rationale of the US scrutiny remain guided by attempts to find out how private banking serves the wealthy clients in the United States, not those abroad. Indeed, a parallel goal of the comprehensive review is to find out what sort of safeguards could be put in place to keep private banking in the US from facilitating, even inadvertently, the designs of tax cheats and drug lords.

Tax non-compliance of all sorts costs the US Treasury $300 billion each year, of which it then seeks to recover some $50 billion. It is estimated that in the US an average taxpayer had to put up $2,000 to cover that shortfall. And the problem goes beyond the US alone. Of all the ways to cheat on taxes, one of the fastest-growing methods, according to a recent United Nations report, is the transfer of money into foreign accounts and front companies in so-called haven countries such as Switzerland and the Cayman Islands. These are places with strong private banking. When one considers the gargantuan size of private banking, the problem of supervision seems endless. In Switzerland alone, its 400 banks manage close to $2 trillion, or one-third of the world's wealth that resides outside its country of origin. It also boasts what are, by far, the two largest private banks in the world: Union Bank of Switzerland, with close to $600 billion in private-banking assets, and Credit Suisse, with $295 billion.

Given the increasing competition for a share of lucrative private banking, estimated at $17 trillion, it remains a question if these banks can retain their integrity at all times. In fact, there is now an emerging consensus in the banking world that, in order for top banks to stay lean, they must beef up their private banking portfolio. Citibank, Chase Manhattan and Merrill Lynch are currently managing $100 billion each. In the race to the top, they have pulled no punches. While one should not ascribe nefarious motives to the entire sector of private banking which is often staffed by highly qualified bankers, lapses have, and do, occur. When Amy Elliot of Citibank helped Raul Salinas, the brother of deposed president Carlos Salinas of Mexico, move some $100 million into "untraceable" offshore accounts, alarm bells went off. The Salinas case was a sign that things could go wrong within the cozy world of private banking.

Historically, private banking has had few qualms about its clientele's background. In 1796, Napoleon Bonaparte's army was bankrolled by Darier Hentsch, one of the oldest private banks, which still handles $35 billion. During the Cold War, dictators and corrupt leaders made Swiss and other European private banks their regular ports of call. The Soviet and Chinese governments did not dare to deposit in US banks nor in US dollars, for fear of having their assets seized.

To the extent wealth is generated, either in legal and illegal forms, private banking would be around to cater to high-net-worth individuals. High-net-worth individuals have liquid wealth that exceeds $1 million. In serving the rich and powerful, there is obviously the risk that private banking would serve the unscrupulous. Thus, as globalization intensifies, private banking remains the one isolated area that is still untouched. It will probably remain so.

This is why Switzerland for one has not shown much interest in being a member of European Union. Nor do small countries such as the Bahamas want to be a part of North American Free Trade Agreement (NAFTA). Their banking businesses are too lucrative to be subject to any institutional or legal scrutiny. Given its potential for abuse, it is high time that the world kept a keen watch on the sector of private banking. The goal is to keep it from spinning into a morass of deceit, as is the risk with anything done in secrecy. This includes creating strong laws to deter illicit money from having a place to incubate any returns at all.

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