Did Misapplication of Patriot Act Section 311 Investigations Lead America into a North Korean Cul de Sac?

A relatively obscure advisory on the Department of the Treasury website offers evidence of the hardliners’ determination to implement a financial blockade of North Korea in 2005-2006.

On December 13,2005, two months after the Patriot Act Section 311 investigation against BDA was announced, Treasury issued an advisory entitled Guidance to Financial Institutions on the Provision of Banking Services to North Korean Government Agencies and Associated Front Companies Engaged in Illicit Activities.

It stated :

This advisory warns U.S .financial institutions that the U.S. Department of the Treasury has concerns that the Democratic People’s Republic of Korea (“North Korea”), acting through government agencies and associated front companies, is engaged in illicit activities and may be seeking banking services elsewhere following the finding of Banco Delta Asia SARL to be a financial institution of “primary money laundering concern”.

Accordingly, U.S. financial institutions should take reasonable steps to guard against the abuse of their financial services by North Korea, which may be seeking to establish new or exploit existing account relationships for the purpose of conducting illicit activities...We encourage financial institutions worldwide to take similar precautions.

An international financial newsletter summarized the advisory for its subscribers with the comment:

We encourage financial institutions worldwide to take similar precautions as those contained in the Advisory. The Department of the Treasury is actively monitoring this situation and will take any further action to protect the U.S. financial system as appropriate.

This advisory would seem to be the missing link between an enforcement action targeting one ostensibly misbehaving institution in Macau and a broad based effort to cut North Korea off from the world financial system in the service of diplomacy, regime change, or something in-between.

The advisory is explicitly linked to the action against BDA, with the clear implication that banks that allow transactions through existing North Korean accounts, or allow the opening of new North Korean accounts will find their heads on the chopping block next.

Connecting the dots from the Banco Delta Asia precedent, it is apparent that the threat to other banks would be a Patriot Act Section 311 investigation like the one announced against BDA, which had sparked a run on the bank, its takeover by Macau regulators, the freezing of 51 accounts linked to North Korea at Treasury’s request, and what turned out to be 18 months of legal limbo.

Examining how that advisory was put into effect illustrates the legal and diplomatic pitfalls of exploiting Patriot Act Section 311 investigations as a tool of de facto economic sanctions, and provides a perspective on the embarrassing three month fiasco of Banco Delta Asia’s “tainted” funds.

The Treasury Department has always taken pains to indicate that the Patriot Act Section 311 investigation against BDA was “not a sanction”.

That’s probably because a PA 311 investigation, as was later revealed to the Bush administration’s chagrin, is not a particularly applicable or appropriate tool for applying economic sanctions against a country or even against a targeted account holder.

Patriot Act Section 311 is meant to be applied selectively by the United States in response to conditions at specific financial institutions and legal jurisdictions in order to perfect and maintain the integrity of the US financial system.

It isn’t a sanction, and it is not a viable substitute for explicit, enforceable, and rescindable global U.N. sanctions—legitimized by transparency, negotiation, and international buy-in--against an outlaw regime.

The target of a PA 311 investigation is a bank or jurisdiction whose anti-money laundering (AML) laws, processes, or controls are deemed inadequate by the Treasury Department.

At the heart of anti-money laundering is the demand that financial institutions “Know Your Customer” (KYC) and use due diligence concerning the identity of its accountholders and the sources and destination of their monies in deciding whether to open and maintain accounts or handle transactions.

Understandably, Patriot Act Section 311 says nothing about freezing accounts in foreign banks overseas, or prohibiting them from handling funds outside U.S. territory. The U.S. government can’t do that, for reasons of jurisdiction, sovereignty, and due process.

However, it’s easy—perhaps too easy—for the U.S. government to use the threat of a Patriot Act Section 311 investigation to exploit the risk averse character of overseas banks and discourage them from doing business with certain customers.

Banks around the world are guided by U.N. and national sanctions lists, their own law enforcement agencies, and private sector firms like World Check to decide which crooks, kleptos, terrorists, and proliferators should be barred from their institutions.

