Message to Wall Street and Pennsylvania Avenue: Bank of New York’s Russian Debacle is but a Symptom of a Larger Problem

(Washington, D.C.): With breath-taking speed, the scandal described by the New York
Times as
“one of the biggest money-laundering operations ever unearthed in the United States” is
expanding with implications for the future position of a major U.S. commercial bank, the
presidential election prospects of Vice President Al Gore and the Kremlin’s
relationships with
the United States, the International Monetary Fund and other benefactors.

The Clinton Administration is in a desperate damage-control mode. Yesterday,
Treasury
Secretary Lawrence Summers was reduced, it seems, to echoing House Banking
Committee
Chairman Jim Leach’s (R-IA) recent admonition that the U.S. should not support future IMF
disbursements to Russia “without adequate safeguards to assure that any funds disbursed are
used properly (and) without adequate accounting for the previous use of funds.” The question
now is: Will the next shoe to drop, in the absence of these and other “safeguards,” be
one
that affects (literally) a host of American equities, via the Nation’s capital markets?

A Bill of Particulars

A recap of some of the relevant highlights of the current drama, which began last month with
the
publication of reports that the Bank of New York (BoNY) was suspected of laundering at least
$4 billion — and perhaps as much as $10 billion — in funds possibly tied to Russian organized
crime and/or top Kremlin officials and their associates, includes the following:

• According to various reports, the BoNY account maintained by the Russian firm, Benex
  Corporation, alone saw over 10,000 transactions involving some $4.2 billion between October
  1998-March 1999. Law enforcement and other U.S. officials, moreover, are currently said to
  be investigating thirty-three companies that have done business with the bank to determine
  whether any others have engaged in suspicious Russian-related financial activity.

• The misappropriation of taxpayer-funded aid flows to Russia from the International
  Monetary
  Fund and the U.S. Agriculture Department has also been alleged. While both agencies have
  vehemently denied such charges, the IMF has admitted that monitoring internal disbursement
  of aid flows has proven to be more challenging than it previously anticipated. In fact,
  according to a Wall Street Journal article of 25 August, investigators have identified
  at least
  $200 million in IMF funds which surfaced in a Russian Channel Islands account for a short
  period before it was diverted to an unknown location. It is impossible to say with certainty
  how much of the more than $20 billion in Western taxpayer funds that the IMF has lent
  Russia since 1992 has met a similar fate.

• Russian organized crime syndicates are not the only entities suspected of laundering funds
  through the Bank of New York, and perhaps other Western financial institutions. President
  Yeltsin’s political “families” — the latter prominently including a number of former
  apparatchiks-turned-“oligarchs” — have also been implicated. Of particular concern is the
  apparently deliberate leaking of closely-held Russian plans to devalue the ruble and default on
  some $40 billion in GKO debt. Insider-dealing seems to have contributed to the accelerated
  movement of capital out of Russia that immediately preceded this action taken on 18 August
  1998.

Importantly, much more appears to be in jeopardy than the interests of an American
commercial bank and U.S. and multilateral financial institutions. Consider the following recent
revelations that indicate the U.S. capital markets are also being penetrated by “bad actors” ¹:

• A U.S. company named YBM Magnex — which has been linked to the same
  Russian-owned
  entity, Benex Corporation, that has been accused of facilitating the money transfers via its
  Bank of New York account — was once publicly traded on the Canadian stock
  exchange.
  According to a 19 August New York Times report on the matter, American
  officials believe
  that the YBM case “was one reflection of the success of Russian organized crime in
  infiltrating Western financial markets.”

• On 30 August, USA Today reported a troubling — and possibly related — story
  of Bank of
  New York assistance to another questionable Russian institution, Inkombank,
  in winning
  regulatory approval to sell the Russian bank’s stock in the U.S. equity market via American
  Depository Receipts (ADR’s). It is said to have done so at a time when even Russian
  regulators had the bank under investigation.

According to USA Today, the bank avidly promoted
Inkombank’s 1995-96 bid to sell
bank shares to U.S. investors through the ADR mechanism. According to Russian
investigators cited in the article, Inkombank had “inflated its income in 1995 by tens
of billions of rubles” and had “violated numerous laws and accounting standards.”
Incredible as it may seem, the bank still received permission to trade its ADR’s on the
U.S. equity market in 1996 — even though regulators in Moscow were not the only
ones aware of the apparent scam: The SEC and the Federal Reserve Board
reportedly also received notice of these suspected misrepresentations, as well as
English translations of Inkombank’s financial reports. The bank was declared
insolvent following the Russian financial collapse of last year.

