The
U.S. Federal Bureau of Investigation (FBI), the New York Federal
Reserve Board, the New York Banking Commission, and British law
enforcement and national security agencies are undertaking a
massive investigation of money laundering and diversion of
international financial assistance. The investigation is currently
addressing the diversion of between $4.5 billion and $10 billion
that originated in Russia and involved some ten thousand
transactions since October 1998. It is possible that
still more money was laundered earlier. In addition, Swiss
authorities are investigating hundreds of millions of dollars in
Swiss bank accounts, some of the money allegedly embezzled funds
from Russian state companies and bribes taken by Russian officials
on the highest level.
According to Russian law enforcement
officials, capital flight from the USSR and Russia between 1985 and
1999 was over $120 billion, possibly topping $200 billion--that is
more than the entire foreign debt of the Russian Federation and up
to 10 times more than the total foreign investment in Russia. A
significant part of that money was plundered by federal and local
government officials. It is high time to shed light on this
unsavory and pervasive practice which harms the Russian economy and
defrauds the Russian people.
In
recent weeks, the Wall Street Journal, New York
Times, and USA Today have reported that the Bank of New
York, the Republic Bank of New York, and possibly other financial
institutions were embroiled in a massive money laundering scam
involving billions of dollars. According to these reports,
International Monetary Fund (IMF) money earmarked for Russia was
funneled out of Moscow and mixed with the profits from activities
such as prostitution in Eastern Europe and illegal weapons sales.
Moreover, a Lugano-based engineering and construction company,
Mobitex, allegedly opened credit cards and deposited large sums in
private accounts for the benefit of President Boris Yeltsin, as
well as members of his family and close associates, according to
Swiss authorities.
As
the details of this scandal are revealed, they are leading to
difficult questions about the policy toward Russia that was pursued
by both the Clinton Administration and the IMF. The situation has
also cast light on the lax standards applied by the U.S. government
and international financial institutions in disbursing financial
assistance to the opaque economies of post-communist and developing
countries.
Earlier this year, the IMF and the Russian
Central Bank admitted that IMF assistance had been diverted to
offshore companies, such as the Finance Investment Management
Company (FIMACO), which is controlled by the Russian Central Bank.
Senior Russian officials claimed repeatedly that the IMF knew about
FIMACO, and other similar arrangements, and did nothing to stop
them. There also are
reports that World Bank loans were misused or embezzled by Russian
officials. One such admission, concerning the Bank's coal industry
restructuring loan of $250 million, was made by Viktor
Chernomyrdin, who was Prime Minister of Russia and a close ally of
Boris Yeltsin at the time.
The
House Banking Committee should be commended for undertaking
hearings on these issues. It and other congressional committees may
well be called upon to play a key role in addressing both the
failed Russia lending policies that have been exercised by the G-7
governments, the IMF, and the World Bank, as well as the lax
banking standards applied to financial transfers from countries of
the former Soviet Union involving funds obtained from illicit
activities.
U.S. POLICY FAILURE: TWO SCENARIOS
The
massive abuse of Western financial assistance could not have
occurred had not President Bill Clinton, Vice President Al Gore,
and other senior Administration officials aggressively advocated
multi-billion dollar credits to keep Boris Yeltsin afloat.
Questioned about the money-laundering scandal, senior officials at
the IMF repeatedly stated that without pressure from the White
House, loans to Russia and Ukraine would not have been granted. Two scenarios have
been advanced to explain this policy failure.
One
scenario is that the IMF and Clinton Administration officials
turned a blind eye not only to the reports coming from the
intelligence community and the FBI, but also to the unprecedented
financial mismanagement that characterized the post-communist
countries of the former Soviet Union. Russia and Ukraine were the
largest recipients of Western assistance, but, in both the public
and private sectors, corruption and embezzlement have been and
continue to be widespread. Under these conditions, the massive
inflow of U.S. and international financial aid has led to
unintended and harmful macroeconomic outcomes:
-
It facilitated the delays of much-needed
market reforms, hindered deregulation, and allowed "crony"
privatization by financiers closely allied with political leaders,
thus minimizing the economic efficiency of the reforms;
-
It increased the foreign debt liabilities
of Russia, Ukraine, and other New Independent States (NIS) and
increased the tax burden on the populations of these countries to
service the debt; and
-
It undermined the legitimacy of Western
advice and assistance, allowed reform opponents to accuse the
multilateral financial institutions of being a tool for
perpetuating dependency on the West, and shifted the blame for the
failure of reforms from local political and economic leaders to
Western lenders, donors, advisors, and policymakers.
A
second, less benign scenario that needs to be considered involves
the potential personal and political benefit to some of the key
players. Between 1995 and 1998, some U.S. banks and hedge funds
made billions in the highly lucrative and volatile Russian
short-term bond market (the so-called gosudarstvennye
kaznacheyskie obligatsii, or GKO, in Russian). The profit
margins on these instruments reached a staggering 250 percent
annually. Hence, some U.S. and European financial institutions had
a direct interest in riding the Russian market for as long as
possible, reaping the highest profits they could. For this scenario
to work, however, IMF money as well as G-7 credits had to keep
pouring into Russia. It is possible that political pressure was
placed on Washington to continue lending.
QUESTIONS FOR CONGRESS
The
House Banking Committee has an opportunity to stop the abuse
associated with Russian aid. The Committee needs to assess the
damage to the U.S. and Western banking systems, and examine whether
violations of law and procedure were committed by U.S. officials
(specifically, the Department of the Treasury) and by the IMF.
