Offshore financial havens: Their role in international capital flows

The purpose of this paper is to study the role of offshore financial havens in international capital flows. We examine the effects of being a tax haven, a money laundering centre or an offshore financial centre (OFC), which often overlap. We want to see whether these places are used as entrepots (which means temporary storage for funds) or as investment places or both. We mainly use two complementary data sets: bilateral cross-border asset holding and financial intermediation. One is a stock variable and the other one is a flow variable. We apply the gravity model to bilateral cross-border asset holding between 223 host countries and 67 source countries from Coordinated Portfolio Investment Survey (CPIS). We find that tax havens and OFCs attract more asset investment while money laundering centers scare potential investors away. We then use the flow variable of financial intermediation from UNdatabase and find value of financial intermediation is higher in OFCs and lower in money laundering centers. There is no significant relationship between tax haven and financial intermediation. Our results show that the role of offshore havens in facilitating illegal activities like tax evasion and money laundering is overstated in the previous studies. By allowing parameter shifting in the model, we also find the competitive advantages of offshore finance in facilitating tax avoidance or evasion and money laundering have been eroded due to recent years' global action against tax evasion and money laundering.