A New Risk-Based Approach to Measuring Illicit Financial Flows Vulnerability

This study seeks to measure Illicit Financial Flows (IFF) in Africa using a new risk-based method. Adopting the risk-based approach developed by the United Nations Economic Commission of Africa (UNECA) this study proposes a new IFF vulnerability index composed of variables of corruption, private sector development, transparency, financial secrecy, trade openness, regulatory and institutional quality. The novelty of this risk-based approach hinges on the fact that this approach focuses on outflows of extractive exports and not on aggregate inflows and outflows, making this study more streamlines and focused on the component of trade flows that pose the greatest risk to developing economies. More so, the index used to weight the trade flows in this study is composed of variables of rule of law, regulatory efficiency, government size and open markets which are known to undermine transparency in developing countries as against that of previous studies which focus largely on the financial secrecy scores of destination countries. The study used data from 51 African countries covering the years 2000 to 2020. This new vulnerability index was used to measure the exposure of African countries to IFF. The results show that a combination of the intensity of trade (export of extractives) and institutional quality indicators determine how vulnerable African countries are to IFF. Additionally, countries with large endowments of mineral resources like Libya, Algeria, Nigeria, and Congo DR tend to be at high risk of IFF. Also, for countries that are not as endowed with mineral resources as the ones earlier mentioned, their low scores with respect to economic and institutional quality still make them highly susceptible to IFF. The study therefore recommends that IFF vunerability assessments should be widely included in the analysis of the scale of IFF. More so, variables should be broadened to include country-specific determinants to curb the overreliance on secrecy scores as done in previous studies.