Money laundering is the process of concealing the money obtained from illegal sources like drug deals, terrorist activities or any other criminal activity and disguising appearance of such money as to have obtained from legitimate sources. This is usually done with a motive of preventing seizure of money by the government.
Money laundering takes place in three different stages:
- Placement- It is the initial stage when money obtained from illegal activities is introduced into the financial system. This is usually done through activities like gambling, loan repayment, currency exchanges, currency smuggling, etc.
- Layering – This stage involves concealing the source of money, i.e. distancing the money from its illegal sources through various complex financial transactions. This may involve an international movement of money. The major purpose of this activity is to make laundering activity untraceable.
- Integration- It is the process of injecting the laundered money back into the economy such that it appears to be obtained from legitimate sources.
Money laundered majorly takes place through currency exchanges, stock brokerage houses, real estate dealers, gold dealers, smugglers, casinos, insurance and trading companies. Privatization can also channelize way for laundering of funds.
Money laundering has a detrimental effect on the economy. It hampers economic development and growth of various sectors of the economy. It disturbs the functioning of financial institutions, real estate sector and trade sector primarily. It affects the industrial sector indirectly.
In the financial sector, which includes banks and other financial institutions, there is an indirect impact. It adversely affects the reputation of the institution in the economy. If money laundering activities take place in a financial institution, the institution is seen as corrupted and it spoils the customer trust. Unaccounted injection and withdrawal of large amounts of money can also affect the liquidity of banks and cause bank runs.
Real estate sector is the most prone sector to money laundering. An artificial demand is created in the economy when the real estate is bought through laundered funds. This thus disturbs the demand- supply equilibrium in the sector and the economy.
It also impacts the private sector. Money launderers use the front companies to clear out their funds. Small businesses and firms are negatively impacted as they cannot match the competition with the front companies. Front companies sell theirs produces at relatively cheaper rates even less than the cost, in an attempt to clear out funds rather than to make the profit. Thus, it gives them the competitive advantage.
Money Laundering also provides an impetus to the activities of criminals like drug traffickers, arms traffickers, credit card swindlers and terrorists and incentivizes them to expand their activities. It increases the crime in the society. If money laundered is effectively prosecuted, it marks the success of the criminal’s activities as they are able to make profits out of their illicit activities. Further, globalization has eased money laundering. Scope for an international crime has increased. Advancements in technology and modern financial systems have increased money laundering.
Money laundering can also pose a series threat to monetary and political stability. It causes fluctuations in currency and interest rates. It disturbs the tax structure as laundered funds are untaxed so government and the other public bear the cost of it. Thus, due to the serious menacing consequences, this business crime needs to be eradicated to save the economy from demolishing.