Treasure Islands: Dirty Money, Tax Havens and the Men Who Stole Your Cash

by Nicholas Shaxson

  The UK Treasury put together a working party whose report in 1971 said Britain should, in effect, stop encouraging tax havenry in its overseas territories. A worried confidential memorandum from the British Foreign Office in 197312 shares some of the same concern: “The Cayman Islands set up as a tax haven in 1967 and passed appropriate legislation which went considerably beyond what the UK Treasury was prepared to wear.” One particularly significant Caymans bill, it noted, had quietly passed into law after an unnamed desk officer had failed, through an “administrative error,” to submit the new Cayman legislation to London for consent. The effect of this, the memorandum continued, had been to drive a wedge through the Treasury’s carefully constructed defenses against abuse of tax havenry. Britain later patched the holes in its own tax code as best it could, the memorandum notes—leaving, of course, elites in the United States, Latin America, and the rest of the world free to take advantage of the Caymans’ offshore facilities. Despite the warning, however, nothing was done.

  Further research in the archives, however, reveals something rather more deliberate than a supposed “administrative error” in the construction of the Cayman Islands as one of the world’s most important tax havens. A letter from the Bank of England dated April 11, 1969, marked “SECRET,” gives us a better sense of the real forces driving the changes.13 It shows several things.

  First, despite Britain’s guiding hand, these territories were extremely vulnerable to shady operators—and the smaller such jurisdictions are, the easier it is for their local administrations to be captured by unaccountable financial interests based elsewhere. “The smaller, less sophisticated and remote islands are receiving almost constant attention and blandishments from expatriate operators who aspire to turn them into their own private empires,” the Bank letter notes. “The administrations in these paces find it difficult to understand what is involved and to resist tempting offers.” The Bank of England letter had identified something generic to offshore centers: They are small states captured by large foreign financial, and often criminal, interests. “We need to be quite sure that the possible proliferation of trust companies, banks, etc., which in most cases would be no more than brass plates manipulating assets outside the Islands, does not get out of hand.”

  But the Bank of England’s concerns did not reflect ethical qualms about the harm these places were wreaking on other countries—the Bank was simply expressing its desire to retain power to influence events, and particularly to safeguard the Sterling Area, the British-linked currency zone that had included most British colonies and dominions and whose members enjoyed relative freedom of payments inside the zone but which were strictly constrained from letting capital flow outside the Sterling Area. Attracting foreign dirty money, by contrast, was keenly appreciated by the Bank. “There is of course no objection to their providing bolt-holes for non-residents,” the letter continued, “but we need to be sure that in so doing opportunities are not created for the transfer of UK capital to the non-Sterling Area outside UK rules.” In other words: no objections to looting the treasuries of the United States and sucking illicit financial flows out of Latin America—just so long as Britain’s tax base and its postimperial financial network was protected. Any harm being inflicted on other countries was deliberately to be ignored.

  As time went on, however, the Bank became increasingly worried that these Wild West British offshore centers were becoming weak points in the Sterling Area, allowing leakage outside the zone. In 1972, under the Bank’s guidance, Britain shrank its Sterling Area to cover only Britain and Ireland and the Crown Dependencies, excluding the new tax havens. The Cayman Islands, for its part, adopted the Cayman dollar as its new currency, at par with the U.S. dollar, and two years later this was de-valued to 1.20 Caymanian dollars to the U.S. dollar—where it has remained ever since.

  In the same year that the Sterling Area was shrunk, the officials who were trying to stop the tax havenry suddenly disappeared from the archive files. Taking their place was a new group of officials who seemed to be unaware of the 1971 report warning about the dangers of tax haven activities. They realized that the contraction of the Sterling Area hadn’t solved the problem at all. In 1977 the new group appears to have rediscovered, still sitting on a shelf, unimplemented, the 1971 report warning about tax havenry. Again nothing was done. It looks to have been like institutional Ground-hog Day within the UK Civil Service: Reports were written, memos were drafted—and nothing changed. History had repeated itself within and between the departments, all in a matter of less than ten years.14 Each time, we find the Bank of England officials working hard to fight the tax havens’ corner.

  At the same time, the representative of the Overseas Development Ministry, clearly supporting the Bank of England’s line, seems to have been concerned almost exclusively with the ten thousand Cayman Islanders, apparently entirely blinkered to the terrible impact this may be having on, say, the several hundred million victims of capital flight in nearby Latin America. Whatever its motivations—hopeless myopia, or a cynical attempt to privilege its own dependent territories at the expense of the rest of the developing world—the development ministry ends up stoutly defending the legislation of places like the Cayman Islands, legislation designed specifically to undermine the tax authorities and economies of developing nations around the world.

  A comment from a Caymanian lawyer in the 1970s highlights where the main beneficiaries of all these illicit financial flows were. His clients, he said, would periodically contact him, worrying about Fidel Castro’s Cuba nearby and insisting on special clauses to compensate them should Castro invade. “I have to explain that Castro wouldn’t find any [money] in the safe,” he said; “they’re all really held in New York or London.”

