Bank secrecy, illicit money and offshore financial centers

This paper discusses the effects of pressure policies on offshore financial centers as well as their ability to enforce the compliance of those centers with anti-money laundering regulations. Offshore banks can be encouraged to comply with rigorous monitoring of an investor's identity and the origin of his/her funds when pressure creates a sufficiently high risk of reputational harm to the investor. We show that such pressure policies harm both offshore and onshore investors and can benefit both the bank industry and tax administrations. We show that social optimal pressure policies are dichotomous decisions between no pressure at all and a pressure great enough to persuade offshore banks to comply. The delegation of pressure policies to onshore tax institutions may be inefficient. Deeper financial integration fosters compliance by the offshore center.

Research Highlights► Offshore financial centers and their customers are subject to international pressure policies that aim at enticing those centers to implement a know-your-customer policy and eliminate money laundering. ► Those pressure policies however harm both investors in the offshore and onshore financial centers but benefit both the onshore bank industry and tax administrations. ► The delegation of pressure policies to onshore tax institutions may result in an inefficient policy that does not fully eliminate money laundering. ► However, deeper financial integration fosters compliance by the offshore center to the know-your-customer policy.