Black economy

Illegal or semilegal goods and services, ranging from endangered animals and foreign currencies to prostitution and drugs, are traded every day on the world's black markets. They will spring up wherever a good or service is prohibited or severely controlled. In some countries, black markets are tolerated with little or no police interference. In countries where currencies are artificially controlled, the black market rates usually indicate the true market price. When the official rate has nothing to do with the real value of a currency, people start trading outside the official market. In Brazil, this was tolerated to the point that the black market rates were published as parallel exchange rates in the newspapers. The black economy consists of those underground transactions that, because of their illegality, go unreported.

The world economy is also full of semilegal or " gray market" activities such as transfers and deposits of legally earned but undeclared funds that have to be hidden from the authorities at home. For example, normally law-abiding Italian, French, and Latin American citizens have often transferred money to bank accounts abroad during periods of domestic economic instability and exchange restrictions.

Tax haven

A tax haven is a country, often a small island nation with little local industry, where income and profits are not taxed or are taxed at a very low rate. The purpose of a tax haven is not to facilitate illegal international activities but to provide a low-tax environment to otherwise overlooked economic centers. The most popular tax havens are found on islands in the Caribbean and the Pacific, or in small countries in Europe and Central America.

Many small states, such as the Cayman Islands or the Isle of Man, require little or no taxes from the foreigners who come there to set up operations. Just as many U.S. companies choose to register their headquarters in Delaware to take advantage of lower taxes and favorable legal requirements, many international companies set up subsidiaries on small islands like those of the Netherlands Antilles to benefit from favorable international regulations and tax rates.

A lot of companies from Europe and North America have also used subsidiaries in the Netherlands Antilles to issue bonds in the Eurobond market. A bond is basically an IOU, a piece of paper giving the holder the right to receive a specific amount of money at a specific time. The borrower, or issuer, of a bond has two obligations. First, the issuer has to pay back the original amount borrowed, called the principal. Second, the borrower needs to pay interest periodically, to reward those who but the bond as an investment. These interest payments are also called coupons in reference to the little pieces of paper attached to bonds before the electronic markets made such paper transactions unnecessary. Bearer bonds are the ultimate transferable security. Most international securities are issue in bearer form. There is no name on the bond and no registration. The holder of a bearer bond has the right to receive the full value of the bond at maturity, in addition to all interest payments.

During the cold war, the Soviet Union was reluctant to put too much of its U.S. dollar reserves under the control of the authorities in the United States. It turned instead to European banks to keep these dollars abroad, and those reserves became known as Eurodollars. Today, any currency held abroad, even outside Europe, is called a Eurocurrency.

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In the 1970s, a huge market developed for Eurocurrencies when Arab oil producers, following the example of the Soviet Union, began keeping a large part of their newly earned petrodollars in Europe. This flood of foreign capital needed to be invested, so banks began issuing U.S. dollar bonds, outside the control and regulations of the United States government. These were called Eurobonds because they were issued outside of the country of their currency. The Eurobond market grew enormously during the 1980s. Companies and governments from around the world began issuing many of their securities in the Eurobond market, often at less cost than in their home markets. Offshore operations have allowed many companies to raise funds in the international capital markets with a minimum of regulations and taxes.

Some individuals also prefer the anonymity of setting up companies in tax havens. They can then choose whether or not to report the income booked through these offshore companies to their home country. Even though this is illegal in their home country, it is not necessary illegal in the tax haven itself.

Although tax havens do attract some illegal operations, such as money laundering, most activity in the world's tax haven fully complies with international laws and regulations.

The formation of a shadow economy, where gray money transfers need to be kept hidden even though they are legal, has opened the door to a wide variety of abuses. But different laws in different countries can hinder authorities from tracking down and prosecuting criminals who make their living in the interlinked global economy. Tax evasion, for example, is severely punished in the United States, but it is considered a civil rather than a criminal offense in Switzerland. An American living in Switzerland who is accused of U.S. tax evasion would not normally be extradited.

A large amount of illegally earned money finds its way into the gray economy, where it is hidden among the large quantities of legal money on the world economy that require a certain amount of secrecy. The volume of gray money transfers, estimated to be over $1 trillion per year, more than the GDP of most countries, is so big that regulators cannot monitor it all. The " black" money gets lost in the sea of gray money transfers.

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