They also rely on the United States, which considers itself the lawgiver in international finance, is very much the moving spirit behind efforts to create a seamless worldwide information web to snare money launderers, and maintains a aggressive, high profile intelligence operations—FinCEN and OTFI--to support its AML activities.

But it looks like the PA 311 process got hijacked by OTFI (Office of Terrorism and Financial Intelligence, run by Stuart Levey and Daniel Glaser with the stated intention of using these tools aggressively against America’s enemies) for some serious Nork bashing.

And it also looks like OTFI put Treasury’s credibility—and the legitimacy of the Patriot Act Section 311 process—at risk for a dubious cause, threatening overseas banks with destruction in the service of a unilateral U.S. North Korea policy that had not even been clearly articulated within the administration, let alone announced and explained to the world.

In this situation—a policy muddle and a secretive effort to misapply an existing regulatory capability to a secret and perhaps unrealistic objective—it is understandable that OTFI had to drive the point home in person to foreign banks too obtuse or bewildered to get the message.

Subsequent to the issuance of the December 2005 advisory, Stuart Levey and Daniel Glaser roamed the earth putting the fear of the U.S. Treasury into banks that otherwise might have been willing to give North Korea the benefit of the doubt and do some business.

As reader LR kindly pointed out to me, Congressional Quarterly reported that one Boiko Borissov, a leather-jacketed oaf who is positioning himself to become our treasured asset in Bulgaria, found out that America’s appreciation does not encompass letting his girlfriend’s bank play footsie with Pyongyang:

During a private meeting in Washington last February [2006—ed.], Deputy Treasury Secretary Robert M. Kimmitt warned Bulgaria’s Finance Minister that the Economic and Investment Bank (EI), chaired by the girlfriend of powerful Sofia mayor and presidential aspirant Boiko Borissov, was a target of a North Korean money-laundering effort.

And let’s not forget Mongolia:

Mongolian cabinet ministers, senior officials, and representatives of the banking and financial sectors met with Daniel Glaser, U.S. Treasury Deputy Assistant Secretary for Terrorist Financing and Financial Crimes, during his recent visit to Ulaanbaatar to discuss how possible money-laundering, counterfeiting, and smuggling activities in the country could be stopped.
...

It is believed that he also met with representatives of local commercial banks and non-banking financial institutions. Onoodor daily reported on Tuesday that some Mongolian commercial banks were under suspicion of involvement in North Korean money-laundering, smuggling and counterfeiting activities.

...
“Mr. Glaser discussed U.S. actions to protect the international financial system from abuse by North Korean or other entities engaged in illicit activities. He commended Mongolia for its commitment to ensure its financial system is not abused by North Korea to facilitate such activity. He also discussed the importance for Mongolia to implement an effective anti-money laundering/counter-terrorist financing regime that included a strong legal framework as well as financial supervision and regulatory systems that meet international standards,” the statement said.

Following the Onoodor report that North Korea may have deposited large amounts of money in a Mongolian commercial bank after the USA had frozen certain accounts in Banco Delta Asia, an official from the Golomt Bank told the daily that “no investigation in relation with illegal smuggling of cash deposit has been made at the Golomt Bank. Such misleading media reports against Golomt Bank are being made on purpose to mislead both our local and foreign customers so that they might lose confidence in us.”

Daniel Glaser’s boss, Stuart Levey, rang the changes on Vietnam.

Hanoi, about to host the APEC summit that signaled its new eminence in Asian and world affairs, apparently obliged with alacrity.

From the August 23, 2006 Financial Times :

Vietnamese authorities on Wednesday said only that they were investigating US allegations that North Korean funds had been parked in accounts in the country.

But Peter Beck, a North Korea expert with the International Crisis Group, said he was told by the expatriate general manager of North Korea’s Daedong Credit Bank, Nigel Cowie, that Vietnamese banks shut the North Korean accounts several weeks ago.

The step followed a visit to Hanoi by Stuart Levey, the US Treasury official overseeing Washington’s crackdown on international banks working for North Korea.