• According to the New York Times of 29 August, investigators suspect
  Semyon Mogilevich, a
  shadowy Russian operative who Western intelligence sources claim is “a major figure in
  Russian organized crime,” is a primary player in the money-laundering scandal. Mogilevich
  is reportedly engaged in, among other activities, international arms trafficking. As the
  Times
  noted: “An F.B.I. report on Russian organized crime said that when the Soviet Union
  withdrew its military forces from East Germany, many Russian generals sold their weapons to
  Mr. Mogilevich, who in turn sold them, at much higher prices, to countries like Iraq, Iran and
  Serbia.”

The Gore Policy Toward Russia’s Systemic Corruption: ‘Don’t Ask, Don’t
Tell’

The Center for Security Policy and its Casey Institute have long been concerned about the
apparent, if (in some cases, at least) unwitting, collusion between the Clinton-Gore
Administration and corrupt elements in both official and unofficial circles in Russia. ² The now-unfolding scandal only serves to reinforce this
concern. The difference is that, today, it is a
widely shared apprehension.

For example, in response to a condescending call published this week in
Newsweek by Deputy
Secretary of State Strobe Talbott — one of the principal architects of the Clinton Administration’s
failed Russia policy — for the world to “calm down,” long-time Washington Post
foreign
correspondent and columnist David Ignatius wrote in today’s edition:

The strategist Albert Wohlstetter ³ liked to
observe that when policymakers talk
about a “calculated risk,” it usually means they haven’t done any calculation.
What they’re really describing is a simple gamble, a roll of the dice. Wohlstetter’s
remark is a useful rejoinder to recent characterizations of the Clinton administration’s
policy toward Russia as a calculated risk — a reasoned bet that the benefits of
economic reform would outweigh the dangers of corruption….

It would be more reassuring if these folks told the truth: Our policy
toward
Russia has been a crap-shoot, and growing evidence — symbolized by recent news
reports on the alleged $10 billion Russian money-laundering operation through
the Bank of New York — suggests that it hasn’t worked….The bottom line is that
Clinton and Gore had lots of warnings about Russian corruption under Yeltsin’s
banner of reform. And the question continues to be: Why didn’t the Administration
do more to stop it? (Emphasis added throughout.)

The ‘Culture of Corruption’

In addition to strengthening an already robust Russian “moral hazard” trap — Russia’s
financial
and political elite are well-versed in capitalizing on Western bailouts — the kind of
non-transparent official relationship epitomized by the secretive Gore-Chernomyrdin sessions
has served to
encourage Russia’s thriving system of corruption by refusing to penalize corrupt financial and
political behavior.

This week’s edition of the Economist gives a name to this sort of relationship
and the behavior it
spawns: a “culture of corruption,” a culture, unfortunately, that extends far beyond Russia. In a
powerful editorial, this respected journal declared:

Far from “civilizing” the wreckage of the Soviet economy, economic transactions
between Russia and the West are running the risk of corrupting the Western side, if
only by forcing it to wink at practices which would be outlawed in more established
economies. There is a particular irony in the fact that one western party is the IMF,
whose stated purpose is to propagate virtues of sound economic policy and good
governance. But if the IMF’s integrity has been compromised, the cause does not
lie in its own sloppy controls; it lies in the collusion of the American and Russian
governments to cover up failures and press the Fund into treating Russian with
greater generosity than its economic performance would warrant. (Emphasis
added.)

The Bottom Line

The multi-billion-dollar scale of this latest financial scam by global “bad actors” in
the U.S.
financial markets calls into question the SEC and other official regulators’ ability to
monitor effectively transactions involving dubious foreign entities — let alone their ability
to protect adequately U.S. investors and depositors, to say nothing of the national
interest.
Among the “follow-the-money” questions which should now be asked are: What were the
precise sources of cash profits being funneled through U.S. institutions? Which specific
individuals and/or enterprises were involved? What policy and procedural changes need to be
made to prevent a repetition of such misconduct?

It is heartening that Rep. Leach’s Banking Committee will shortly be holding hearings (at
this
point scheduled for September 21-23) at which, it is to be hoped, these and related questions
about the emerging scandal and its implications will be addressed. The Casey Institute urges the
Senate Banking Committee — and other relevant panels on Capital Hill (especially
those with
oversight responsibility for arms trafficking and proliferation matters) — to convene their own
companion hearings on this long-neglected subject. As Steve Forbes (the
1994 recipient of the
Center for Security Policy’s “Keeper of the Flame” award) observed yesterday, Vice
President
Gore should properly be among those high-level Administration officials (notably, Strobe
Talbott, Sandy Berger and Larry Summers) called to testify at such hearings.

