Thank you Mr. Chairman, Senator Gramm and Members of the Committee:
I am very pleased to be given this opportunity to return to your Committee to speak to you today about our government's anti-money laundering programs and strategy. My name is Alvin James and currently I serve as the leader of the Anti-Money Laundering Solutions group at Ernst & Young, LLP. However, the views I am expressing here are my own and do not necessarily reflect the views of Ernst & Young.
A little over three years ago, I retired from federal service after 27 years of law enforcement within the U.S. Treasury Department. Most of my public service was spent as a special agent with IRS Criminal Investigation Division where I specialized in international undercover money laundering investigations. I spent the last five years of my federal law enforcement service at the Financial Crimes Enforcement Network (FinCEN) concluding the last two years as its Senior Anti-Money Laundering Policy Advisor. It was at FinCEN that I collaborated on developing a model that explained what is generally recognized as the largest money laundering system in the Western Hemisphere - the Colombia Black Market Peso Exchange (BMPE). That model, which was developed using law enforcement intelligence, describes how this underground financial system works and identifies vulnerable choke points. During my tenure at FinCEN I also served as the founding chairman of the Treasury Under Secretary for Enforcement's BMPE working group.
Mr. Chairman, I believe the current efforts and strategy of our government to prevent the laundering of illicit funds or the transferring of funds for illicit purposes within our borders are falling short of the mark. This failing is not primarily due to a lack of diligence on the part of our criminal justice and regulatory agencies. It stems more from the nature of our enforcement system and the means by which the performance of our enforcement agencies are measured than from a basic unwillingness to work together and get the job done.
The source of this failure lies at a fundamental level. We continue to fail as a government to adopt an enforcement strategy to disrupt and deter the way money is laundered through our nations financial institutions. The major money laundering is a systemic crime. Systemic crime is crime brought about by an illicit demand within society that is not dependant upon the action of any particular individual or group of individuals. Therefore, the criminal conduct cannot be effectively deterred by the threat of prosecution, fines or imprisonment. Systemic crime is crime that for various reasons will always have a new criminal ready to step up when his predecessor falls to criminal sanctions. Systemic crime is not limited to the financial arena. Indeed there are broader and more serious areas of crime that also fall within this definition. When they thrive it is largely do to the choice of our government to use the singular weapon of prosecution as our only deterrent. When we fail to acknowledge the shortcoming of prosecution as the sole deterrent in critical areas then we also fail to strategize toward a more effective means of disruption and elimination of the criminal systems that plague our nation.
To illustrate my point let us look at two well know areas of systemic crime. First, the demand for narcotics and the systems that fuel that demand is an example of systemic crime. One of the reasons we have not done better in fighting the war on drugs is that we continue to pursue the fight on a case-by-case basis. And yet there seems to be no limit to drug users, sellers, distributors, smugglers, manufacturers and money launderers. The performance of the agencies charged with fighting the war on drugs is measured by the respective arrests and prosecutions to their credit. This performance measure of course skews their strategies in that direction whether or not those strategies have an ultimate impact on the criminal system. These performance measures also tend to steer them away from coordinated action with other agencies, with which they would have to share the credit. Worst of all, they are dissuaded from the development of a more effective strategic approach even when they try to do so. We are not winning the war on drugs and yet we have continued to fight for over 20 years without any sustained deviation in our strategy.
Our internal war on terrorism and the movement of terrorist funds is another area of systemic crime. Our efforts to combat terrorism within our borders seems to be gaining ground because we have not focused on prosecution as our only tool or even our primary tool to disrupt and dismantle the terrorist's ability to harm to our country and our people. Cooperation and coordination of strategy continue to be key areas of concern. Yet we seem to recognize that we can offer no form of prosecution and punishment that will deter an individual who will give up his own life, not as a sacrifice for his cause, but as a privilege that will bring everlasting rewards to the individual and substantial financial rewards to his family? Our law enforcement community is well suited to address these terrorist systems, just as they are will suited to address the systems that distribute illegal drugs and launder the profits from their sale. For the war on terrorism to continue to be effective and for the war on drugs and major money laundering to begin to have a deterrent effect, the enforcement community must be unfettered by removing total reliance on performance measures directed solely toward the arrest and conviction of individuals. They have the knowledge and expertise to develop strategies, within the boundaries and individual protections of the Constitution, which will disrupt and dismantle the principal criminal systems wreaking havoc in our country today. They must be encouraged to develop and implement these systemic strategies. We cannot afford to wait for another 20 years.
