The international agreement limiting its nuclear ambitions signed, Iran is 'open for business'. But US sanctions remain largely in place, adding to Western banks' caution in dealing with the Islamic Republic, so long a pariah state. The biggest challenge, says Paul Cochrane, will be to reintegrate the country's financial institutions into the international system when they have spent years adapting to and circumventing sanctions.
Financial
sanctions were imposed by the United States following the revolution
in 1979, and ramped up during the Clinton and George W. Bush
administrations. Multilateral sanctions, imposed by United Nations
Security Council resolutions (UNSCRs) and the European Union (EU)
from 2007 onwards, especially in 2011, hit Iran even harder,
narrowing an already limited window to operate in the international
financial system.
“One
of the Iranians' primary objectives was that the financial sanctions
originating from the EU and UNSCRs were removed within the
comprehensive nuclear deal, whereas they were less concerned about US
financial sanctions as Iran has lived with those for over three
decades, and the systems to move around US sanctions have been well
oiled within the country,” noted Emad Kiyaei, executive director of
the American Iranian Council. The Iranians' objectives have been
largely met. The EU and UNSCR's sanctions have been significantly
eased, although crucial designations remain concerning terrorist
financing and human rights. Attention now turns to bring Iran's
outmoded financial and compliance machinery up to current
international standards.
The
Financial Action Task Force (FATF), in October 2015, stated that it
“remains particularly and exceptionally concerned about Iran’s
failure to address the risk of terrorist financing and the serious
threat this poses to the integrity of the international financial
system”. The body warned that if Iran fails to take concrete steps
to improve its CFT regime, it will consider calling on all countries
and jurisdictions to strengthen counter measures against it. The
message was repeated at the February 2016 plenary.
FATF's
hesitation to act is not surprising – it voiced the same concerns
in June 2014, with an October 2015 deadline that passed without any
action - but reform is clearly needed. “Iran's banking sector is in
a difficult situation given they have shouldered the majority of the
burden of the strangling sanctions. Major reforms are required, with
many Iranian economists agreeing that the banking sector is a ticking
bomb in terms of deficiencies and shortcomings,” said Ali Vaez,
Senior Iran Analyst at the Brussels-based International Crisis Group.
Private
enterprise
Part
of the problem is that smaller banks in Iran are almost designed to
be sanctions-busting institutions. The more recent sanctions,
especially those imposed on the Central Bank of Iran (CBI) and major
state banks, forced change on the domestic financial system. “One
phenomenon, witnessed under the (EU and UN) sanctions was the
mushrooming of private banks. The Iranians needed ways to get around
sanctions, so a lot of smaller banks were basically a part of a game
of cat and mouse that allowed Iran to survive the storm of
sanctions,” said Vaez.
The
fledgling institutions developed ties with small and medium-sized
banks in Asia, particularly Malaysia and India, but also Russia, the
United Arab Emirates (UAE) and Oman, to indirectly access the
international system. Creative ways to move money proliferated -
through trade-based money laundering (TBML) and barter, including the
“gold for gas” deals with Turkey, which surfaced in 2014.
Smuggling increased, empowering factions like the Iranian
Revolutionary Guard Corps (IRGC) to take a direct role in the black
market; so corruption spiked to keep trade alive, diverting it
through non-official channels.
The
restrictions imposed on Iran “led to the most comprehensive and
innovative web of ML and circumventing ventures on a national level
in the history of sanctions. The mechanisms for breaking sanctions
have been institutionalised,” said
Kiyaei. “A major cause of corruption, nepotism and cronyism is due
to the reliance on so many players to circumvent the sanctions. It's
a chronic problem, which does not bode well for a more transparent
regulatory system to be put in place.”
Compliance
- a culture of workaround
Any
change in the short term will be difficult. The CBI brought in a
formal AML regime in 2008, but a compliance culture has not been
embedded in financial institutions - unsurprisingly, since many were
previously encouraged to break rules to work around the sanctions.
“There is now a mentality of constantly moving around restrictions,
be it government-imposed sanctions on how to lead your life –
censorship - or sanctions on the central bank, financial institutions
and the economy. This has created, from an anthropological point of
view, a crazy society, a tendency towards circumvention,” said
Kiyaei.
Furthermore,
there appears to be little political room to force through economic
and banking reforms. “The difficulty is that (President Hassan)
Rouhani almost exhausted his political capital to bring about this
nuclear agreement, so there's less appetite for structural reforms,”
said Vaez.
