Analysis & Opinions - Belfer Center for Science and International Affairs, Harvard Kennedy School

A Brush of Oversight Coming to the Art World

| Oct. 29, 2020

As the United States continues to utilize tools of financial statecraft to limit the cash flow and economic freedoms of adversaries around the world, an age-old mechanism for concealing illicit transactions has recently received more attention: the art market. Recent restrictions placed on elites in adversarial countries have forced them to shift their capital to less traceable forms of storage and transaction. With this, there has been a deterioration of means for money laundering, suspicious financial transactions, and the proceeds of other corrupt activities. Though it has been a consistent store of wealth for the length of its existence, artwork has largely remained out of the focus of regulators, while remaining a popular method for such shadowy actors. Anonymity, difficulty in valuing individual pieces, and ease in cross border smuggling all play a substantial role in the draw of malign actors to the art industry. However, the lawmaking bodies of the world have hesitated in creating effective regulation to limit such interactions. Though this workaround does not have directly adverse effects, it perpetuates the cycling of illicit money, often indirectly funding criminal endeavors.            

In the case of money laundering and terrorist financing through United States banks during the years leading up to 9/11, little was done to reform the financial system and demand customer transparency. Similarly, transactions in the art space struggle to enforce the identification of its clients. Hesitation to regulate and reform these interactions could allow continuity of such illicit money pathways, protecting those that engage in unlawful activities.  

The Limitations

Though it has traditionally seemed taboo to draw legislative attention to the subject of artwork due to its general reservation for affluent individuals and their natural inclination for involvement in politics, 2020 has placed new emphasis on the topic. With the number of options available to malign actors for engaging in illicit financing gradually narrowing to cryptocurrencies and few other cross border tactics, artwork remains one of the few methods still opaque, out of sight of government officials. One of the primary reasons for this is the lack of beneficial ownership in the art marketplace, or more simply, no required knowledge of the actual person who lies at either end of the transaction.

According to reporting by Bowley and Rahbaum from The New York Times in 2017, it makes sense that murky transactions are allowed to occur through artwork, since “Auction houses live off the fees they earn for brokering sales…(they) would both value and trust customers who bring in a lot of business.” Beyond this idea of beneficial ownership is the traditional secrecy of the business that shrouds many of its participants in shadow, protecting them from any potential law enforcement measures that they may be violating in the process. Alongside this indirect participation is a lack of insight from law enforcement when it comes to pinning down actors in a transaction. Often, it is popular to have an intermediary party deal with one’s own artwork, and according to the prominent auction houses, they only sometimes require disclosure of the owner’s identity based on risk assessment. In this context, auction houses define risk assessment as vetting clients based on verification of identity, ‘red flags’ that identify sanctioned individuals or ‘offshore entities’ and determining the provenance of artwork in the exchange. By looking at these measures, the auction houses attempt to mitigate illicit participation though it is difficult to enforce when clients wish to remain anonymous.

 This leaves a large gap in the process, and it has been exploited repeatedly for these vulnerabilities. In the coming years, there will need to be greater oversight brought to the art market and greater accountability for the buyers and sellers in these transactions – not only to protect the artist but to protect collectors, and prominent auction houses (Sothebys, Christie’s, Phillips, etc.) from catalyzing illegal interactions. Non-auction house galleries where there is even less oversight and due diligence, have also been exploited in the past. However, it seems a consistent problem of either system is the lack of beneficial ownership and a documented ‘trail’ of past owners that would illuminate patterns of illicit transactions.  

Senate Report July 2020 

In a recent Senate report released at the end of July 2020, the United States seems to have finally shown a vested interest in confronting this issue head on. Though there has been limited reporting on this topic previously, the Senate investigation comes in the wake of sanctioned Russian businessmen, who bought artwork through shell companies as a way of evading the US regulation, according to Bowley in 2020 by The New York Times. The purchases that the individuals made occurred since the imposition of sanctions in 2014 through the mechanism of New York auction houses and totaled $18.4 million. Current U.S. banking regulations do not apply to the parties involved in large scale transactions of art and often it is the case that banks do not have adequate expertise in the industry to perform proper due diligence procedures. While banks are still liable for money passing through when art changes hands, this disconnect between actors is a clear vulnerability. Through these types of transactions, malign actors abroad can continue to live unaffected by United States financial sanctions. As such, it is essential that this Senate report is taken seriously and due diligence is instituted amongst actors involved in transactions of artwork, including the auction houses, buyers, and sellers.  

Former U.S. Treasury official William Rich identified the importance of the art world as a mechanism for effective, untraceable money laundering in his Wall Street Journal article, “Let the Sun Shine in on the Art Business.” The variability of pricing and traditional anonymity in the industry allow for relatively comfortable transfers of massive amounts of wealth. Though the Bank Secrecy Act of 1970 requires financial institutions, gems dealers, and casinos to report suspicious transactions of more than $10,000 moving through their system, the art world has no similar structure. As a result, many of the illicit transactions that could not occur through a bank system can be undertaken through the guise of art-related transactions.