Mr. Chairman, by continuing to provide a forum to air these critical issues. Your committee is providing the leadership needed to bring financial criminal enforcement to this new plateau. It is essential that our nation begin to recognize the shortcomings of our current strategies in regard to systemic crime. Only then can we begin to develop new plans operating outside the box of conventional wisdom. As I continue in my testimony I will set out numerous areas of systemic abuse of our nation's financial structure. These areas of abuse do not seem to be deterred by traditional means of arrest and prosecution. I will also suggest an approach to most effectively design and implement a strategy to combat systemic crime within our enforcement and regulatory communities. I urge you use the powers of this Committee to continue to encourage this nation's financial enforcement and regulatory community to consider a more effective means of financial law enforcement and regulation designed to combat these areas of systemic abuse.
As stated, the current focus of financial criminal investigations is most often on individuals or a particular illicit enterprise. Even if this focus falls on a particular area of systemic concern, such as Hawala and its movement of terrorist funds, it still relies on fines or prosecution of individuals as the primary strategy of deterrence. What is even more troubling is the spirit of competition rather than cooperation fostered by these strategies of prosecution. There is little incentive to cooperate when eventually only one agency will be credited with the prosecution. If a deal is struck it usually involves some sort of sharing of the count. This most often involves double counting which then distorts the statistics and still does little to counter the systemic abuse.
Similarly, from the civil regulatory perspective, while regulatory efforts may be aimed at areas of systemic concern, they generally rely on regulatory sanctions aimed at an individual institution or business. As in the enforcement community, there seems to be little regard for whether or not these sanctions will in fact impact the particular area of systemic abuse. Regulation of Money Service Businesses (MSB's) is a good example of this lack of effective strategy. The first phase of this regulation is the registration of all MSB's. The most infamous type of MSB at the moment is the Hawala money remitter system that I will describe in more detail later. For now, suffice it to say that even if Hawala brokers in the U.S. are successfully registered, such registration is unlikely to impact the illicit use of this system to move terrorist funds or launder drug money. It is too easy for this system to hide its dealings inside other transactions. Registration will certainly not have an impact unless it is part of an over arching strategy designed to eliminate the illicit use of this system. It is not clear that such a strategy exists or which agency would administer it if it did exist. From the criminal law enforcement perspective, in order to be effective the strategy will have to exceed reactive prosecution of known illicit transfers through unregistered institutions. Without effective strategies in place, counting the number of Hawalas or other (MSB's) that have been registered is meaningless as a measure of performance for any agency held responsible as well as a meaningless measure of effective money laundering control for our government as a whole.
There is also little incentive for the enforcement and regulatory community to cooperate strategically toward a systemic target. The enforcement community views the regulators, with some justification, as uncooperative when asked to respond with specific information in regard to a particular institution or its client. In turn the regulators view law enforcement, again with some justification, as ham fisted and naive as to the working of financial institutions as well as their interactions with their regulators. The financial service sector itself is also offered little incentive to observe or report systemic abuse of their systems. Most institutions see the Suspicious Activity Reports (SAR's) they file on individual behavior as going into a black hole with little if any feedback as to their relative effect. Once again they are somewhat justified in this position. Why then would they take the extra step of pointing out systemic abuse when there has been little or no effort on the part of government to describe the abuse or work with the institutions in a partnership to build a defense?
Mr. Chairman, our National Money Laundering Strategy is replete with all the right buzz- words - money laundering systems, inter-agency cooperation, coordination of effort, and information sharing. Unfortunately these strategies have failed to enhance our ability to deter systemic money laundering. They have failed because at the root of our efforts we cling to prosecution as primary tool and our primary measure of success. We must use all the tools in our tool chest if we are to build a solution to systemic money laundering.
