By Dev Kar, September 30, 2009
Illicit financial flows exit developing countries through two broad channels—as unrecorded capital flows from a country’s external accounts (captured by the World Bank Residual model) and trade mispricing (captured by the Direction of Trade statistics or DOTS model). GFI’s study Illicit Financial Flows from Developing Countries: 2002-2006 points out that some researchers have questioned the use of the trade mispricing model to capture illicit flows. They argue that data issues underlying the recording of partner country exports and imports introduce enough “noise” so that the trade mispricing model is unable to capture illicit flows. I was therefore not surprised to hear cynical remarks about the quality of bilateral trade statistics at a recent World Bank conference (Understanding the dynamics of the flows of illicit funds from developing countries, September 14-15). Here, I point out the reasons why most economists reject such arguments for not studying trade mispricing as a conduit for illicit financial flows from developing countries.