The brief history of money laundering (from ancient times to the early 21th century)

Introduction

In summary, money laundering is the obfuscation of sources of funds obtained through illicit means. According to the Oxford English Dictionary, the first well-documented use of this term dates back to the 1970s and was widely adopted in the 1980s. However, money laundering has likely existed since the emergence of money and laws that prohibited certain activities.

Money laundering follows the predicate offense from which the funds are acquired. This legal concept also originates from the late 20th century; however, it’s essential for understanding the history of money laundering. While crimes such as piracy or robbery have been common throughout human history, there are more opportunities to explore the history of money laundering following white-collar offenses, such as bribery, financial fraud, or tax evasion.

This publication will review how money laundering has changed over time. This article will use modern concepts and terms to discuss events that took place years and centuries ago.

Three stages of money laundering

Money laundering consists of three steps: placement, layering, and integration. Placement is where questionable funds are reintroduced to the financial system. For that purpose, money can be deposited into accounts at financial intermediaries. To circumvent the reporting threshold, criminals split money and employ so-called “money mules” to open accounts and make transfers. Sometimes, money is sent abroad via remittance services or physically smuggled to jurisdictions with lax financial controls.

At the Layering stage, the funds are transferred through shell companies, often established in different jurisdictions, to hide the origin of the deposited cash. A professional facilitator usually orchestrates the process. Money launderers use fictitious contracts for trade or lending to provide plausible supporting documentation. Investigations based on massive leaks of documents related to offshore companies, such as Panama Papers or Pandora Papers, can illustrate the complexity of such schemes.

Finally, money Integration is performed through ostensibly legal economic transactions, such as acquiring various assets, purchasing goods, investments, etc. At this point, the criminals re-acquire control over the funds.

Money laundering cases over the history

China

In the publication “Lords of the Rim,” American historian Sterling Seagrave provided details on tax evasion and money laundering practices employed by Imperial China-era merchants. One notable example is Fei-Chien, or Flying Money, an informal value transfer system based on exchange notes. This system enabled traders to avoid taxation when transferring funds abroad and leave a minimal money trail record. It also enabled trade in goods forbidden in particular parts of the ancient world, as sales and acquisitions usually remained invisible to authorities.

Fei-Chien was highly formalized and regulated because it was the backbone of Chinese expatriate economics. In modern terms, it’s one of the early documented examples of placement and layering in the context of money laundering. The system is still widely used in South Asia and remains part of money laundering schemes for Chinese crime syndicates.

Ancient Greece

The polises of Ancient Greece introduced two components of the modern financial system: an agora, which served as a centralized location for financial activities overseen by the authorities, and a strong institute of reputation in economic relations (which remotely resembles modern KYC). Lenders operating across Greek cities separated by the Aegean Sea established networks for sharing information about maritime merchants to exclude fraudulent and dishonest ones from future transactions.

The tax system of ancient Greece, specifically classic Athens that ditched indirect taxes) provided many opportunities for tax evasion. Direct taxes were mainly applied to wealthy individuals. For instance, liturgies obliged rich citizens to fund specific public activities or maintenance of state property, such as triremes, during the war.

Wealthy Athenians often concealed their wealth by assigning their assets to nominal owners or putting money in the bank. There was little or no bank regulation, and private financial intermediaries could ensure the complete confidentiality of their clients and even provide the latter with secret returns with no tax obligations. The same could be done with other illegal proceeds (such as bribes), making banks a one-step, one-stop laundromat for Greek citizens.

Modern times Switzerland

As money laundering requires secrecy, criminals benefit from corporate and bank secrecy practices. For centuries, Switzerland established its reputation for extreme financial secrecy and became a European hub for high-profile money launderers. Even in the 2020s, it was blamed for a passive stance towards money laundering, sanction evasion, and other illegal practices.

Swiss bank secrecy regulations date back to the 1713 Council of Geneva decision that forbade bankers from disclosing information about their clients to safeguard the interests of the Catholic French monarchy, which wanted to obscure its dealings with banks in a Protestant Switzerland during the European wars of religion. Financial secrecy became a tradition and was later supported by legislation, making obtaining information about accounts and their owners borderline impossible for authorities.