And for good measure, Singapore felt some heat:

Since the North Korean regime lost the window on the world's financial institutions that it maintained through banks in China's Special Adminstrative region in Macau, the DPRK has accessed Western banks through a bank in Singapore. This information was made public this week in South Korea, and was reputedly obtained from a reliable United States source.
The name of the Singaporean bank has not been disclosed to the public, but it was stated that it is on an American "watch list." In the recent past. American authorities have chosen to leak important information about North Korean banking activities through South Korean media.

So there's a "watch list". Maybe getting put on the "watch list" is a warning to shape up or else the Section 311 hammer gets dropped.

Indeed, in response to OTFI’s AML crusade, even the North Koreans got into the act, passing their own anti-money laundering law.

Laughable perhaps, it represents another ignored attempt by North Korea to engage Washington on this issue, which was probably at the core of Treasury’s strategy for most of 2005 and 2006:

The legislation, adopted by the standing committee of the North's Supreme People's Assembly in October last year[2006—ed.], bans financial transactions involving illegal earnings, NIS [South Korea’s National Intelligence Service—ed.] said.

The law pertains to earnings from illegal trade in drugs, counterfeit currencies, weaponry, real estate and precious metals, it said.

It also obliges North Korean financial institutions to stop allowing bank accounts under any alias; to verify suspicious funds, and to report money laundering cases, NIS said.

"The North Korean enactment seems aimed at settling the BDA (Banco Delta Asia) issue by introducing a transparent institution to meet the international standards in its financial transactions," it said.

A general picture emerges.

The December 2005 Advisory appears to represent an overt politicization of Patriot Act Section 311 actions.

Instead of targeting individual banks or jurisdictions for derelictions in their anti-money laundering controls, Treasury appeared to overstep its Patriot Act Section 311 mandate by telling banks overseas—in the absence of international or national sanctions or local enforcement actions—not to do business with any North Korean account holders or else suffer under the U.S. assumption that they are money laundering.

I’m speculating—and I don’t think I’m out of line here—that there were sticks brandished (i.e. threats of Patriot Act Section 311 actions).

To make sure life becomes very difficult for North Korea, OFTI dispatched Stuart Levey and Daniel Glaser to the obscure corners of the world to tell little banks that might welcome some Nork business to back off (and it is perhaps significant that we never heard much about successful moves against China and Russia, North Korea’s main banking partners).

This high-powered whack-a-mole strategy was clearly in the service of a diplomatic (or undiplomatic) strategy of financially isolating North Korea, as opposed to efforts to perfect the web of international AML laws, procedures, and alliances.

I’ll also speculate that, since this was a foreign policy power play against North Korea and not a straight, above-board enforcement action against non-complying banks, that the documentary support for U.S. demands may sometimes have been a farrago of allegations, expedient assumptions, and selectively edited data that the Brits would characterize as a “dodgy dossier”.

In the Bulgarian case, the head of the bank called out the U.S. Treasury Department, which apparently did not back up its allegations of North Korean activity with any hard evidence.

EI Bank board Chairwoman Tsvetelina Borislavova... said the tip was based on “false information” concocted by political enemies of her boyfriend Borissov...
Borislavova said the bank had thoroughly investigated the allegation and found that “there has never been any account opened by a North Korean company or a joint venture company” in the bank.
...
Borislavova added angrily that she was “disappointed that high U.S. officials had passed along false “rumors” and ”gossip” about North Korean involvement with the EI bank, Bulgaria’s second largest.

She singled out [Treasury Deputy Secretary] Kimmitt for criticism, saying “the next time” U.S. officials repeated such allegations she would “make a statement to the U.S. ambassador” in Sofia.

A Treasury official at first declined to discuss the particulars of Kimmitt’s meeting with the finance minister, saying such details were “classified.”

But informed of Borislavova’s remarks, the official e-mailed a statement on condition of anonymity. “Deputy Secretary Kimmitt and Minister Orescharski discussed our mutual obligations to protect the global financial system from the illicit conduct of North Korea and Iran, pursuant to U.N. Security Council Resolutions,” it said.