International correspondent banking is the network within the traditional financial sector that facilitates global bank-to-bank business as well as providing foreign exchange for clients who do not have their own individual foreign accounts. Simply stated, foreign banks maintain accounts similar to checking accounts in banks within countries that they or their clients wish to do business. Of course the United States is essential for any foreign bank wishing to offer the potential of foreign trade financing to its clients. This network is especially vulnerable to money laundering because money is taken in through one governmental jurisdiction and placed in another. The Patriot Act began to bring attention to these correspondent relationships.
However, in spite of this attention, this network is currently being abused as the primary narcotics currency placement vehicle for the Colombian Black Market Peso Exchange, (BMPE). The traditional means used to place narcotics currency into U.S. bank accounts controlled by the BMPE dollar/peso broker was to make small deposits to accounts in the U.S. that were less than the threshold of the BSA regulatory barrier. Due to increased enforcement and regulatory pressure, the BMPE system has shifted its major currency placement to the foreign correspondent banking network. Foreign banks, willing to accept anonymous currency deposits in exchange for either checks or wire transfers drawn on their U.S. correspondent banking accounts, now provide the means to place BMPE narcotics currency into the U.S. financial system. These institutions are located throughout the world and are certainly not limited to those countries that have been designated as non-compliant for anti-money laundering purposes.
Once the currency is placed in the U.S. accounts the BMPE brokers sell the dollars and then transfers them for their clients via checks and wire transfers. These instruments are used to make payment for foreign trade and to fund bank and brokerage accounts in the U.S. These transactions completely break the chain of transparency sought by the world's financial institutions and their respective governments.
Numerous other systems similar to Hawala and BMPE exist throughout the world. They all offer similar services of foreign exchange and small dollar money remittance through informal networks based on ethnicity and trust. They exist in Asia, Africa and South America and they all have branches in other lands based on the Diasporas of their people. These branches often have brokers who use the traditional financial systems to maintain their parallel accounts that facilitate their informal systems. By their very nature they are also vulnerable to money launders and individuals who would surreptitiously transfer funds for illicit purposes.
Gold Broker Networks
The U.S. government has taken little notice of the workings of these networks within our country or the world. Nonetheless, it is possible to transfer millions of dollars of value internationally within these amorphous networks with no paper trail. The transfers can go from the souks of Dubai, India and the Far East to the brokers of Switzerland and Italy to the coin shops of the U.S. As in the remittance systems, the transfers are made on trust and settlement for the transfer is usually arranged via parallel transactions going in the opposite direction. It is very likely that recent transactions of terrorist funds were moved through this network.
This means of covertly moving funds from one country to another has existed for centuries and is well known and well documented. As with the others mentioned, it remains basically untouched by U.S. law enforcement. The following is a simple example of the process. A Colombian drug lord wishing to launder drug currency held in the U.S might first establish a front retail jewelry business in the U.S. Next, green glass is shipped from Colombia to the front business in the U.S and is described as emeralds. The front company deposits drug currency disguised as business receipts and then wires out payments for phony emeralds to the Colombian drug lord. The drug lord has thus transferred his illicit proceeds to Colombia with a built-in legitimate story disguising their true source.
These firms should be distinguished from money remitters in that they offer discrete international transfers of funds for wealthy individuals and firms along the lines of the services provided for private banking clients within the legitimate financial industry. They do so by moving these funds through their accounts without notice to anyone of the true ownership of the funds. There may be legitimate reasons for the existence of these firms such as the need to amass funds secretly for strategic business advantage. However, due to their obvious potential to launder money and facilitate other anonymous transfers, it should not be left totally up to the banking community to regulate their activity through Suspicious Activity Reporting.
Hawala is an ancient system based on trust within ethnic and familial relationships. It is important to note that this system has been unregulated for most of its existence. An equally important factor is that most funds transmitted by this system are legitimate foreign exchange or remittance transfers. However, it is clear that illicit funds and funds intended for illicit purposes including terrorism are also transmitted by this system. It is unlikely that this amorphous system will lend itself to traditional forms of regulation. New regulatory and criminal enforcement strategies will have to be devised based on a more through understanding of the system than we have today.