In the early 20th century, Swiss banks promoted the country as a tax haven and a safe place to store assets, which resulted in an unprecedented influx of money during the turbulent times of the Word War and the following succession of political, financial, and monetary crises in Europe and ashore.

Money launderers, such as the renowned “Banker for the American Mafia” Meyer Lenski, took advantage of the protection provided by the Swiss banking system. He purchased an actual Swiss bank and built a network of shell companies and offshore accounts to launder proceedings from illegal activities in the United States. He employed nearly anonymous numbered bank accounts that provided an additional layer of privacy to deposit questionable money that passed through his international laundromat and used them to secure legal loans in the bank. Despite all the efforts of the U.S. authorities, he was never convicted. Lenski died in 1983, aged 81, free.

The Prohibition in the USA

In the early 20th century, money laundering wasn’t even considered a separate activity but a component of other crimes. No legislation obliged banks to identify their clients or question the source of funds thoughtfully. However, tax evasion was already a thing, and criminals needed a way to convert illegal proceedings into legal profits.

There’s a widespread belief that the term “money laundering” originates from the activities of a renowned Prohibition-era gangster, Al Capone, who allegedly used laundrettes with cash-only laundromats as cover firms to launder revenues from prostitution or bootlegged liquor sales, and other illegal businesses. The amount of cash flowing into laundromat operations was hard for law enforcement authorities to monitor, generating vast amounts of seemingly legitimate funds.

Watergate Scandal

The first well-documented use of the term “money laundering” in the general media was in the Guardian’s 1972 coverage of the Watergate scandal. It was the first time the U.S. authorities emphasized the need to interpret money laundering as a separate offense.

The Watergate scandal is commonly associated with a break-in at the Democratic National Committee headquarters in the Watergate Office Building in Washington, D.C. Still, the most essential part was a scheme that concealed funding sources for Richard Nixon’s 1972 election campaign. After being elected President of the United States in 1968, Nixon established a “Committee to Re-elect the President” to aggregate donations for his next campaign. However, the contributions didn’t go directly to the fund; they were rerouted to Mexico and then back to a Miami-based front company, allowing the concealment of the origin of money and donors’ identities.

The Department of Justice of the United States linked the cash found on the Watergate burglars to the “Committee to Re-elect the President” funding, and the connections were later confirmed during the burglars’ trials. The finding convinced the House of Representatives to grant its judiciary committee more authority to investigate money laundering matters. Despite winning the 1972 elections, Nixon resigned in 1974 due to the threat of impeachment for this and other misdemeanors.

War on Drugs

During the global war on drugs in the 1980s, law enforcement authorities required more instruments to chase money and freeze and seize assets belonging to organized crime. The United States pioneered the development of anti-money laundering legislation, which finally led to the formalization and globalization of control over money laundering.

During Ronald Reagan’s presidency, the U.S. authorities escalated their control over illegal drugs. The 1985 Money Laundering Control Act declared money laundering a separate federal crime for the first time. It enabled law enforcement and intelligence services to impose restrictive measures on proceedings from the drug trade. This strategy proved effective and was soon followed by similar laws in other countries.

In 1988, the United Nations implemented the Vienna Convention Against Illicit Traffic in Narcotic Drugs and Psychotropic Substances, which declared money laundering illegal, specifically in regard to the drug trade. In 1989, the G7 established the Financial Action Task Force (FATF) to analyze money laundering trends and develop standards and best practices to prevent it nationally and globally.

War on Terror

The 9/11 terrorist attack on the World Trade Center in New York had a profound effect on the development of anti-money laundering regulations in the U.S. and the world. For instance, the Patriot Act of 2001 directed financial institutions to expand anti-money laundering programs and improve due diligence reporting on foreign bank transactions. It also introduced new communication standards between law enforcement authorities and financial intermediaries. The stricter anti-money laundering regime implemented by the U.S. to fight the threat of international terrorism soon became the benchmark for the rest of the world.

Conclusions

We made a short glimpse into the evolution of money laundering and financial regulation from the ancient times to the beginning of the 21st century. Get ready for our next historical review on the modern ways of money laundering and contemporary AML tactics.