“Both officials reiterated the need to remain vigilant in making the financial system inhospitable to illicit money flows.”

Not much of a rebuttal. The article continues:

Whether Bulgaria’s own financial investigators had uncovered evidence of North Korea’s alleged interest in the EI bank could not be learned.

Not much so far. Well, what juicy tidbits did get leaked to the Congressional Quarterly to explain the case against EI?

Apparently a third-party private report for a Swiss concern:

The 3-inch-thick report, compiled by a team headed by a former top U.S. law enforcement official, also said Sofia Mayor Borissov had “a documented history of business affiliations with persons who are alleged to be the top leaders of organized crime in Bulgaria.”

The dossier included details on suspected criminal associates of Borissov, who years ago was chief bodyguard for Bulgaria’s last communist dictator. It also lists 28 underworld-connected “assassinations” that remained unsolved during his four-year stint as chief of staff of the Interior Ministry.

In other words, plenty of tittle-tattle about what a dirtbag Borissov seems to be, but apparently nothing about North Korea.

In the Mongolian case, if we were providing intel to the local regulators, it was apparently not of the best:

A member of the U.S. Treasury Department delegation, who had been a Peace Corps volunteer in Mongolia in 1998-2000, told Onoodor in a telephone interview that they “met the President of Bank of Mongolia and representatives of 13 commercial banks of Mongolia, to talk about money laundering.”

Some Mongolian commercial banks have correspondent links with North Korean financial institutions. Some officials of the North Korean Daedong Credit Bank (DCB) were arrested by police and intelligence agents at the Chinggis Khaan International Airport in Ulaanbaatar on February 21, 2006, and charged with importing counterfeit currency to the country. The North Koreans, who all held diplomatic passports, said the US$1 million and JP¥20 million that they were carrying was meant to be deposited at the Golomt Bank. The entire amount was taken to the Bank of Mongolia, where the authenticity of the currency notes was checked.

The bank later claimed that the accusation of counterfeit notes had been proved false. In a press release, it said, “On March 7, after holding the cash for 14 days claiming they were still checking it, Mongolian intelligence officials in a meeting with DCB representatives finally conceded that all the notes were genuine; the cash was released. The money was deposited with the Golomt Bank of Mongolia on March 9, as had originally been intended.”

Nigel Cowie, general manager of Daedong Credit Bank, wrote on an Internet web site that the “funds were the proceeds of legitimate business activities by DCB’s known foreign customers, and Daedong Credit Bank followed all the laws and procedures required by Mongolian authorities for such cash deposits. The seizure of the funds, and the subsequent leaking of false information to the media, damaged the reputation of both Daedong Credit Bank and the Golomt Bank of Mongolia.

“We discussed in detail with them [Golomt Bank officials] procedures for handling cash transactions in a legally correct manner. We also provided them with a copy of our anti-money laundering procedure manual, a manual that, incidentally, had been accepted by our other correspondent banks.”

The DCB opened accounts with Golomt Bank at the end of last year, after its accounts with Banco Delta Asia in Monaco were frozen. Daedong Credit Bank, established in 1995, is a majority foreign-owned joint venture retail bank based in Pyongyang.

Daedong Credit Bank, of course, is the enterprise owned by Colin McAskill’s group, and also had $6 to $7 million frozen in Banco Delta Asia. It’s intended to be a flagship for foreign investment in North Korea’s economy, and a sign that it’s OK to do business with Pyongyang.

Yes and that’s the same Nigel Cowie who was the source for the FT article on Vietnam.

You’d have to think that the U.S. government wanted to make it impossible for Daedong to transact its (legitimate) business internationally, and American efforts to get the Macau account of a foreign-owned retail bank frozen, and its cash deposit in a Mongolian bank confiscated, and quite possibly to get its account closed in Vietnam, were not simply coincidental examples of U.S. AML zeal.

