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Fraud and corruption in the EU: top four cases in recent times

Source: © CasimiroPT/shutterstock.com

Fraud is obviously not only an issue for governments. Taking four recent cases as examples, Camilla Barlyng, who has studied fraud-related issues and is currently doing a traineeship at the ECA, has been looking into fraud in the private sector in Europe. The selected cases represents different types of fraud and involve various political, financial and business actors from across the continent.

By Camilla Barlyng, Directorate of the Presidency

Fraud — not only an issue for governments

There are many reasons for persistence in the fight against fraud and corruption. They undermine democracy and cost a lot of money — ranging between 179 and 990 billion euros per year for the EU alone. But apart from this, and perhaps even worse, fraud erodes public trust. Robust and effective oversight mechanisms are a government’s main weapon against fraud, but sometimes, unfortunately, weaknesses in these mechanisms can also be the cause of fraud.

Detecting and properly sanctioning these wrongdoings is not an easy task, as every measure put in place to tackle and prevent fraudulent activities might create new loopholes. To make matters worse, globalisation adds to this complexity, for example because of difficult cross-border litigation.

Fraud is not only an issue for governments and the public sector. It affects a broad range of industries, comes in many shades and can involve many different actors. Below I focused on four different cases, known to the general public for reasons of size, characteristics, political consequences or direct impact on people’s lives.

Case 1: Danske Bank and Nordea

According to Transparency International, Denmark is one of the least corrupt countries in the world. It has gained international recognition for its outstanding governability, healthy economy and high living standards. Surveys show that Danes are among the happiest people in the world, something experts like to attribute to a ‘secret’ ingredient: trust. For these reasons Denmark is probably not the first country that springs to mind when you think about fraud. Even so, the country has faced a series of money-laundering scandals within its banking system in recent years, suggesting weaknesses in the Danish oversight mechanisms.

Since 2015, two big Scandinavian banks, Danske Bank and Nordea, have been mentioned in connection with national and international investigations into illegal transactions. Allegedly, the banks were involved in different international money laundering schemes that systematically overlooked suspicious payments in specific Danish and Estonian branches. Knowing your customer was an important issue and a moving target.

Up to this time, some €200 billion in payments had flowed through the non-resident portfolio of Danske Bank’s Estonian branch between 2007 and 2015. In the case of Nordea, the Financial Times estimates that around €700 million in suspicious money flowed from Russia and former Soviet states through the bank from 2005 to 2017. In terms of effectively managing the anti-money laundering risks, both banks seem to have made some serious mistakes.

One key problem: who was responsible for external supervision? While Danske Bank is Danish, the suspicious activities occurred in the bank’s Estonian branch and that context differs significantly from the Danish one. Thus, it was not clear to either the Danish or the Estonian banking supervision authorities who would or should report the detected inconsistencies to agencies with sanctioning power. The cross-border nature of the case limited cooperation and distorted oversight mechanisms, which blurred the question of final responsibility.

A similar logic applies in the case of Nordea, which does business in Denmark, Sweden and Finland. The challenge posed by cross-border supervision increased when Nordea reorganised from a subsidiary structure into a branch structure, after which it moved its legal headquarters from Sweden to Finland, a member of the European banking union, in 2018. The main problem in these situations is that it only takes money launderers a couple of seconds to complete transactions through banks in multiple countries, while it takes law enforcement years or even decades to unravel the money flow and adjust legislation accordingly.

In reaction to the scandals and the announcement of a general election, Danish lawmakers have recently agreed to strengthen financial crime fighting efforts by granting the Danish financial supervisory authority (FSA) more resources. Danske Bank and Nordea have felt the distrust of investors and customers. Shares have fallen and customers have left.

Case 2: Operation Marques

In 2014, Portugal was startled by an international scheme of influence peddling, embezzlement, tax evasion, illegal campaign funds and corruption involving actors from all walks of life and sectors of society in mainly Portugal and Brazil. The scheme revolved around public officials, up to the highest level of government, rewarding construction companies with state tender contracts, and around the selling, buying and merging of state/privately-owned telecommunication companies. A big Portuguese financial institution funnelled and laundered money from Portugal and Brazil, which eventually led to the collapse of the bank in question, Banco Espirito Santo (BES). Millions of clients were left penniless and the popular saying: ‘follow the money’ led investigators to European, Latin American and African countries.

Another important aspect of the scandal was that it occurred in the context of the Portuguese economic crisis. In practice, it is widely recognised that there were major failures in management and supervision of financial institutions, topped with a slow, costly and unpredictable justice system. As a response to the crisis, Portugal’s bailout conditions included numerous reforms of the justice system and the central bank of Portugal. Nevertheless, these measures did not prevent the collapse of several banks in 2014 and 2015, nor did it effectively reduce legal and judicial bottlenecks.

