Disruptive influences – at work in Iraq

Money Laundering Bulletin

Ongoing instability, both physical and political, may have blighted attempts to give effect to money laundering and terrorist financing regulations in Iraq but the central bank is determined to push ahead. In a rare interview, Khalid Shiltagh, director general of the country's financial intelligence unit, discussed the proceeds of crime challenges in one of the world's most dangerous jurisdictions; he spoke to Paul Cochrane in Beirut.

Physical risk

Some of the problems Khalid Shiltagh faces are matters of basic security. The Central Bank of Iraq (CBI) in Baghdad lies outside the secure Green Zone. While carrying out the normal functions of a central bank in a war-torn country is clearly difficult, it becomes far more so when the headquarters is put out of action. A suspected arson attack seriously damaged the building in 2008, and in June, 2010, the CBI was stormed by militants wearing army uniforms in an apparent robbery attempt. Coordinated bomb attacks and the fire-fight with Iraqi security personnel left 26 Iraqis dead and dozens wounded.

For the CBI's fledgling Financial Intelligence Unit (FIU), which is was established under the 2004 Anti-Money Laundering Act, promulgated by the then ruling US-led Coalition Provisional Authority, the attacks were a major setback.

“The CBI is currently dispersed in four different locations, which presents some logistical challenges and effects coordination. Our present location is in an old building with one floor for the AML office, but it is not good enough to set up AML and CTF software,” said Mr Shiltagh. “This is temporary as the CBI building is to be finished by the end of 2012 and all departments will gather again. We will probably be one of the first to move in.”

FATF arrives

In the meantime, Mr Shiltagh and his team of around 40 staff are preparing for May's mutual evaluation report (MER) by the Financial Action Task Force's (FATF) regional body, the Middle East North Africa-FATF (MENA-FATF). The security situation means that CBI staff have had to travel to Jordan, Lebanon and Turkey for training. Although the investment in skills is a positive and necessary step, the continuing physical threat has impacted on supervision as well as due diligence and compliance training at 22 private banks, seven Islamic banks and the country's dominant seven state-run banks, which control more than 90% of Iraq's banking assets. Furthermore, there are no effective communication lines between banks and the CBI.

“Banks are facing numerous challenges given the lack of proper and effective supervision, and the need for coordination. We are working to educate the banks and get them more involved while building up our capacity for banking supervision,” said Mr Shiltagh. “On the AML side there has been progress, relatively speaking. We want to penalize non-compliance, which is extremely important for a more stable Iraq to attract foreign investors and institutions. Obviously we have serious challenges to tackle, taken in a background of political bickering and a fragile security situation, which is abused by people for selfish financial gains. We are looking forward to the expertise of the MER (team) to (help us) step up to the challenges.”

Iraq's financial regulators are used to receiving external assistance. Since 2012, the CBI has been provided with US$1.7 billion out of a stand-by International Monetary Fund (IMF) facility of US$3.8 billion to help balance its books and carry out macro-economic policies, on condition that the CBI implements a raft of regulations, including new AML controls. So far, the CBI has only completed half of the required legislative changes.

A prediction

The lack of regulatory progress (coupled with operational challenges) is likely to result in Iraq failing the MENA-FATF's MER, said Mark Dempsey, a former regional director for the Financial Services Volunteer Corps (FSVC), which has worked closely with the CBI for the past three and a half years.

“The MER will fail Iraq. Regulations are not up to speed and staff are not properly trained. There are regulations for the five most common AML cases, but not the procedures to deal with them. Financial education at all levels is missing but, encouragingly, the talent is there. People are hard working and eager to learn. A strategic and carefully considered approach to training needs to applied,” said Mr Dempsey.

Monetary Control

One factor hindering the effectiveness of the country's AML office is government squabbling over the role of the central bank, which has managed to retain a degree of independence through the IMF's backing.

“The AML office is seriously understaffed and it should have a director general– he is called that but not officially as he's not been given the governmental appointment,” said a source familiar with the CBI, who wished to remain anonymous. “A big reason for this is that appointments are blocked by parliament. It is in (Prime Minister Nouri) al-Maliki's interest to control the CBI.”