Another alternative is to outlaw the system altogether in the U.S. However, an attempt to outlaw this system will only drive it from the front of the bodega to the back room or the parlor upstairs. Attempts to outlaw this system will also thwart its substantial legitimate purposes. One key use is foreign exchange for the "unbanked" third world, thus promoting desperately needed commerce in these areas. Another important function is money transmissions to family "back home." In addition to being legal and harmless this is arguably our most efficient and least costly form of foreign aid. In any case, as with all the systems described here, this system exists because there is a demand for it that has not been met otherwise. As long as the demand exists there will most likely be a similar system to meet it, whether we try to outlaw it or not.
Colombian black market peso exchange (BMPE)
The BMPE is perhaps the U.S. enforcement community's best-known underground money remitter and foreign exchange system. Although it has technically always been illegal in Colombia, it began as a gray market designed to evade Colombian import tariffs perceived to be excessive by the Colombian business community. However, its function became much more heinous from the international perspective when its source of funds evolved to be almost exclusively wholesale narcotics proceeds.
Like all underground and unregulated systems this system is flexible and quickly adapts to efforts to thwart its access to the worlds legitimate financial systems including those in the U.S. I have described a major adaptation of this system in my previous section on Correspondent Banking. Although this system has been known to U.S. law enforcement for over 20 years it continues adapt and to maintain its status as the vehicle of choice for the Colombian drug lords to launder over $5 billion dollars per year.
A coordinated effort using all the tools available to the government is the key to disrupting and dismantling systemic financial crime. A home agency solely responsible for systemic criminal law enforcement and BSA regulatory policy and enforcement is the best means to achieve this coordination. I strongly suggest the new agency be given the power via presidential directive to coordinate all investigations impacting systems of financial crime that are a threat to our national security. This power should include investigations in other agencies that are related to these particular systems. I also believe it is essential to see that the new agency has the security clearances necessary to coordinate its strategies with the intelligence community. Finally it is vital that this new agency include this nation's financial sector as a partner in designing and implementing overarching strategies designed to impact systemic financial crime.
The problem of overlapping jurisdiction has always been an impediment to cooperation and coordination of the investigations related to systemic financial crime. Anti-money laundering is necessarily a fragmented jurisdiction due to the numerous substantive crimes that generate illicit funds. However, the recognition of systemic crime gives rise to a logical division of effort along the lines of systemic enforcement verses individual prosecution. The agency I have proposed that would be charged with systemic financial enforcement could pass off individual cases to the appropriate agency, thus providing an incentive for cooperation rather than competition. In addition, the performance of the systemic crime agency could be measured along the lines of its strategy, which would not directly include individual prosecution.
As an example of the type of coordinated strategy that might arise from the agency I propose, let me turn to the area I know best, BMPE. The goal of the following strategy is to force the BMPE money launder and the Colombian drug lord to use processes to launder drug money that are less suited to their purpose and thus easier to detect and attack by both systemic and traditional criminal enforcement. First, a coordinated series of disruption oriented undercover operations could be added to the strategic plan. These operations can infiltrate the BMPE money laundering organizations and then use their insider status at just the right moment to seize or otherwise divert the funds they have been trusted to launder. Then a BSA Geographic Targeting Order (GTO) directed at correspondent banking accounts that are funded with substantial currency deposits. An international arm could be included that would coordinate the impact of intelligence to be shared with Colombian or other foreign law enforcement agencies. In addition related individual investigations could be coordinated in such a way as to maximize their effect on the overall system. Finally, the private sector could be included by advising them at the most opportune moment of the overall scheme as well as the specific countries, foreign banks or particular accounts that are known to be involved in the system.
The overall strategy could be designed to shake the confidence of the illicit users of the system. On the one hand they would loose confidence that the money they launder is safe and will be returned to them. In addition the appropriate individuals involved could be passed on for individual investigation not only in our country but also by their own law enforcement as well. Those who maintain legitimate businesses could find their ability to use the financial institutions throughout the world hampered by their link to narcotics crime. Providing the identity of the known users of the money laundering system to the international press could further shame and deter future use of the system. The final effect is to eliminate the market for BMPE dollars in foreign exchange. Such a coordinated effort as part of an overall strategy to attack a system of financial crime could begin to impact the system itself rather than just chip away at the individuals involved.
Mr. Chairman, thank you for allowing me this opportunity to express my views. At the least, I hope my comments will foster debate directed at more effective enforcement of systemic financial crime and more efficient use of the tools available in our enforcement community.
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