In sum, the economic and societal effects brought about by the scandal have been extensive, especially regarding the financial losses of private stakeholders. The collapse of the BES is estimated to have drained the Portuguese state of more than €5 billion and the cost continues to increase.

Case 3: Cum-Ex Tax Scandal

Are people that take advantage of loopholes in the legal framework criminals or clever individuals that care little about social responsibility? This is one of the main questions that haunt investigators in what has been labelled the biggest tax robbery in European history.

Dividend stripping is a short-term trading practice, employed to gain tax advantages. The investor buys a stock shortly before a dividend has been declared with the intention of selling it immediately after the dividend is paid.

The tax rebates scheme involved private stakeholders, banks, accountancy firms, financial houses and law firms across the European Union and the United States. The aim of the scheme was to mislead governments: ‘into thinking a stock had multiple owners on its dividend payday who were each owed a dividend and a tax credit.’ Thus, by exploiting an interpretation of the tax code, multiple people were able to claim ownership of the same shares and thereby the right to a tax rebate. A key element in the fraudulent trading activities was that those involved took advantage of cross-border tax loopholes and shortcomings in the current systems of information exchange and cooperation between EU Member State authorities in the fields of taxation and financial crime. Whereas the German Government had reportedly been aware of the dividend arbitrage trading schemes for years, it only informed other Member States in 2015. Similarly, Danish tax authorities failed to act on numerous warnings that the tax refund procedures were being exploited.

A central problem here is that tax laws have become very complex. In 2016, Correctiv, a German non-profit investigative journalism group, started to gather evidence and unravel the puzzle of this cross-border tax plundering. Since then, governments have launched investigations into the practices of illicit tax refunds and are filing criminal investigations against alleged perpetrators. The problem is that many of these are hiding in third countries outside of the EU. In the meantime, another type of tax dodge, known as dividend stripping (cum-cum) emerged, stripping governments of even more taxpayer’s money.

According to experts, for example Jacques de Larosière, Chairman of the High-Level Group on Financial Supervision in the EU, EU Member States clearly need to step up their game against illicit financial actives through a collective front that facilitates cross-border information sharing and prosecution. While the actors involved, especially banks, have felt reputational damage, politicians have steered free of responsibility. It is estimated that the Cum-Ex scheme alone has swindled Europe’s taxpayers of a whopping €55 billion.

Case 4: Dieselgate

In September 2015, the United States Environmental Protection Agency (EPA) found that the German car giant, Volkswagen (VW), had deliberately manipulated diesel emission tests in approximately eleven million cars worldwide, among these 500 000 in the United States. For years VW had been installing an illegal software in its car models to allow the vehicles to perform better in test conditions than they actually did on the road. Without the ‘defeat device’ the engines emitted nitrogen oxide pollutants up to 40 times above what was legal in the US. By doing so, VW systematically inflated financial gains at the expense of the environment and public health.

As emphasised in the ECA’s briefing paper The EU’s Response to the “Dieselgate” Scandal (February, 2019), the European Commission’s Joint Research Centre (JRC) warned in 2011 about significant inconsistencies between vehicle NOx emissions under test conditions and those observed on the road. Even though the Commission launched investigations into ways to address the issue, the problem remained unsolved, as the testing of cars continued to have several flaws and loopholes . As regards compensation, the EU’s fragmented system of regulation makes it unlikely that consumers in the EU will manage to achieve similar compensation packages to those negotiated for VW’s American customers. Fortunately, however, the European Parliament is currently looking into new rules to help consumers join forces to seek compensation against unlawful practices committed by companies, since other car makers were also found to have installed dubious software to adapt to testing conditions.

In 2018, VW agreed to pay more than €1 billion in fines in Germany and in the Netherlands for obtaining unfair economic advantages. The exposure damaged VW’s reputation among consumers and investors and the political and economic consequences of the scandal for Germany‘s flagship manufacturing industry were significant.

Looking Ahead

Fraud also remains a problem in the private sector, as illustrated by the examples above. The selected cases are also interesting as they indicate that the banking and financial industries are likely to be the most affected. After all, fraud is a typical ‘white collar’ crime. Finally, globalisation plays a role, with deregulation in banking and finance offering countless new possibilities for fraudsters. A recurrent concern is that, while crime does not stop at borders, regulation, auditing and prosecution are limited by borders and by national regulations, rules and administrative arrangements.

Hence, compliance with social, economic and environmental rules and norms continues to be a moving target for all actors in society. Even though, the mechanisms put in place to detect and prevent financial crimes may not be enough, the cases that surfaced show that they are at least working to some extent. Enhanced international cooperation is needed to strengthen the fight against fraud and corruption.

This article was first published on the 2/2019 issue of the ECA Journal. The contents of the interviews and the articles are the sole responsibility of the interviewees and authors and do not necessarily reflect the opinion of the European Court of Auditors.

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