Indeed, this serial harassment of a legitimate enterprise—moreover one that was in the vanguard of North Korean economic reform and opening to the outside—makes the U.S. campaign look like a cynical, dishonest, and rather shoddy effort to abuse the significant—and important--powers of Patriot Act Section 311 for unacknowledged foreign policy ends.

It will be interesting to see if Colin McAskill ever decides to tell his side of the story.

The revelation that Daedong was trying to make a cash deposit brings me to another interesting implication of the Treasury Advisory against North Korea:

It takes the “fun” out of “fungible”.

Under normal circumstances, cash is king.

But when anti-money laundering is involved, cash is at a disadvantage.

Cash has no provenance, no transaction history, and it can’t be proven not to be illicit.

Any bank that is under the American anti-money laundering microscope vis a vis North Korea is not going to let some North Korean guy with an ill-fitting grey suit and a bad haircut deposit a suitcase of cash in an account.

So that makes me think that America’s generous offer to let the North Koreans withdraw the BDA funds in cash was really...not so generous.

The intent was that North Korea would have to take the money back to Pyongyang and sit on it, because no foreign bank would dare to handle it.

Which brings me to the real significance of the Federal Reserve transaction channel for the BDA funds:

It restored order and normalcy to the international banking system.

Patriot Act Section 311, which was designed to reform banking procedures, turned out to be a crude and unresponsive tool for cutting North Korea off from the world banking system.

When the BDA issue was stalemated, international banks were in a quandary.

They had North Korean funds but were afraid to move them. And the North Koreans were unwilling to withdraw them.

The Know Your Customer procedure, with its implicit blacklist, that OTFI had found so useful in getting risk-averse banks to back off from North Korean business, offered no recourse.

Given the year of relentless jawboning that Mr. Levey and Mr. Glaser had devoted to intimidating overseas banks considering North Korean business, perhaps even the withdrawal of the December 13 advisory, as inconceivable as that would be, might not have persuaded the banks that it was safe to do business with North Korea.

OTFI might have considered that a feature, not a bug, but with North Asian diplomacy dead in the water, it finally became an embarrassment and the Bush administration and Treasury finally acted to break the impasse.

North Korean money isn’t necessarily "tainted".

Arguably, the world financial system was tainted by America’s opportunistic and perhaps abusive application of its intimidatory power under Patriot Act Section 311 to harass North Korea.

And the U.S., through three months of defiant recalcitrance on BDA, had demonstrated to the world’s satisfaction that the Treasury Department had no intention of revising or withdrawing its advisory and was determined to reserve its right to target any commercial bank that had the temerity to do business with North Korea.

Now, however, the Fed route used for the BDA funds demonstrates to international banks and to North Korea that there is a process—albeit an awkward one requiring government intervention--to permit conventional licit financial transactions between North Korea and the international banking community.

When there’s business to be done, not only the North Koreans but the Chinese and the Europeans can lobby the United States to make the Fed route available again.

I doubt anybody really cares about North Korean finances too much, but North Korea has always been a stalking horse for Iran.

I don’t think European banks or governments were at all comfortable with the idea that de facto global economic sanctions against Iran could be imposed unilaterally on overseas banks by the Treasury Department using the club of a Patriot Act Section 311 investigation--perhaps based on unproven and perhaps unprovable allegations.

Now, however, it’s not just a matter of Treasuring imposing unanswerable sanctions on helpless foreign commercial banks; instead, there is now a mechanism available for foreign governments who can, through direct negotiations with the U.S. government, contest Treasury actions they consider an affront to their national sovereignty or policy.

It’s another welcome sign that incrementalism and negotiation—as opposed to an artificial sense of manufactured crisis—is guiding U.S. foreign affairs.

Stuart Levey and Daniel Glaser at OTFI may not be happy that their campaign has failed, their strategy has been repudiated, and the weapon they treasured—the power to threaten a Patriot Act Section 311 sanction—has been stripped of some of its aura of inexorable, implacable menace.

The North Koreans are certainly pleased.

The Chinese and Russians are probably pleased.

Maybe the Europeans are pleased, too.

Maybe even the rest of Treasury is pleased.

And maybe we should be pleased, too.