CURRENCY Committee on Banking and Financial Services
James A. Leach, Chairman
For Immediate Release:	Contact: David Runkel or
Thursday, April 27, 2000	Brookly McLaughlin at 226-0471

Statement by Representative James A. Leach
Chairman, Committee on Banking and Financial Services
U.S. House of Representatives
Before the Financial Academy
Moscow, Russia
April 25, 2000

Let me say at the beginning how honored I am to be invited to speak before this distinguished institution.

I come as Chairman of the House Banking Committee, but principally as a member of a legislature, which we in America call the people’s body.

I would like to focus my remarks today on three issues: the importance of a strong intermediary financial system to national well-being; the common threat America and Russia face from the danger of money laundering and capital flight; and the future of the U.S.-Russian relationship, particularly at the people-to-people, rather than the government-to-government, level.

In your country as in ours, the start of a new presidential administration is a time of renewal. Coupled with what appears to be greater economic stability and the prospect of some economic growth this year, thanks in part to strong oil prices, this is a propitious moment to discuss the importance of strengthening Russia’s banking and financial system.

I have not come here to tell you how to organize or regulate your banks. Attempts to overlay the system that works in one country onto the practices of another country are presumptuous and almost always result in failure. After all, no two economic systems and cultures are the same.

But in the free-market world of finance, there are some universal principles without which a banking system cannot thrive, and without efficient banks and capital markets, economies simply cannot grow to their potential. What are these universal principles?

One. There must be a commitment to provide a place of safety for savers to put their money, and a place for borrowers to receive credit at non-usurious rates commensurate with market risk. For this to happen, the public must be convinced that their savings will earn a competitive interest rate and have certainty that it will get its money on demand. As many of you probably know, at the apogee of the Great Depression in the U.S. many banks failed and many families lost their savings. We restored the public’s confidence in the banks with a government agency – the Federal Deposit Insurance Corporation – that today insures every deposit up to $100,000. To qualify for this insurance, banks must meet rigorous capital and regulatory standards and submit to regular examinations and audits.

Trust is the hallmark of any viable banking and financial system. It cannot be obtained unless standards are above reproach and there is an assumption that financial institutions have as their mission protection of the saver and advancement of the economy.

In this regard, it would appear in recent years that rather than recycling the saved dollars of the public into entrepreneurial loans for small business and housing, too many Russian banks have used the public’s funds to concentrate assets in their own names and transferred monies out of the country, sometimes out of an understandable desire to protect against inflation, sometimes as an effort to evade the law or protect ill-gotten gains. But whatever the reasons, the Russian economy cannot grow unless the people are allowed to control their own destiny and this cannot occur with reliance on foreign investment to replace capital flight.

Two. There must be financial diversity. People from outside Russia frequently point to the need for the country to develop laws and protections to encourage foreign investment – and I share their concern – but I also believe that of particular need in Russia today is the establishment of indigenous institutions to provide small business and micro-credit loans. Healthy economies have a variety of institutions from credit unions to money center banks, from securities firms to insurance companies, each tailored to market niches.

Having alternative means to channel an economy’s savings into capital investment expands competition to the benefit of consumers and offers a set of backup facilities should the primary form of intermediation fail. During the global financial crisis of the summer of 1998 in the United States, for instance, banking displaced part of the capital markets while in the U.S. Savings & Loan crisis of the 1980s, and in the Swedish banking crisis of 1992, the capital markets, largely unaffected by a decline in real estate prices, were able to substitute for a reduction in financial intermediation from traditional sources.

Three. Prompt corrective action is preferable to deferring financial accountability. The speed with which the Swedish banking system overcame its crisis in the last decade offers a telling contrast with the prolonged difficulties of Japan, whose financial system is hallmarked by the dominance of bank lending and keiretsu conglomeration.

