Ethics and governance in the European Financial centers

The following text was written by Oscar E. Mary, from Riveiro, Condoleo, Balan, Mary & Asociados (Buenos Aires Argentina) in the framework of Integra International, an association made of accountants, auditors, business and tax consultants.


The word “prevention” applied to fraud is controversial to say the least, since it has proved to be extremely difficult to fully prevent the occurrence of all kinds of fraudulent acts, independent of the number of policies and procedures implemented within a company. A consistent set of policies and procedures can no doubt prevent the app)earance of certain dishonest acts to a reasonable extent, but believing that it can eradicate them completely is no more than mere wishful thinking. Given time, someone intent on committing fraud in an organization will find a way to do it.
It’s a fact that nowadays most organizations do not invest enough resources in the prevention or detection of fraud within their structures.
The objective should be to prevent the largest number of types of fraud within the organization’s restriction of time and costs and to develop procedures that will allow the earliest possible detection of those fraudulent schemes that get carried out in spite of controls.

FACTORS THAT TAKE PART IN A FRAUDULENT ACT

A series of factors concurrently appear when a fraudulent act is analyzed:

1. Intention

Intention is the intrinsic characteristic that distinguishes fraud from error, simple omission or forgetfulness. Someone is intent on committing a fraudulent act in his/her own benefit and on damaging a third party.
This factor might be obvious. However, it becomes an important element when the existence of fraud has to be proved in a judicial process. Any evidence, however small, can be relevant in that instance.
The fact that a swindler us the product of his disloyalty in his/her own benefit is enough proof that he/she is the intention of damaging the victim. In other cases, the existence of a plan or procedure to make a specific fact viable can constitute a conclusive test.

2. Motivation

Motivation is a critical element in fraud schemes or breach of trust. Awareness of the reasons that can lead a person to commit a dishonest act will make it possible to decide between two courses of action oriented to the lowering of fraud risk:

a. Reducing or eliminating one or several of those reasons, if it is within the power of the organization to do so, and

b. Working on the detection of warning signs that can tell us a person is or can be intent on committing a fraud.
The circumstances around an individual’s life change constantly. Some are dishonest and on the look-out for an opportunity to commit fraud. Others might be honest people. However, they might at one point begin to evaluate the possibility of committing fraud because of financial pressures, envy or some other circumstance.
Those changing and often unexpected circumstances can make the situation unmanageable for the individual, who then believes that it is necessary or appropriate to commit fraud.
The motivation to commit fraud can be classified as internal or external, depending on its origin. Internal motivations are those arising from the work place and many of them can be controlled by the organization. Such is the case of an employee who feels that he/she does not receive appropriate recognition, whether it be from an economic point of view, from the point of view of responsibilities or in her/his hierarchic level.
As far as external motivations are concerned i.e. those arising from outside the organization, very little can be done. Therefore, immediate attention must be paid to the appearance of warning signs that may alert to an individual’s attitude. The most common factors seem to be an addiction to drugs, alcohol or gambling; serious
financial or health problems –their own or their relatives’– and, typically, the pressure to keep up with or to reach a higher living standard than the one they can really attain. Once we understand the true motivations of fraud, it is up to management to decide on the necessary measures to keep track of that kind of behavior within the work
environment.

3. Opportunity

Opportunity turns motivation into action. Someone lacking in principles will recognize a chance to commit fraud and act accordingly.
The opportunities to commit fraud generally depend on the quality of the internal controls implemented in an organization. At this point, we can divide the kinds of opportunities into three great groups, according to their origin:

a. weaknesses in the design of the controls

b. weaknesses in the application of such controls

c. possibility of evading the controls

Let’s analyze what a dishonest person does to discover an opportunity to commit an illicit act.

In some cases, the individual makes a meticulous study of the organization, its policies and its operating scheme. In others, she/he can generate the ideal conditions herself/himself. Sometimes, however, a person runs into the opportunity by chance.
An honest employee might forget to comply with a routine or procedure in full or in part. Upon noticing the omission, she/he might become aware that nobody has realized it and that the administrative circuit has gone on with no inconveniences.
This shows that there isn’t a system able to detect such a fault in that aspect of their work.
A dishonest employee will take this situation into account in order to develop a plan that will allow him/her to commit fraud.

4. Concealment

When a person plans to commit fraud or actually commits it, she/he does not wish to be caught or beccme suspicious of it. In such respect, the dishonest employee will take the necessary precautions to hide his actions or their results.

Concealment can involve one or several actions, such as tampering with the documentation, maintaining a double set of accounting records, forging signatures, bribing third parties to keep them silent, forcing account reconciliation, recording additional transactions to develop a complex activity that is difficult to analyze.
Some fraud schemes are easier to conceal than others. The act of concealment usually leaves some written evidence behind. If investigated, such evidence can lead to the clarification of the case. Many dishonest employees usually act with a degree of impunity that moves them to think that nobody will investigate and that they will be able to continue with their actions for a long time.
It is essential for fraudsters to conceal a fraudulent act, so they have to develop actions oriented to modifying or replacing the documentation supporting the operations, which generates written evidence of such facts.
We conclude that it is more practical and highly probable to detect fraud beforehand that to try to prevent it. The typical case is found in all the schemes related to cash disbursement.
There is a wide variety of methods to take money from an organization in a fraudulent way. This makes it impractical to bet exclusively on prevention. Applying measures such as the immediate reconciliation of bank accounts or its accomplishment on a regular basis remarkably improves the possibility of detecting a dishonest act that is not easily detectable.
A suitable combination of policies and procedures oriented to the prevention and detection of fraud is no doubt the best protection an organization can have.
The possibility of concealment is infinitely facilitated when the organization has not implemented a basic administrative system with supporting documentation and suitable records. That is the case of many not-for-profit organizations, like civic associations, religious organizations, foundations, nongovernmental organizations and the like.
The lack of human, technical and economic resources, plus the false assumption that cash control depends on the confidence laid on whoever does the job generate the ideal conditions for a close friend to easily take control of the assets without warning.