If
there was any doubt about the scale of the task he faces, Iran was
ranked number one in the Basel Institute on Governance's AML Index
2015, as well as in 2014, with the caveat that it was boosted to the
worst spot by lack of data on the sector available from the CBI and
the local financial sector (see my MLB article on Iran in 2014). Gauging
the true extent of Iran's AML deficiencies is therefore difficult:
with its well-entrenched siege mentality, the government in Tehran is
not tuned into transparency.
“When you cut off Iran from the world, the world is cut off from
Iran, so when a major part of the economy goes into the shadows then
regulatory transparency measures are almost impossible to implement.
What is interesting is that the Iranians are obsessed with statistics
– the data is actually pretty decent - just access to it from
outside entities is deemed a national security issue at a time of
sanctions, and there's an access problem as there's no presence of
Western (financial services) outfits,” added Kiyaei.
Iranian
financial institutions have also encountered obstacles when trying to
access lists of designated individuals and entities under sanctions,
because - in a cold irony - the relevant software could not allowed
to be traded under the EU and US sanctions. While this has been
lifted, restrictions remain in be sold to them under EU and US
sanctions. Although this bar has been lifted, restrictions remain on
sale of software with possible nuclear or military application.
“The
Iranians wanted access to the Bankers Almanac (for due diligence in
correspondent banking) but the software vendors were accused of
breaching sanctions. The Iranians have been going around in circles
as they can't buy information to do AML checks,” said Nigel
Kushner, CEO of W Legal Limited in London. “I'd be surprised if the
majority of banks have any reputable screening in place.”
Unacceptable
risk
Iranian
financial institutions are struggling for re-acceptance by their
peers overseas, which might also act as a discouraging break on
moving to adopt international standards and take compliance
seriously. Iran has been readmitted to SWIFT, the secure payments
messaging network used by banks globally, but its banks still need to
find correspondent banks to handle their transactions.
The
newer “private banks haven't necessarily got the knowledge or track
record which some counterpart banks are looking for, so they will
suffer in that aspect. Many (Western) banks are taking the line: the
money we will make is not worth the exposure. I've not seen any signs
of clearing banks jumping back into the Iranian market, and an
additional issue at the moment in London is Iranian banks can't find
a clearing bank,” said Kushner.
Similarly,
Western banks are reluctant to enter Iran amid ongoing uncertainty
over sanctions - whether they might "snap back," as
envisioned in the Joint Comprehensive Plan of Action; the country's
domestic environment; and substantial past fines for violations by US
regulators. “Big banks remain reluctant to re-engage in the Iranian
market out of fear the (nuclear) deal is not as sustainable as it
appears given opposition (by certain political factions) in Tehran
and Washington DC, while banks paid huge fines for previous work with
Iran so are very risk adverse,” said Vaez.
Some
of the fines are fresh in the corporate memory: in November 2015,
Deutsche Bank was fined US$258 million, and in October 2015, France's
Credit Agricole was fined US$800 million by the New York State
Department of Financial Services for violating sanctions on Iran and
Syria. In 2014, France's BNP Paribas was fined nearly US$8.9 billion
for violating US sanctions against Iran, Sudan and Cuba.
These fears are reinforced by US government statements that it is not yet time for business-as-usual with Iran. In addition, past recommendations and regulatory settlements restricting trade with Iran often still stand. “In 2011, the US said Iranian banks were a source of concern for ML, so foreign banks will have to do enhanced due diligence, and secondly, many of the large UK clearing banks have been fined by US enforcement agencies over the past several years and entered into settlement agreements. In many cases they're not to have any dealings with Iran or Iranian banks, and the US said (in January) the easing of sanctions does not supersede these agreements. So some banks have their hands tied behind their backs,” said Kushner.
These fears are reinforced by US government statements that it is not yet time for business-as-usual with Iran. In addition, past recommendations and regulatory settlements restricting trade with Iran often still stand. “In 2011, the US said Iranian banks were a source of concern for ML, so foreign banks will have to do enhanced due diligence, and secondly, many of the large UK clearing banks have been fined by US enforcement agencies over the past several years and entered into settlement agreements. In many cases they're not to have any dealings with Iran or Iranian banks, and the US said (in January) the easing of sanctions does not supersede these agreements. So some banks have their hands tied behind their backs,” said Kushner.
Image via Wikicommons.
