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11 October 2016

Stealth wealth: inside the secretive world of wealth management

Capital Without Borders by Brooke Harrington reveals a new, hidden focus for financial services: keeping family assets secure.

By Felix Martin

On 3 April 2016, the International Consortium of Investigative Journalists published a vast cache of information leaked from Mossack Fonseca, a little-known corporate law firm based in Panama City. The “Panama Papers” revealed that this firm had for many decades specialised in devising schemes to enable clients from all over the world to hold their financial assets, often anonymously, in jurisdictions outside their home countries. In doing so, they shone a rare light on the secretive industry that is the topic of Brooke Harrington’s valuable new book, Capital Without Borders: the lawyers, accountants, tax advisers and professional trustees who collectively constitute the world of wealth management.

That world is, by definition, difficult to research. Previous studies have focused on the legal and constitutional anomalies represented by the so-called offshore jurisdictions where the corporate structures they build are incorporated: the British Virgin Islands, Mauritius, the Cayman Islands, and so on. What makes Harrington’s book unusual is that she chose instead to investigate the wealth management industry itself. There were no short cuts to doing so. Harrington went undercover as a trainee wealth manager for two years, living and breathing the profession. The result is an insight unlike any other into how wealth management works.

What exactly does a firm such as Mossack Fonseca do? The default suspicion is that the central purpose of the wealth management industry is to enable corrupt dictators and super-rich oligarchs to evade taxes and conceal the nefarious origins of their assets. One of the many merits of Brooke Harrington’s study, therefore, is how it shows that the wealth management industry is a far larger and more integral component of the modern financial system than a focus on the celebrity-saturated case of the Panama Papers might suggest.

The vast majority of those who use the services of wealth managers are not crooks, nor even – by the standards of the global elite, at least – especially rich. They are successful entrepreneurs, owners of family businesses, or even just high-powered professionals and corporate executives; and their wealth is measured in the millions, not the billions, of dollars. This simple fact leads Harrington to challenge certain widely held assumptions about why people employ wealth managers.

There is no question that tax avoidance – trying to minimise one’s tax bill within the constraints set down by the law – is a near-universal motivation. Yet Harrington shows that other, typical objectives at least as important are building corporate structures so that family businesses do not collapse in the inevitable internecine squabbles, ensuring the continuity of complex estates upon death, and facilitating lifestyles that span two continents or more.

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More unexpected factors often come into play. In some Latin American juris­dictions, an informant tells her, “you can go to a bank and for US$100 get the names of all depositors with accounts over $100m”. Kidnapping for ransom being a well-developed business in such places, who can blame the rich for steering clear of their local banking systems?

Meanwhile, a wealth manager on the Arabian Peninsula explains how, among his clients, one top incentive for deploying wealth management trusts is a wish to avoid the disadvantages that Islamic law imposes on daughters’ rights of inheritance. As far-fetched as this may sound, it seems that the modern “Gnomes of Zurich” – the slang term for Swiss bankers – are in fact what feminists look like today.

Even tax avoidance red in tooth and claw may not be always and everywhere a social evil. We baulk – justifiably – at politicians who loot their treasuries and then hide their ill-gotten fortunes in numbered Swiss bank accounts. The wealth management profession, however, argues that the ability of enterprising individuals to choose where to keep their savings, and which country therefore benefits from their money, is not only a fundamental right, but a powerful force for promoting good governance.

This is an argument with a venerable pedigree. The 18th-century economist James Steuart described the bill of exchange – the most effective channel for capital mobility of his day – as “the most effective bridle ever was invented against the folly of despotism”. The flight of capital to offshore banking centres may indeed represent the logic of “exit” rather than “voice”, in the economist Albert Hirschman’s celebrated scheme of how group loyalty works: but perhaps the private bankers rightly argue that it represents an element of discipline on policymakers in otherwise chaotic regimes.

If this makes Harrington’s book sound like a whitewash of wealth management: it is not – not remotely. The questions she raises regarding its role in the global economy are different, however, and considerably more profound, in my view, than is usually the case.

Seen from an Olympian height, the wealth management industry obviously prospered over the past four decades from the confluence of two great historical forces. The first is financial globalisation. It is the dismantling of restrictions on cross-border investment since the end of exchange controls in the 1970s that has allowed even those of relatively modest means to escape exclusively domestic financial arrangements. The second is the dogged persistence of the Westphalian system of state sovereignty and international law. It is this system that guarantees the existence and independence of the offshore centres which are such a critical component of international wealth management.

The irony is that these two forces are, on one level, contradictory. The logic of financial globalisation depends on universal norms and completely permeable borders. The logic of political sovereignty depends on the extensive rights of even the tiniest microstates to define their laws and protect their jurisdictions.

Why has the complex, transnational institution of wealth management been such a beneficiary of this contradiction? Harrington’s answer to this question is the most interesting and important contribution she makes with her book. She argues convincingly that it represents an escape from the paradox by means of the resuscitation, wittingly or not, of pre-Enlightenment modes of interaction on national, corporate and personal levels. Wealth management, she explains, is essentially a neo-feudal institution.

It is no coincidence that it is relics of the pre-Westphalian order – feudal remnants such as the Channel Islands, the last fragments of the Duchy of Normandy; Liechtenstein and Luxembourg, a principality and a grand duchy never absorbed into Europe’s larger states; and, of course, the greatest self-governing medieval hangover of them all, the Corporation of the City of London – that have been best placed to exploit the intrinsic tension between globalised finance and the modern state system. They are past masters at the horse-trading of sovereignty and high finance with larger neighbours.

At the corporate level, meanwhile, it is the ancient unit of the family dynasty, rather than the impersonal modern invention of the company, that is the basic repository of loyalty and care in the wealth management industry. And as for the professionals, the law itself describes their required personal qualities in positively Arthurian terms: “Not honesty alone, but the punctilio of an honour the most sensitive, is then the standard of behaviour,” reads a US appeal court judgment of 1928.

The most profound question posed by Harrington’s book is whether this reversion to premodern ways of doing business is ultimately consistent with modern financial capitalism. The central focus of the wealth management industry, as its name suggests, is on the preservation of families’ fortunes down the generations. It is not, that is, on the creation of new capital and its deployment to stimulate innovation, entrepreneurship and growth.

Harrington points out that the Communist Manifesto puts the abolition of all rights of inheritance at number three on a list of ten steps necessary to usher in a new social order. Whether or not one agrees with its particular ambitions, the most cursory familiarity with many rich countries today shows how the excessive insulation of dynastic wealth from redistribution towards the young and entrepreneurial can lead to economic atrophy and political revolt. Permitting the vibrant capitalist institutions bequeathed by the Enlightenment to degenerate into neo-feudal fragments is unlikely to resolve the problem.

Felix Martin is the author of “Money: the Unauthorised Biography” (Vintage)

Capital Without Borders: Wealth Managers and the One Per Cent by Brooke Harrington is published by Harvard University Press (381pp, £22.95)

This article appears in the 05 Oct 2016 issue of the New Statesman, Trump's triumph