  A long letter in 1971 from Kenneth Crook, the newly arrived British governor of the Cayman Islands, provides a little more detail on the thinking in London in those days and on Britain’s behind-the-scenes controlling role. “You, sir, and the office as a whole,” he wrote in his first long report back to his superiors in London, “might find some interest in the first reactions of a pair of Diplomatic Service eyes and ears (two pairs, if you count my wife’s) to this basically colonial situation.”

  Then, as today, His Excellency the Governor, whom the British Queen appoints on the British government’s advice, was the most powerful person on the island, presiding over a cabinet of local Caymanians. They do have elections in Cayman, with revved-up political rallies and all the fun of the fair—but the governor sent from London remains responsible for defense, internal security, and foreign relations; he appoints the attorney general, the judiciary, and a number of other senior public officials. The final appeal court is the Privy Council in London. Caymanian dollar notes carry the British Queen’s head, and the national anthem is “God Save the Queen.”

  Governor Crook was running a place with just ten thousand inhabitants: a large, part-English village. A Time magazine reporter in George Town, Grand Cayman, at around the same time advised readers that if you did not have the proper cab fare, your driver would tell you not to worry—you could just pay him the next time you happen to see him. A history published in the Cayman Financial Review claims that mosquitoes would swarm densely enough to suffocate cows.

  “This is no tropical paradise,” Crook continued.

  I could enlarge, in terms of a magnificent but mosquito-ridden beach; of a fairly new but rather ill-designed and sadly-neglected house; of a pleasant but very untidy little town; of swamp clearance schemes which generate smells strong enough to kill a horse; of an office which will one day ere long collapse in a shower of termite-ridden dust.

  This is certainly an odd appointment for a Diplomatic Service Officer. How many of my colleagues, like myself, contemplating the inanities of some Head of State, have said to themselves “If only the fool would do so and so, how easy it would be.” But have they really thought how it feels to be the fool in question? . . . I might invite my colleagues to try running
a Parliament in the best Westminster tradition, in which one Member leaves, and as a result throws the entire Finance Committee into confusion for want of a quorum, because he has to drive the school bus—which he owns.

  Sir, I hope I may be forgiven if underlying this despatch so far is a note of perhaps unbecoming levity.

  The governor’s long letter yields a picture of an amiable and decent enough upper-class British colonial type, trying his best to understand and cope in a strange, fast-moving new environment. In a speech in 1973, Crook told banks to remember that they were not the island’s only inhabitants: People lived there too. “If you don’t think about that,” he said, “you might as well buy an aircraft carrier and operate from that.”15

  But on politics, and the strange relationship between Britain and its little quasi-colony, his tone hardens. “Caymanians don’t want independence,” Crook wrote. “They don’t want internal self-government either—they are very unwilling to trust each other with effective power . . . hence they are delighted to have a Governor around; apart from anything else he’s very handy for taking unpopular decisions.”

  Governor Crook also put his finger on a crucial subtlety of the relationship that underpins the entire edifice of offshore finance: the fact that Britain has effective control, while pretending not to be in control. “They realise that if the Governor is seen to have effective power then the others appear to be essentially cyphers. The elected politicians among them find this bad for their image,” Crook wrote. “What they want is to make the Constitution look as if it obliges the Governor to do what they want, even though they know it doesn’t. I think we are in the world of semantics here. The more Caymanians we can put in positions of power, the better; they will act as lightning conductors for political dissent.”

  Very little of substance has changed since then, as a senior Caymanian politician, who asked not to be quoted, explained to me on a visit in 2009. “The UK wants to have a significant degree of control over the jurisdiction, but at the same time it does not want to be seen to have that control,” he said. “Like any boss, it wants influence without responsibility; they can turn around when things go wrong and say ‘it’s all your fault’—but in the meantime they are pulling all the strings. The governor can bring an agent of the crown to come here and do whatever they want,” he said. “The hand has always been behind the scenes, in the shadows: it has not shown its face.” Keeping the reality hidden from Caymanians is, he said, part of political leadership. “It is like having children . . . it is not necessary to tell them all the burdens and challenges you face. Eighty percent of the masses who turn up at our meetings believe they have control.”

  The gesture toward elected representation given to Cayman voters, plus all the money, keeps the locals happy, and Caymanians solidly support the link with Britain today. Roy Bodden, a former minister and author of a history of the Cayman Islands, remembers the Falklands War between Britain and Argentina in 1982, when influential Caymanians, not content with having helped Argentinian generals and their wealthy friends loot their country, launched a “Mother Needs Your Help” fund. Collection tins were rattled in the street, and a million dollars raised, he said, then simply handed over to Britain for the war effort.16

  Crucially, this remarkable degree of local support for the British connection reassures international finance that locals will not rock the boat and disturb the business of making money. But the true bedrock of this financial center is Britain’s controlling role. If the islands became fully independent and were handed fully over to dark-skinned Caymanians, most of the money would flee.

