Operation of shipping under flags of convenience constitute a device which enables the traditional maritime countries to maintain ownership and control over world shipping despite the fact that they cannot operate economically under their own flags. In principle all aspects of merchant shipping are governed by the International Maritime Organization, which regulates everything from construction standards to marine pollution restrictions. In practice those countries operating flags of convenience are unlikely to enforce the standards to which they have agreed in fleets operating around the world. Convenience flagging of vessels allow companies to reduce their operating costs dramatically with lucrative tax advantages and non-unionized cheap labour (avoiding social security, pension and other costly benefits).
The anonymity of such ownership facilitates the use of transfer pricing and restrictive practices to the detriment of developing countries. Owners of flags of convenience (FOC) ships have no real difficulty in concealing their true identities if they so wish, and so any affiliation between the registered proprietors and transnational corporation (TNC) owners can be concealed. Moreover, the countries of registration of these ships impose no reporting requirements, and rebates can be paid into banks which have no obligation to report to governments.
Apart from considerations relating to transfer pricing, the use of FOC ships provides TNCs with a means of maintaining ownership and control over shipping operations despite the fact that they cannot operate under their own flags, since most are based in countries which can no longer supply economical shipboard labour. Thus the TNCs reap the profits from shipping operations that would make a very substantial contribution to the economies of the developing countries with which they trade. Furthermore, the use of flags of convenience has contributed to the present situation of overtonnaging, as owners operating under these flags have recycled profits in tax haven countries into new tonnage to avoid the taxation they would incur if repatriating their money. The manner in which the transnational oil companies have built up their excessive fleets out of accumulated tax haven earnings is an example. The absence of a set of basic principles concerning the conditions upon which vessels should be accepted on national shipping registers, leaves open the possibility of continuing abuses.
Under international law, only the flag state, or country whose flag a vessel flies, can take enforcement action against a vessel fishing illegally on the high seas. "Flag of Convenience" countries issue their flags for a fee and, in exchange, the vessel's owner and captain know that the country cannot or will not monitor or control the activities of the vessel. The vessel is effectively free to fish on the high seas in violation of any fisheries rules or regulations.
Almost one-third of the world fleet, mainly in the bulk trades, has at various times been owned by non-nationals who have little or no connection with the states whose flags their ships fly and whose precise role in world shipping is uncertain. Faced with growing competition from developing countries, industrialized countries have been obliged to make increasing use of convenience flagging. For example, less than a third of the UK-owned shipping tonnage is now registered under the UK flag.
As an extreme example it means that a ship may be constructed in one State, with financing arranged in another, and registered in yet another; it may be beneficially owned elsewhere, managed by a corporation in yet another State, but operated elsewhere again; it can be insured in another State again and crewed by nationals from another dozen States. And yet under Article 5 of the Convention on Conditions for Registration of Ships, which is often cited as being fundamental to improvements in the exercise of jurisdiction and control over vessels, it requires that "the flag State shall have a competent and adequate national maritime administration, which shall be subject to its the vessel's jurisdiction and control"; in an increasingly internationalized shipping world, this would be an almost impossible task even for well-organized and resourced countries.
Pirate fishing vessels flying "Flags of Convenience" are a growing threat worldwide to the health of the world's oceans and marine biodiversity. The UN Food and Agriculture Organization (UN FAO) reports that the problem is growing and Greenpeace estimates that there are some 1200 industrial fishing vessels flying flags of convenience in operation.
Based on a review of information published by Lloyd's Maritime Service, Panama, Honduras, Belize and St Vincent and the Grenadines top the list of FOC countries as the worst offenders with approximately 1000 fishing vessels registered to fly their flag. However, other countries are responsible for the problem including the US, Japan, and the European Union, where illegally caught fish are imported with few if any restrictions and where the companies that own flags of convenience vessels are based.
Ships sailing under flags of convenience are often sub-standard, badly-crewed, badly-maintained, badly-managed and they have poor safety records. This means that it is not a question of "if" a major environmental disaster occurs, but "when".
While pressing for control and regulation of free-enterprise in the shipping industry, some socialist countries are operating state-owned merchant fleets, which by virtue of their government dependence, may be undercutting world tariffs, thus attacking the mechanisms of free adjustment between tonnage demand and tonnage supply.