Such hearings should also give fresh impetus to the need for legislation like “The
U.S. Market
Security Act of 1999″ (H.R. 2204), sponsored by House Banking Subcommittee
Chairman
Spencer Bachus (R-AL) and Rep. Dennis Kucinich
(D-OH). This bill would require an Office
of National Security to be established at the Securities and Exchange Commission
charged
with reporting to responsible congressional committees on a quarterly basis the names of foreign
government-connected entities seeking to enter the U.S. capital markets. Even though the
mandate of such an office would be modest and limited in scope (i.e., a far cry from undesirable
capital controls ⁴), it would send a needed
message to global wrong-doers that the United
States is, at long last, following the money.

¹For example, the issuance of some $800 million in U.S.
dollar-denominated bonds and roughly
$2.5 billion in yen-denominated bonds by arms dealer Wang Jun’s China International Trust and
Investment Corporation.

² For example, see the Center’s Decision Brief
entitled Clinton Legacy Watch # 33: ‘See-No-Evil’ Security
Policy-making (No. 98-D 189, 23
November 1998). It stated, in part:

Today’s New York Times discloses that in 1995 Vice President Al Gore
chose not to
be ‘bothered with the facts’ — even though they called into question the premises of
foreign policy initiative in which he and the rest of the Clinton Administration had
hugely over-invested: a policy of U.S. ‘support’ for Russian ‘reformers’ led by
President Yeltsin and Prime Minister Viktor Chernomyrdin, no matter what. As the
Times put it:

“When the CIA uncovered what its analysts considered to be conclusive evidence of
the
personal corruption of Prime Minister Viktor Chernomyrdin of Russia in 1995, they sent it to the
White House, expecting Clinton administration officials to be impressed with their work. Instead,
when the secret CIA report on Chernomyrdin arrived in the office of Vice President Al Gore, it
was rejected and sent back to the CIA with a barnyard epithet scrawled across its cover,
according to several intelligence officials familiar with the incident.

“At CIA headquarters in Langley, Va., the message seemed clear: The vice president did not
want to hear allegations that Chernomyrdin was corrupt and was not interested in further
intelligence reports on the matter. As a result, CIA analysts say they are now censoring
themselves.”

But the Times report makes clear that the Russians have been making
choices for
years now, many of them seriously wrong. Specifically, under Prime Minister
Chernomyrdin, the Kremlin embraced crony capitalism with a vengeance — the
thoroughly corrupt mutant “market” system that has brought grief to economies
throughout Asia and, most recently, in Russia itself. In fact, Chernomyrdin could have
been the poster-child for this practice of self-dealing and -enrichment at the expense of
the state and its citizenry.

Obviously, the highest levels of the Administration — most especially Vice
President Gore, Chernomyrdin’s interlocutor in a highly secretive joint
commission — did not want to change American policy towards Russia in light of
the thoroughly dishonest character of the government in Moscow. It did not even
want to know about the Kremlin’s dishonesty.

³In 1993, Dr. Wohlstetter was recognized for his innumerable,
brilliant contributions to U.S.
security policy over five decades with the Center’s distinguished “Freedom Flame” award. For a
text of his remarks on that occasion, see Aspin, Woolsey Join Center in Honoring
Albert
Wohlstetter, Winner of the 1993 ‘Freedom Flame’ ( href=”index.jsp?section=papers&code=93-P_81″>No. 93-P 81, 21 September 1993).

⁴See the following Casey Institute Perspectives
entitled Bipartisan Congressional Letter Is
Wake-up Call To State Officials Re: Portfolio Security Concerns ( href=”index.jsp?section=papers&code=99-C_88″>No. 99-C 88, 4 August
1999); Casey Initiative to Increase Transparency Re: Bad Actors’ Efforts to
Penetrate U.S.
Capital Markets Gains Momentum (No. 99-C 80,
13 July 1999); A Job for C.F.I.U.S.:
Proposed Chinese Buy of U.S. Telecommunications Assets Needs National Security
Scrub
(No. 99-C 75, 3 July 1999); and ‘Follow the Money’:
The Next Shoe to Drop on China Scandal
Should be Its Penetration of the U.S. Bond Market (No.
99-C 57, 13 May 1999).