Four. There must be capacity to interact with the world on a trustworthy basis. Banks have to serve domestic depositors and borrowers, but in today’s economy they must also interact with globalized institutions. There can be no credible interaction unless and until a system of regulation characterized by transparency exists. A challenge for the U.S. as well as Russia is to review the role of off-shore jurisdictions, such as in the Caribbean and South Pacific, and the question of whether countries which lack prudential regulation and cater to ill-gotten assets should be used by or have access to the banking systems of advanced societies. Banks must not become silent accomplices to attempts to circumvent the law.

Five. A strong financial system requires a strong independent central bank. Arguably, the most innovative institutional step taken by America in the 20^th century was the establishment in 1913 of the Federal Reserve System. The delegation by Congress of monetary policy and certain bank regulatory authority to the Federal Reserve was a recognition that legislative bodies didn’t have the professional capacity to deal on a daily basis with modern finance and a reflection that monetary policy and bank regulation should be above politics.

During the Cold War, when national security was the central concern, secrecy in certain areas may have been of paramount importance in protecting a country’s citizens. Now that economic issues have become paramount, transparency holds the key to protecting individual citizens.

Six. There must be a credible legal framework to protect property, contracts and, in the securities area, the rights of minority shareholders.

Seven. Conglomeration of banking and finance ill serves the public. One of the lessons of the banking and financial crises of recent years is that difficulties in an economy are magnified when banks, instead of serving as neutral providers of credit, are involved in commercial investments.

Last year, I shepherded a law through Congress, the Gramm-Leach-Bliley Financial Services Modernization Act, that overturned legislation that shaped the U.S. financial services industry throughout much of 20^th century. This new legal approach removes restrictions placed on commercial banks in the uncertain days of the Great Depression and allows banks to expand into insurance and securities activities. But while expanding the scope of financial activities banks are authorized to enter, this new modernization law strengthened the divide between commerce and banking and precludes banks from intertwining with commercial companies.

I favor an independent banking system and healthy, vibrant competition within finance, but not a system that leads to an unseemly concentration of asset ownership.

I see no economies of scale and no benefit to the consumer if, for example, Citigroup were allowed to merge with General Motors and Wal-Mart in the United States. On the other hand, economies of scale can be developed when a commercial bank is allowed to offer securities and insurance services, and vice versa. The recently passed Financial Modernization bill is a three-way street for competition within the financial industry. It is also a roadblock to the kind of cross-ownership that characterizes the keiretsu model of Japan, and the banking and commerce model that has developed on parts of the continent, which has stultified aspects of the German economy and cost the Spanish and French as well as American taxpayers in the S&L crisis billions of dollars to rescue banks which imprudently thought they could invest in and manage well commercial enterprises.

During America’s "Gilded Age" in the late 19^th and early 20^th century, a dangerous concentration of economic power developed and the federal government generally aligned itself with big business. But in 1902, a Republican president named Theodore Roosevelt took the offensive against powerful corporate trusts. He convinced Congress to create a Bureau of Corporations to regulate big business, then shocked the nation by bringing an antitrust suit against J. P. Morgan’s Northern Securities Corporation. Regulating the great business trusts to foster fair competition without socializing the free enterprise system was one of Roosevelt’s primary concerns and great legacies. Even in today’s fast-moving "new economy," the U.S. government is wary of power concentration, as shown in the legal challenge against the Microsoft software empire of Bill Gates.

Bank Scandals and BONY

Let me say a few words about the Bank of New York. I know this case has been the subject of interest and concern here. Last September when the House Banking Committee met to consider issues relating to the global money laundering threat – which the IMF quantifies as 3 to 5 percent of world GDP, a matter of at least $600 billion a year – our focus was on allegations of suspicious transfers of funds from Russia to accounts at one of America’s oldest and most venerated financial institutions, the Bank of New York.

Questions have been raised whether illegalities occurred in these transfers.