Indicative of political meddling was the arrest of Hussein al-Uzri, the president and chairman of state-owned Trade Bank of Iraq, for alleged financial irregularities in 2011. Mr al-Uzri, who fled to Beirut and then to London, claims he is innocent and was arrested because he wanted to carry out due diligence on a US$6 billion deal with a South Korean company while the government wanted the deal to be waved through. “It was a manufactured, trumped up arrest,” said the source. “Think what that signals to foreign investors? It is not dissimilar to what happens in Russia.”

Corruption – it's pervasive

Indeed, corruption is an endemic problem, with Iraq ranking 175 out of 182 in Transparency International's Corruption Perception's Index 2011. And as the US State Department notes in its 2011 International Narcotics Control Strategy Report (INCSR), “bank fraud, corruption and organized crime are major challenges which are exacerbated by weak financial controls in the banking sector and weak links to the international law enforcement community.” Such corruption goes all the way to the CBI, according to the source. “Corruption is rife, and in banking supervision, if a bank wants a certain credit rating, it is easy to pay off the supervisor,” said the source.

Under banked so cash-intensive

In addition to questions over AML, the banking ratio is low. According to US government figures, there are 853 bank branches for a population of more than 30 million. To achieve the same bank branch-per-capita ratio of neighbouring Jordan, Iraq would need more than 3,000 branches.

As a result, Iraq is a cash-based society and alternative remittances systems (hawala)  proliferate. While the INCSR notes that “hawala networks, both licensed and unlicensed, are widely used for legitimate and illegitimate purposes,” Mr Shiltagh said that hawaladars have to be registered and a multi-stage regulatory process has been put in place. “The CBI governor has ordered a review of hawaladars' foreign currency options as a monetary tool to meet demand for currencies by the private sector,” he said. “There have been a few abuses here and there, some teething problems, but the sector is well regulated now although it still needs to be better regulated.”

Making money

Smuggling of goods to and from neighbouring Iran, Turkey, Jordan and Syria is rampant with bulk cash smuggling a further concern; stories abound of counterfeiting and forgeries, particularly of the Iraqi Dinar (IQD)10,000 bank note (US$8.51) and US$100 bills. Government sources told the Iraqi press in 2011 that an estimated IQD 7 billion (US$6 million) in forged IQD 10,000 notes came into Iraq from Iran last year, but the CBI claimed, in February, that counterfeiting is within international norms and not as serious a problem as has been portrayed.

“The CBI have a large number of staff to identity counterfeits, in fact more staff doing that – a few hundred - than at the AML office. It is like a garment factory in China with all these women checking cash,” said the source.

Smuggling of US dollars is another matter, likely to remain an ongoing concern given the recent US and European Union sanctions against the Iranian and Syrian banking sectors, which has spurred on demand for the greenback in these countries.

Terrorist financing is a further task for the CBI to tackle. The Interior Ministry reported 293 people were killed in terrorist attacks in January, and on February 24, coordinated bomb attacks killed more than 60 people across the country; Al Qaeda in Iraq claimed responsibility. Iraq has yet to become a party to the UN Convention for the Suppression of the Financing of Terrorism.

The CBI and its AML office face multiple challenges, not least from the government, but much more needs to be done to strengthen Iraq's AML/CTF regime and wider regulatory framework if a broad range of international investors are to be attracted back.

Oiling an open door?

“The CBI governor is a man of integrity and with respect to monetary policy has achieved necessary stability for Iraq. However, more strategic thinking needs to be done at the CBI with respect to institutional reform and consistent training of staff. The AML department, if it is going to be meaningful in its efforts, needs a structured and coherent approach to its formation and staff training. AML round-tables are merely lip service and are not addressing the real deficiencies,” said the source. "Why is there this lip service? The Iraqis feel there is no pressure on them as with the US out of Iraq, American leverage is much less and they are not listened to as much as before. Also, Iraq is not overly concerned that foreign investors have not come in, as, being an oil-based economy (energy accounts for almost 95% of state revenues), international oil companies will pay to get in.”