No expectation that correspondent banking threat will abate soon
In 1990, a two-day drug sting that turned up 2,000 pounds of cocaine stored in a farmhouse in Arizona would shed light on a tunnel which ran 200 feet underground to a home in Agua Preita, Mexico.
The concrete-lined shaft was equipped with a miner-like cart, which was drawn by a pulley system like that of an elevator. On the Mexico side, the tunnel was accessed through a secret entrance, which was located under a pool table and which was activated hydraulically by turning on a water spigot outside of the house.
Investigations revealed that the architect behind the drug tunnel was Felipe de Jesus Corona-Verbera, who was subsequently convicted of his role in smuggling narcotics by a US court. Since then, billions of dollars worth of narcotics has entered the US through similar facilities, including the near-half-mile long tunnel stretching from Tijuana to San Diego found in October.
For the US, consulting firm RAND estimated that US$100 billion was spent by users of the four main drugs marijuana, cocaine, heroin and meth while the United Nations Office on Drugs and Crime placed the retail value of the global illicit drug trade at US$320 billion in 2003, or almost one per cent of global GDP.
The sheer size of the trade, and particularly how its proceeds move around internationally, has thus become a major challenge for banks around the world today.
"Corona-Verbera and his ilk are so good at moving drugs, and the security forces so inept at interdicting them, that the focus of obstruction shifts to the money," according to a Caribbean Policy Research Institute (CaPRI) document circulated at a forum on correspondent banking held in New Kingston on Tuesday.
More specifically, anti-money laundering and counter-terrorism financing (AML/CTF) laws are getting increasingly onerous and compliance costs are rising. The cost of not complying is even higher.
HSBC was fined US$1.9 billion in 2013 for not following regulations on monitoring and prevention of money laundering, after being accused of failing to monitor more than US$670 billion in transactions from Mexico. In 2014, BNP Paribas was fined a record US$8.9 billion in relation to processing billions of dollars of transactions for groups in Sudan, Iran and Cuba.
"When Corona-Verbera was building his tunnel in 1989, bankers could not see how this would be a threat to them," said CaPRI Co-executive Director Damien King in his presentation on the impact of de-banking practices on Caribbean economies.
International banks have been pulling their correspondent banking relationships (CBRs), which entails foreign banks holding deposits owned by regional banks and providing payments and other services to those banks, from groups of businesses in response to increasingly severe AML/CFT measures.
In the Caribbean, where remittances is a significant contributor to the economy, relative low-margin business and high-volume transactions are exposing banks to inadvertent risk of financing terrorism or laundering money, possibly making profit from such activities insufficient to account for the risk, explained King.
There is also no one set of rules to follow.
"There is divergence of regulatory approaches across states, nations, provinces, international jurisdictions," he said. "So one can very well be compliant with one set of standards and be in complete violation of another set."
So correspondent banks are severing risks.
This prompted RBC Jamaica to close the accounts of money service businesses in 2011 and, later, National Commercial Bank Jamaica's decision to exit most relationships with persons holding licences to operate cambios in 2013.
More recently, Jamaica National Building Society's money-transfer business in the Cayman Islands had to find an alternative when Cayman National Bank informed it that its correspondent bank would no longer handle bulk cash business.
"Cayman National Bank cited higher risks for the cash transfers and increasing costs to comply with international rules," said Leesa Kow, managing director of Jamaica National Money Services.
A 2015 World Bank report, titled Withdrawal from Correspondent Banking, showed that half of banking authorities surveyed indicated they were experiencing a decline in CBRs.
"For large international banks, the figures are significantly higher at 75 per cent," said the report. "The Caribbean seems to be the region most severely affected."
In the Caribbean region, 89 per cent of jurisdictions reported experiencing significant to moderate declines in their foreign CBRs.
"Of the 19 respondent authorities, 15 reported significant declines and two others noted a trend towards decline or a moderate decline with no significant impact on the banking system overall," the World Bank report said.
The Caribbean is particularly vulnerable to the withdrawal of correspondent banking, as remittance to the region totals US$10 billion a year; tourism contributes over US$4 billion to Caricom economies alone; and trade in goods represent 97 per cent of GDP of small states. Jamaica's trade represents 91 per cent of its GDP.
"The impact on trade has massive consequences to economies in the Caribbean," said King. "(Studies) show that a 10 per cent increase in remittances results in a 3.5 per cent reduction in poverty."
"It's not just a banking problem," he added.
A number of countries in the Caribbean are still seen by the United States (and among developed economies) as high risk as it relates to the drug trade and money laundering.
Among countries of major concern, the International Narcotics Control Strategy Report for 2015 listed Antigua and Barbuda, for its large financial sector and growing Internet gaming industry; The Bahamas, as a transit point for illegal drugs and its proximity to the United States; CuraÁao, which is considered a regional financial centre and a trans-shipment point for drugs from South America bound for the United States, the Caribbean, and Europe; and, among others, Dominican Republic as a major transit point for the trans-shipment of illicit narcotics destined for the United States and Europe.
Jamaica Banking Association President Nigel Holness said that changing the view of the region as high risk is an important step in addressing the challenge of correspondent banking withdrawal.
Kow believes the closure of accounts by correspondent banks is not just due to perceived risk of the region.
"Those banks which provide correspondent banking services to regional banks also provide banking services to MSBs within their jurisdictions," she told the Financial Gleaner. "Those banks have also terminated significant relationship within their own jurisdictions. It's because they have an issue with certain services."
She added: "It is important for us to assess what the real issue is in relation to why the banks have an aversion to certain sectors."
King agrees that the gathering and sharing of information across correspondent and respondent banks should form a key part of the discussions aimed at addressing the potentially emerging crisis.
The lack of leadership and accountability in the de-risking process, in which correspondent banks terminate or restrict business relationships with clients, and categories of customers, to avoid, rather than manage risk in line with the Financial Action Task Force's risk-based approach, also creates a systemic problem, he reckons.
"Many jurisdictions, at many levels, are implementing rules that overlap and are not necessarily consistent, and international bodies are setting their own rules," the University of the West Indies lecturer said at Tuesday's forum. "The system has no one person, no single entity, province, national, regulatory, or commercial entity that is accountable for the outcome."
He added: "Caribbean regulators and authorities can act autonomously to develop and streamline standards, reduce compliance burden for not only ourselves but for correspondent banks."
Former Barbados Prime Minister Owen Arthur that the creation of the virtual single economy, which the Caricom had set out to do more than a decade ago, would set out clear guidelines concerning the region's financial sector's relationship with the global economy.
"The issue now being grapple with concerning corresponding banking surely must accentuate the need for the Caribbean to have in place mechanism that can allow it to respond on this matter," he said.