This February, the Federal Reserve and New York State Banking Department took supervisory action against the Bank of New York requiring it to implement new procedures for detecting suspicious activity. These were plainly lacking during the three-year period in which some $7 billion flowed through its accounts from dubious Russian sources. Well over half of these funds were at some point wired through the island Nauru, a speck in the South Pacific with a population of 11,000 people never known until now as a financial center. More recently, Lucy Edwards, a former BONY executive and her husband, Peter Berlin, plus another BONY accomplice, entered guilty pleas in federal court to a variety of charges, including conspiracy to commit money laundering and aiding and abetting Russian banks in conducting unlawful and unlicensed banking operations in the United States.

The House Banking Committee is focusing on the Bank of New York scandal because it is my belief that this matter raises fundamental issues, including the extent to which access to the Western financial system has contributed to the impoverishment of the Russian people. Processing transactions involving the proceeds of crime, corruption and law evasion, including the avoidance of taxes and customs duties, invoke the specter of large-scale disregard for civil governance. The possibility of infiltration of the American financial system by corrupt enterprises abroad is not a threat that Congress can ignore and the probability that this capital flight is destabilizing the economy of a great country, our most important ally in the greatest war of the 20^th century, is disturbing.

The deputy chairman of your central bank was quoted in the Washington Post as estimating that in 1998 alone, $70 billion was transferred from Russian banks to accounts of banks chartered in Nauru. Nauru’s banking system, characterized by draconian secrecy laws and minimal regulatory oversight, was described in a 1999 State Department report as extending "an open invitation to financial crime and money laundering."

For many, money laundering is a seemingly modest offense. But in reality it reflects deeper problems in society and opens a window into greater crimes that can have serious geopolitical as well as economic ramifications. The Bank of New York case highlights the need for a U.S. foreign policy aligned with the interests of the Russian people, not a commercial elite of either country. The goal should be to insist that the stolen assets of Russia are returned to the people.

Recent years have witnessed the mushrooming of conflicts of interest involving monetary elites in all countries. But some progress has been made in introducing transparency and openness into the offshore financial sector, and several jurisdictions previously notorious for offering safe haven to criminal proceeds have executed Mutual Legal Assistance Treaties with the U.S. authorizing the exchange of information and evidence in criminal investigations. A growing number of offshore jurisdictions have enacted meaningful anti-money laundering statutes that conform to internationally recognized standards. However, even with laws on the books, there remains a serious question as to whether there exists either the political will or the legal infrastructure to enforce those laws, particularly given the sheer volume of activity being conducted offshore. For financial crimes to be properly pursued cooperation is needed in all jurisdictions. For instance, in the Bank of New York as well as the Mabetex case, prosecutors require key evidentiary material that exists principally in Moscow. Given the wealth transfers of the past decade and the attendant capital flight, few countries have greater self-interest in asserting claims to stolen assets than Russia.

Hence, it is troubling and ironic that the U.S. Department of Justice is having difficulty getting full cooperation from Russian counterparts.

Further complicating the international anti-money laundering effort is the dynamic nature of the offshore market. No sooner does one jurisdiction commit itself to meaningful counter-measures against money laundering than another pops up in some other corner of the globe to service the business flushed out of the first locale. Indeed, in recent years, U.S. authorities have noted a migration of unsavory operators from havens in the Caribbean to remote islands in the South Pacific – such as the aforementioned Nauru – that did not even register on their collective radar screens five years ago.

It is self-evident that in an independent global economy with fewer and fewer barriers to capital flows, an international anti-money laundering regime is only as strong as its weakest link. Accordingly, the U.S. and its allies in the anti-money laundering fight have little choice except to embrace multilateral and bilateral strategies designed to encourage jurisdictions that have been "missing in action" in this fight to adopt the necessary legal reforms and dedicate the necessary resources to supervising their financial sectors.

The kinds of legislation that countries like Russia may well want to consider are prohibitions against monies being deposited in jurisdictions which lack credible regulatory standards. Indeed, a case might be made, as in many western countries, that public officials should be given incentives to make their own systems work and be barred from holding foreign bank accounts. On the assumption that public service must be about idealism rather than self enrichment and that the public interest should not become co-mingled with private interests, such policies might represent a trust-building step. I don’t know the salary schedules of Duma members and senior civil servants, but sight unseen, I would urge a doubling on the condition that their savings be invested at home rather than abroad.