Below are questions that need to be considered by the Committee in
the course of its investigations:
-
What were the sources and destinations
of the funds deposited in the Bank of New York, Republic Bank of
New York, and the Swiss Banks that are under investigation by the
Swiss authorities in Bern?
The reported volume of funds is considerable: $4.5 billion to as
high as $15 billion. Did these funds come from Russian crime
organizations? Was Russia a transit point for money from
drug-trafficking that originated elsewhere, such as Latin America,
Central Asia, or the Far East? Were some of these funds used as
kickbacks to high-level Russian officials, as the Swiss authorities
have alleged? Were any funds transferred to the personal accounts
of American or other Western officials serving in either national
governments or multilateral financial institutions?
-
What did the Clinton Administration
know about the widespread corruption in the Russian Government and
when did it know it?
When did Administration and IMF officials find out that
Russian Central Bank personnel were utilizing falsified promissory
notes to embezzle funds? From what source? What action, if any, was
taken? To whom was the information reported? What were the dates of
such reports? Were the Treasury and IMF officials aware that as
early as 1993 some Russian Central Bank officials were involved in
massive embezzlement schemes involving hundreds of millions of
dollars and utilizing forged financial documents (promissory
notes)?
-
If information about organized crime
and widespread corruption was reported, why did the Administration
still advocate IMF lending to the Russian government in 1996, 1998,
and 1999?
There have been numerous reports that top Russian government
officials, including former Prime Minister Chernomyrdin, were
corrupt. No successful prosecution at the Cabinet level ever took
place because the Russian legal system was paralyzed. Some of this
information was available to the U.S. intelligence community and
the media in the early 1990s. What did the Administration do to
ascertain what steps the Russian government was taking to safeguard
the system which was supposed to handle the credits?
-
What is the due diligence standard
applied to foreign assistance loans?
"Due diligence" refers to the process of assessing information in
order to contain the risks associated with a transaction to an
acceptable level. What due diligence standard was applied to the
loans to Russia and their disbursement? How does that standard
compare to standard best practices in the private sector--was it a
higher or a lower due diligence standard than what is normally
accepted and exercised by banks?
-
In view of reports of corruption and
embezzlement in the Russian financial sector and in the Russian
government, what specific due diligence procedures were applied by
the U.S. Treasury Department and the IMF when extending loans to
Russia?
Can copies of the due diligence checklists be supplied to the
Committee?
-
What reporting procedures were used
during the period the assistance funds were disbursed?
What issues were monitored? In the Treasury Department, were law
enforcement agencies of the U.S. government involved? Were the
national security and intelligence agencies involved? If not, why
not? Who wrote the reports on the monitoring of the disbursement of
the loans? Can copies of these reports be submitted to the
Committee?
-
Does fiduciary duty (on a level
expected of a banker or an investment or financial professional)
apply to U.S. government officials and the IMF international civil
servants responsible for approving loans to Russia?
If not, why not? Are U.S. taxpayer funds less protected under
these programs than they would be in a bank that extends loans to
foreign governments? Would the "reasonable man" standard apply
(i.e. "How would you handle your own money in a situation like
this?")?
-
If fiduciary duty does apply, which
U.S. Treasury and IMF officials are responsible for exercising this
duty in relation to these loans?
-
If there were violations of U.S. and/or
international law on the part of U.S. government officials or
international public servants with regard to financial aid to
Russia, what is the appropriate agency to investigate these
violations?
Which agencies have the expertise needed to conduct such
investigations? Would it be the General Accounting Office, the FBI,
the Justice Department, the U.S. Federal Reserve? Which agencies
should investigate the IMF? Should international investigating and
forensic auditing companies be used more aggressively to get to the
bottom of the Russian fiasco? Should the Attorney General appoint a
special prosecutor with broad investigative powers?
-
What is the legal regime governing the
administrative and professional responsibility of IMF
officials?
Who has the authority to initiate investigative and legal
proceedings against these officials? Are there any plans to
initiate such proceedings regarding the Russian policy failure?
-
Russia currently owes Western creditors
about $150 billion. It was supposed to pay back over $17 billion
per year. How much is it paying now?
Why are the U.S. government and the IMF still committed to lending
money to Russia? Did the IMF 1998 bailout package significantly
improve Russia's economic perform-ance? If the answer is "yes," why
is it that the $40 billion GKO market collapsed, the ruble devalued
by 75 percent, and the rate of inflation increased from 6 percent
annually to 60 percent?
CONCLUSION
The
U.S. government and the IMF may have committed one of the largest
blunders in the history of international financial assistance by
lending to Moscow's corrupt government and the Russian Central
Bank. There are strong indications that a significant part of that
assistance was abused or embezzled, possibly ending up in bank
accounts in the United States and Switzerland. It is also possible
that billions of dollars were diverted and laundered through the
Bank of New York and other financial institutions. It appears that
the U.S. government, especially officials within the Treasury
Department, and the IMF either applied lax standards for due
diligence and fiduciary duty or did not apply them at all.
Unfortunately, similar scenarios of
massive bailout failure are likely to be repeated in future
bailouts of countries in Asia, Africa, and Latin America. There is
ample evidence of incompetence on the part of decision makers and
corruption on the part of recipients; furthermore, these countries
lack adequate accounting and administrative safeguards. Congress
must ensure that such fiascoes do not happen again.
Dr. Ariel
Cohen is Research Fellow in Russian and Eurasian Studies in
the Kathryn and Shelby Cullom Davis International Studies Center at
The Heritage Foundation.