  Something else turned up in the archives too. Dated February 23, 1969, it is a cutting from the Sunday Times, written by its financial editor Charles Raw. While it is not unusual to find newspaper clippings in archive files, the presence of this particular one—closing the file, and with no attendant commentary—is intriguing. Might it have been left as a marker for historians? Something that couldn’t make it into official documentation or be stated explicitly? The name of the clipping is at the least suggestive: “Why Not Turn the City into a Tax Haven?”

  Raw’s article, written amid one of the great boom phases of the offshore Eurodollar markets in London, is a piece of unashamed cheerleading for the City. It derides a “notorious” section of the UK tax code that gives tax collectors useful powers to curb offshore leakage, and it says London should let nonresidents get tax-free treatment for certain kinds of funds. “Most of the authorities’ energies over the past few years have been devoted to stopping money going out,” Raw wrote. “But perhaps it would be more rewarding to pay greater attention to money coming in.” As we will see in the next chapter, similar lines of thinking were emerging in the United States.

  The same Times article contains another oddity. It begins by praising a Geneva-based mutual fund group called Investors Overseas Services (IOS), which Raw says “has done wonders for the U.S. balance of payments by pumping the world’s savings into U.S. shares.” The article goes on to tout a new Bermuda-based fund that would “like to do the same for the UK balance of payments.”

  IOS, however, was no ordinary company. Raw went on to write a book about it, the title of which, Do You Sincerely Want to Be Rich?, was the line that IOS salesmen pitched around Europe, door-to-door, as they vacuumed up retail investments to channel into offshore funds. The company’s founder, Bernie Cornfeld, called it “people’s capitalism,” and for a short time he made IOS into one of the largest foreign institutional investors on the U.S. stock exchange. His board of directors included a former governor of California, Pat Brown, and FDR’s son James Roosevelt, and many of his advisers came from the Bank of England.17 Cornfeld bought castles in France, sailed a forty-two-foot Corsair, and drove a Lancia Flaminia convertible. He dated the Dallas soap opera star Victoria Principal and the Hollywood madam Heidi Fleiss, and his company bought banks in the Bahamas, Luxembourg, and Switzerland. “I had mansions all over the world. I threw extravagant parties,” he said. “And I lived with ten or twelve girls at a time.”18

  Cornfeld had originally left the United States “looking for a less competitive market,” as one obituary put it, and his company’s fragmented national identity—it was incorporated in Panama and headquartered in Switzerland—was the key to its success: No regulator or criminal prosecutor, he hoped, would be able to tie it down. It was a quintessentially offshore company. The U.S. tax authorities considered it European, and others considered it American. When the authorities in France became suspicious of IOS, Cornfeld hopped to Switzerland, where he teamed up with the same secretive bank in Geneva that the mobster Meyer Lansky had been using to deposit the skim from his casinos.

  At first, Cornfeld took deposits mostly from U.S. military personnel stationed in Germany. He soon began looking further afield: first targeting an estimated 2.5 million U.S. expatriates around the world, then the British postimperial expatriate networks, then traders in Hong Kong, settlers in Kenya, French rubber-planters in Laos and Vietnam, Belgian miners in Congo, the Lebanese in West Africa, the overseas Chinese, and so on. He took money with no questions asked and an assurance that depositors’ secrets would be safe. When he bought his first airline, a joke went around inside IOS that he was starting up “Capital Flight Airlines,” and its couriers, according to Tom Naylor’s book Hot Money, spirited huge sums out of developing countries. “As civil war raged in Nigeria and international relief for the traumatised civilian population rolled in, “ Naylor wrote, “IOS was on the scene to help: the international aid funds often wound up in the safe in Geneva.” Even bigger sums were being bled from Latin America.

  This, remember, is the company that was being held up as a model for turning the City of London into a tax haven. Even worse, by the time Raw’s article emerged, IOS was already enmeshed in high-profile scandals, including illegal operations discovered in a Brazilian police raid in 1966 and a high-profile Life magazine exposé of a joint IOS-Lansky courier operation in 1967. What was Raw
thinking?

  Naylor notes another curiosity about illegal offshore money, of which Cornfeld’s story is a perfect example. Banks take in deposits (which are liabilities of the bank) and make loans (which are its assets), but they also hold capital, which is the safety buffer that investors put in. If loans go bad this capital serves as a shock absorber: It is the investor capital, not the deposits, that take the hit (though if more and more loans go bad and the capital is exhausted, then the bank runs into real trouble, as happened to banks in the latest financial crisis). Prudent bankers will restrict their loans up to a multiple of, say, ten times the capital buffer.

  Capital is far more valuable to bankers than deposits: The more capital you have, the more you may multiply your balance sheet. And this helps us understand why banks like secret offshore deposits so much. Investigators who probed IOS said it operated under an assumption that 10 to 20 percent of its deposits were, effectively, permanent capital—that is, the owners could not withdraw it, either because it was too risky for them to do so or because they were dead. It is no wonder that Swiss bankers were so reluctant to hand over the deposits of Jews who died in Hitler’s concentration camps: The deposits had essentially, the Swiss believed, become permanent reserves of bank capital. Not only that, but depositors willingly accept below-market interest rates in exchange for secrecy—boosting the profits to offshore banking.