Russia’s New Opportunities

America’s founders were moral philosophers as well as political activists. To ensure democratic accountability, they recognized the frailty of human nature and bifurcated and decentralized political power.

Following Montesquieu, they established a checks and balances system in which tension would exist and power would be split between Congress, the president, and the courts. This federal system of checks and balances was then duplicated at the state level and again at the county and city levels, where power was substantially devolved. And then through custom, a private versus public sector check came into being with the citizen assumption that no one could actively run a business and also hold a significant government job. Self-interest and public interest were not only deemed incompatible, but running businesses and the government at the same time was considered beyond the ability of any one individual.

Now we are in a world where geoeconomics is fast displacing geopolitics as the driving force of social cohesion or disintegration. The role of government is to protect people, establish and implement fair laws. The work of the private sector is to maximize economic opportunity in such a way that society benefits. Extraordinarily, issues of war and peace as well as economic development are more and more influenced by private sector actions. The business community can bring people together in positive and respectful ways in all reaches of the earth or, instead of becoming the glue, business - particularly the financial sector - can become the tool of international criminality, exacerbating tensions between peoples and states.

It is the duty of public officials in all countries to see that the first scenario comes to pass and that the second does not. The most propitious way to establish free and fair markets is to establish credible law and order at home and then, to the degree possible, build up international law. In the area of trade, the rules that were gradually developed during the GATT rounds that commenced under President Kennedy and that are now the province of the World Trade Organization (WTO) would appear to be benchmarks for modern states. Russia should aspire to the establishment of a system at home which can lead in short order to normalized trade relations with all countries – as symbolized by WTO membership.

John Locke, the English philosopher who so profoundly influenced Jefferson, once noted that what distinguished civil society from a state of nature was the existence of rules to govern disputes and third party arbitration. The focus must remain on law, its fairness, and implementation.

In recent years, Russia has witnessed a dangerous concentration of economic power that not only jeopardizes its people’s dreams for a better standard of living but also makes society vulnerable to the return of repressive politics. What is needed today is a new balancing in society in which political democracy is matched with open, competitive markets.

It took three-quarters of a century for the Duma to replace the Supreme Soviet in the political realm. Neither Russia nor the world can afford so lengthy a transition from oligarchic to competitive free markets.

The rationale for the House Banking Committee’s hearings on the Bank of New York stems not only from its oversight responsibility over U.S. bank regulatory agencies and the International Monetary Fund, but my personal conviction that a key goal of U.S. policy should be to shine the spotlight of accountability on the growing problem of corruption in international finance and endeavor to help return looted wealth to the Russian people.

I first used the term kleptocracy in the mid-1980s in relation to the late Philippine dictator Ferdinand Marcos, his secret ownership of certain property in New York City, and the eventual discovery that his family had plundered the Philippines and transferred several billions of dollars of looted assets abroad. No economy can prosper for long in such a system of crony capitalism, nor can it long be tolerated by the people. The fact that subsequent Philippine governments have filed valid claim to Marcos family assets may be of some relevance to the BONY probe. There is no desire in Congress to embarrass Russia; our inquiries are simply designed to shed light on international financial crime and, to the degree possible, cause any monies stolen from Russia to be returned. In this circumstance, care must be taken to recognize that there is a distinction between money laundering and money transferring and that many Russian customers of BONY and many senior bank officials are not guilty of any criminal behavior.

Here it may be relevant to point out certain aspects of 18^th century American and 20^th century Latin history. As you may recall, the fledging American Republic experimented for almost a decade with a weak executive under what we called the Articles of Confederation. Upon ratification of the Constitution a common market as well as political union between the states was established. The practice of putting levies on the products of states by other states was prohibited, and while tariffs were countenanced with other countries, free trade was established internally in a world in which external trade was minimal. Today in a more globalized economic setting the U.S. has prospered on the general basis of free trade and while angst exists in the American public as in all publics about competition, sometimes unfair, from afar, the assumption is that free trade leads to higher standards of living than systems based on political isolationism or economic autarky.