5. Rationalization

Rationalization is the element that prevents an individual from admitting his/her responsibility after committing a dishonest act. In the same way, it motivates such a person to pursue his criminal conduct when he/she is not detected soon after the act. This is the final element within the factors that lead a person to embarking on a fraudulent activity or breach of trust. Most of the identified motivating factors can also be used to rationalize the situation and continue with these activities.
Rationalization also contains other ingredients. These are some examples of what might be said to help stay within the framework of dishonest behavior or not admit responsibility for it:
The perception that the amount that the dishonest act involves is small in relation to the size of the organization.
The justification based on the existence of a valid reason. Such is the case of the employee who considers that his/her salary is low or that he/she is not recognized by the organization and consequently believes that he might commit fraud with no consequences.
The depersonalizing of the victim, since removing a company asset does not harm anybody personally.
The true belief that the fraudster will be able to replace the removed asset shortly after or that he/she will be able to stop the practice at a certain point, as his actions are intended to solve a problem in the short term.
The feeling of acting correctly, since others did not suffer legal or social consequences. This behavior is fostered by scandals involving well-known individuals or organizations.*

THE ORGANIZATION AGAINST FRAUD

We have mentioned five elements that we usually come across when analyzing cases of fraud in an organization: intention, motivation, opportunity, concealment and rationalization. Out of these, four depend on the person who tries to carry out the dishonest act or actually accomplishes it. Therefore, the possibilities of taking some type of action to prevent its occurrence are beyond the organization’s reach.
Consequently, only one –opportunity – depends on the organization. Efforts must be concentrated on reducing or eliminating the possibility, whether real or presumed, of avoiding appropriate controls that have already been implemented.
The only way to stop a flow that has a certain feedback is to place a barrier. And the only way to place such a barrier is to eliminate the opportunities to commit fraud.
Besides the work that must be done on the appropriate design of the administrative organization, the development and implementation of policies and procedures and the later control on their fulfillment, there is an important element which it is generally left out. As a consequence, new opportunities appear that encourage people to evaluate the possibility of committing a dishonest act (if it is the first time) or of trying something bigger (if there is a previous instance).
Such element is the attitude adopted by the organization when a fraudulent act is detected. In most cases, the organization acts emotionally when it shouldn’t. Its people think with their hearts, instead of with their brains.
As a consequence, the individual in charge of evaluating the case and imposing the sanctions foreseen by policy manuals underestimates the event or considers that the excuses used by the dishonest employee to justify his/her acts are valid reasons.
We have often verified that the organization’s final decision has been to keep the fraudulent act hidden, so as not to damage the corporate image. We have also observed that in most cases the author is transferred to another department or offered a succulent allowance so that he will resign. In other cases a sudden announcement is made of his/her decision to start an independent business or to pursue other careers.
That is why we insist that the silence of the organization becomes an accomplice to the dishonest employee and shows the existence of the best opportunity for those wishing to commit fraud: the organization’s own incapacity to act.
We wish to close this work with a brief thought: there are no big or small frauds but big or small fraudsters.


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A couple of weeks ago an article that was published in Liberation by Mr Arnaud Montebourg , who is one of the co-authors of the reports on financial crime, that targeted the United Kingdom, the territories of the Crown, Monaco, Switzerland, Liechtenstein and Luxembourg.
In his article Montebourg took a swipe at Switzerland, Liechtenstein and Luxembourg.
Montebourg's analysis does not make sense but the press release that was issued in common by Luxembourg and Switzerland was a mistake. Neither Montebourg nor the authorities of the financial centres are credible.
Montebourg's analysis does not make sense because countries that have an attractive tax policy have the right to define their policy provided that they are credible in business ethics.
The press release that was issued in common by Luxembourg and Switzerland was a mistake because, as far as business ethics is concerned, Switzerland is more credible than Luxembourg where there are visible drifts that do not comply with competence and respectability (i.e. proper business conduct) that are required by the law of 1993. These are either denied or ignored so problems officially do not exist: the permissiveness feeds accusations on Luxembourg and financial centers in general.

A bogus pragmatism weakens international finance.

Who supports the best the financial centres: those who are clever enough to understand the stakes for the reputation and require a stricter behaviour, or those who supports negligence and bad governance by their silence and inaction including for official and public facts that cracked the ethical frontage?

The European Banking Federation (FBE) is the voice of the European banking sector. It represents the interests of over 4500 European banks, large and small, with total assets of more than € 20 000 billion and over 2.3 million employees.
The Federation issued a very interesting report in April 2005.
This report has been drafted by the Anti-Fraud and Anti-Money Laundering Committee of the European Banking Federation (FBE) based oncontributions submitted by national banking associations. This extensive document offers an inventory of national regulations on money laundering in more than 35 countries in Europe
and beyond. National legislation are detailed and listed with identical headings (type of legislation, business
covered, reporting procedures, identification requirements, etc.) which introduce some valuable elements of comparison among countries.
The Report is based on information collected from July 2004 to February 2005.

Download the report