Though there are plenty of cases around the globe that underscore the abuse of the art world for concealing the movement of wealth for numerous reasons including tax evasion, some make the claim that placing regulations on auction houses would in fact push the industry to move into markets less regulated by state actors. After all, if those involved in these transactions have been so successful in the past operating through shell companies and intermediaries, why would they succumb to governance now? In 2010, the Mexican government established firmer regulations on the art market, demanding more up-front information about buyers in transactions. In the immediate wake of the imposition of these measures, the market dropped 70%, and it is suspected that this is due to the prevalence of cartel members in the business, according to Pogacar in 2020. Building new, more encompassing frameworks for these transactions is necessary but may result in an avoidance of the traditional, mainstream exchange structure. In 2017, the European Union also took greater steps to limit the capabilities of actors looking to take advantage of the opaque art market, expanding upon existing measures for transparency and due diligence in its “Fifth Anti-Money Laundering Directive” (5AMLD). The new additions notably refine the definition for entities that must engage in more extended due diligence procedures, explicitly including those who make purchases or sales in artwork, and enforcing a continuous, systematic monitoring of beneficial owners. 

A Diversity of International Case Studies

Though some may find these to be isolated incidents and turn their head the other way, it turns out that art has been a popular form of hiding money laundering and illicit financing schemes across the globe for years. In reports from the Treasury Department, one can find allegations of such activity between international actors from Hezbollah, Congo, Lebanese-based diamonds dealers, and other secret actors that participate widely in high-end art auctions (Bethencort, 2019). Beyond this, the Bowley and Rashbaum article also highlighted the participation of Malaysian businessmen interacting with Christie’s auction house, engaging with over $200 million worth of artwork and allegedly with “money embezzled from government accounts” (2017). China, a site of major operations for auction houses, has also been included in this narrative of contemporary art being used as a vehicle for movements of illicit wealth. According to Sophia Yan from CNN Business, “…an astonishing $1.08 trillion in illicit capital -- earned legally or otherwise -- flowed out of China from 2002 to 2011, according to U.S. advocacy group Global Financial Integrity” (2014).

From Russia to China, the Middle East to the western hemisphere, the reach of the art industry is distinctly broad. Auction houses that operate on multiple continents often remain blind to the actual actors involved in a transaction and as a result, its use as an anonymous money moving mechanism is efficient. Furthermore, the transnational nature of the industry makes it difficult to track, regulate, or enforce effectively. 

Where do we go from here? 

Governments are facing a similar problem with the use of cryptocurrencies in the transfer of money across international borders now. While crypto, art, and real estate remain some of the last ways to transfer wealth that strongly favor anonymity, they remain that way for a reason – they are very hard to regulate completely. Due to their transnational, decentralized nature and lack of adherence to a single jurisdiction, they remain out of government oversight. While people are right when they claim that placing regulations on auction houses will only shift the market to a new set of methods for transacting in art, it is a necessary step toward improvement. The alternative, after all, would be to continue allowing this to happen and turning a blind eye to sanctions evaders. Although some may draw attention to the fact that the United States cannot address this problem on its own, as malign actors often operate outside of its jurisdiction, it is important to double down on the idea of “limiting opportunity”.

Eliminating the problem does not simply come from one unilateral action or regulation that is a panacea for all illicit financing. Instead, at least one country must take the lead in limiting the ability for actors to move money in this way, ultimately setting the path for effective regulation. In this cascading model, countries that see the benefits will follow suit and make changes to their own policies based on what hasn’t worked as effectively as expected. The recovery of the United States position as a multilateral actor, open to cooperative measures in the 21st century, is an ideal that can be further pursued through this type of initiative. By working with partner countries on issues of collective importance, the United States will be reinforcing the narrative that it is still a worthy leader of the liberal world, invested in the success of cooperative efforts. In the implementation of effective financial statecraft, it will also be critical to have the assistance of its partner nations. Unilateral actions may carry substantial weight at first glance however their enforcement is almost impossible without the incorporation of other actors.

A Brief Comparison

As an analog for this scenario we can look to the way banks had to change their operational regulations immediately following the 9/11 attacks and the realization that they were unwitting parties to the maneuvering of illicit money. Following the attacks on the world trade towers, banks had to create a new culture of compliance with their customers that relied on a system of knowing who specifically was utilizing their services and why. Although this was certainly a change that required adaptation and was not natural at first, they understood that it was necessary in order to cut the continued stream of financial aid flowing out of the United States to terrorist organizations.

As has been exposed by these recent allegations of money laundering through artwork and the extended narrative of such transactions through time, a similar moment is coming for the art industry. Though there may have been knowledge that banks were being utilized for illicit financing prior to 9/11, it took an extreme scenario for anything to be changed. Will the same be required in order for the art industry to undergo a change? It often seems that in the world of regulation policymakers unfortunately wait until something has become a problem, instead of anticipating the cascade of adverse events that could stem from reasonable suspicion. Though it may require a shift in the culture of the art world to one that is more transparent through beneficial ownership, proactive compliance, and greater access to knowledge about how money moves through the art market, this will limit the possibility of its use as a highway for evasive transactions. For those who are art connoisseurs that simply enjoy the process of buying and selling art, not much will change. However, for those with a vested interest in remaining anonymous in such transactions for legal purposes, their participation will be limited.

Statements and views expressed in this commentary are solely those of the author and do not imply endorsement by Harvard University, Harvard Kennedy School, or the Belfer Center for Science and International Affairs.

Michael B. Greenwald is Director at Tiedemann Advisors. He is a fellow at Harvard Kennedy School’s Belfer Center for Science and International Affairs and a Senior Fellow at the Atlantic Council Geoeconomics Center. From 2015-2017, Greenwald served as the US Treasury attaché to Qatar and Kuwait. Michael is supported in this article by research advisor Logan Weber. Weber is a graduate of Harvard University and graduate student at Texas A&M University studying International Affairs.  

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For Academic Citation: Greenwald, Michael.“A Brush of Oversight Coming to the Art World.” Belfer Center for Science and International Affairs, Harvard Kennedy School, October 29, 2020.