Protectionism is particularly harmful in the credit, securities, and savings industries because the general economy is so dependent on each. Hence, it is instructive to note that in the U.S. today approximately one-fourth of banking assets and one-third of commercial loans are made by foreign entities. We consider foreign financial competition good for the American economy and believe it is even more so in developing countries where individuals and companies often have no place to safely deposit their savings or seek prudential lending and capital assistance. One of the extraordinary advantages to many countries in welcoming foreign financial institutions is that those institutions come under the laws of their own as well as the host country. Hence, complex legal and other regulatory standards apply to foreign firms even if they do not have to be universally followed by their domestic counterparts.

As for Latin America, much has been written in Russia about the Pinochet model. Actually, the Latin models from which the most relevant lessons exist relate to the concentration of wealth, corruption, and capital flight problems of so many Latin countries in the last century. Capital flight in many circumstances is not illegal and attempts to artificially constrain it often don’t work, but no society can prosper and grow if wealth and savings are diverted to safe havens abroad. It deserves stressing in this regard that, while money laundering is the principal legal issue from an American perspective in the BONY case, money transfers – i.e. quasi-legal capital flight – is the larger problem for Russia.

Societies that allow concentration of wealth and don’t establish democratic institutions and provide legal protections for average citizens are particularly vulnerable because those who come to disproportionately control assets realize they are subject to revolutionary change and propensity to confiscation.

For free markets to work, people must have confidence not only that government may be changed only through the ballot box but that its governors, in the words of Lincoln, "are of, by, and for the people." Elections alone do not define democracy. To maintain democratic legitimacy, governments must be understood to be servants of the people, rather than power brokers for a new oligarchic class.

Conclusion

History, particularly Russian history, has taught us that a great people can rise and face extraordinary hardship, particularly if inflicted by a foreign invader. But society is easily demoralized and splintered if disillusionment develops internally with leaders who do not inspire trust and laws which are not equitably administered. Few countries on the planet have greater potential or greater opportunity than Russia today. Early actions in a new Presidency may be particularly meaningful, as exemplified in the approval of both the START and Test Ban treaties. But while Franklin Roosevelt produced a 100-day model, his was the only American presidency which successfully undertook such comprehensive initiatives in such a short period of time. The challenges for President Putin and the new Duma will be to lead forthcomingly now and sustain momentum for the longer term. Symbolic tokenism and scapegoating will not suffice.

From an outside perspective it appears that Russia’s future is in the balance. The question of whether communism will simply give way to corruptionism is the fundamental challenge that must be addressed. The revolutionary struggle to root out corruption may be more difficult than overthrowing communism because avarice is a more fundamental aspect of human nature than the Marxist precept that people are subject to historical forces beyond individual control.

There are many types of political systems chronicled in Western thought since Aristotle. But history provides no model of a sustainable system where corruption becomes endemic. Compromise is possible on most political issues but on integrity there can be none. Given that Russia, like America, is an expansive frontier country, analogies to the Wild West are much in vogue. At the risk of exaggeration, from the outside it appears that the principal differentiation is that in Russia today the outlaws may be running rather than robbing the banks and the sheriffs may be controlling rather than reporting to the politicians.

The Putin Administration and the new Duma have one of the most notable opportunities in human history to begin anew and write from scratch on a slate that was besmirched in the 20^th century by totalitarian repression, jeopardized by Nazi invasion, and subverted in recent years by a kind of robber capitalism. The heroic people who repulsed Hitler’s army at Leningrad and drove the Wehrmacht back to the Elbe where they were met by General Patton and a regiment led by my father; the people who suffered under Stalinist purges and bravely demanded systemic change, deserve the decency of a new era of honest, individual-rights centered government.

Few people suffered more in the past century or deserve a better fate in this one. I come from the American people’s House simply to underscore that Americans and Russians have common interests and common dreams. We are on the side of the Russian people. We want you to succeed.