Download The Black Market Trade Exchange

January 2013
“When the going gets weird, the weird turn professional.”
- Hunter S. Thompson (1937-2005), Fear and Loathing on the Campaign Trail '72
The origins of the black market peso exchange (BMPE) date back to the 1970s when Latin American
drug cartels needed a safe and secure mechanism to transfer their profits from the United States south
to Colombia, Panama and other Latin American countries. The United States Drug Enforcement
Administration (DEA) has described the BMPE as “…the largest known drug money laundering
mechanism in the Western Hemisphere.”1 Despite the efforts of law enforcement and bankers, the
BMPE continues to evolve, with variants of the typology appearing around the world.2
The recent regulatory action against HSBC was the subject of a special report by Reuters3 which
describes a BMPE far more advanced than its original 1970s format. Financial institutions and their
customers engaged in international trade may wish to consider bolstering their defences against this
new threat to their businesses and reputations.
The original BMPE was fairly straightforward it its operation. During the 1970s and 80s, drug cartels
generated large amounts of USD cash from the sale of narcotics within the United States. The cartels,
based primarily in Colombia, had operating liabilities in Colombian pesos, therefore some sort of
foreign exchange transaction was necessary. At the same time, importers based in Colombia held
pesos but needed United States dollars and other hard currencies to buy their goods for sale in the
domestic market. Using official foreign currency channels meant pre-payment of duties and taxes,
creating an audit trail for tax assessors that may come to haunt the importer later on.
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The Black Market Trade Exchange
Compounding the problem was foreign exchange trading restrictions imposed by Latin American
governments after the debt crisis of the 1970s. Central banks sold United States dollars at artificial
rates in order to protect the domestic currency from hyper-inflation, a restriction that alone would
immediately create a black market. Hyper-inflation forced consumers to exchange their pesos for
dollars regularly, otherwise their savings would be shredded by the plummeting peso. The official
channels open to importers for acquiring dollars were simply too onerous.
For enterprising individuals and firms willing to deal with organisations lurking in the shadows, a
market was created for matching sellers of dollars in the United States and buyers of dollars in
Colombia. These currency brokers were current or retired bankers, stockbrokers, accountants, lawyers
or people with existing foreign currency exchange houses who wanted to earn money off the books.
1
www.manchestercf.com
http://www.justice.gov/dea/pubs/pressrel/pr061405p.html
http://www.justice.gov/usao/cac/Pressroom/2012/021.html
3
http://www.reuters.com/article/2013/01/02/hsbc-idUSL1E9C10CC20130102
2
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The principle behind the BMPE was a transfer of ownership of dollars in the United States for pesos in
Colombia, a transaction easily handled over the telephone between buyers and sellers who can trust
each other. Trust can become subjective when one counterparty starts waving a machine gun,
however the major players in the BMPE system understand the reputational risks of damaging
counterparties by non-payment or non-delivery of funds.
One of the weakest links in a traditional BMPE exchange was placing the vast sums of cash into
American banks for transfer to hard currency buyers. Enterprising criminals employed herds of
"smurfs" to make multiple deposits under USD10,000 in order not to trigger large cash transaction
reporting by the bank, or to buy travellers cheques, money orders or cashiers cheques for cash for
eventual deposit into a bank.
Once inside Mexican territory, the cash would be placed within a national Mexican bank (or perhaps
a small bank located in another Latin American country), as anti-money laundering defences within
these financial institutions are generally less stringent than in other countries.
The Reuters report mentions that some branches of the cartels didn't rely on small domestic banks to
handle the tsunami of cash but rather the Mexican operations of HSBC, one of the world's largest6
international banks. The Reuters report paints a grim picture about HSBC Mexico's level of antimoney laundering compliance:
The situation was so bad, according to the Department of Justice, that in 2008, the head of
HSBC's Mexican operations was told by Mexican regulators that a local drug lord described
the bank as "the place to launder money."
What is so extraordinary about the revelations within the Reuters report is not just the laxity of HSBC's
anti-money laundering defences but rather the fact that the drug cartels are not longer in the business
of just selling their surplus USD by means of a BMPE but rather setting up corporations to purchase
goods overseas for import into the Latin American marketplace as a means of laundering their USD.
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Greater enforcement of anti-money laundering defences within American banks led to a decline in the
effectiveness of smurfing, forcing money launderers for the drug cartels to seek alternative methods.
The cartels were left with little option to employ the same smuggling techniques for narcotics into the
United States to smuggle bundles of cash out of the country and into Mexico. The 2010 report4 by
Douglas Farah outlines the high level of sophistication involved in bulk cash smuggling into Mexico.
The seizure5 of USD207-million in USD banknotes from the residence of Zhengli Ye Gon, a Chinese
businessman and importer of the chemical precursors of methamphetamine, provides an indication of
the sums of money involved.
If drug cartels offer imported "...computers or washing machines..." for sale in Latin American markets,
they have the ability to use illicit funds placed within banks to enter into international trade
transactions with exporters around the world.
The corporate vehicles employed by the drug cartels would either pre-pay for their goods shipments
into Latin America (a poor decision for an illicit business trying to appear legitimate) or open letters of
credit in favour of legitimate exporters. Corporate banking relationships would need to be formed
with these black trading companies, suggesting that the firms managed to bypass Know Your Customer
and other forms of due diligence by bank managers, the foundations of anti-money laundering
compliance for most banks.
Worse is the fact that the normal indicators of BMPE activity for banks - cash transactions for
international trade or elaborate endorsements of cheques and bank drafts, amongst others - do not
apply. Both the exporter and the importer can project an air of legitimacy into the transaction,
especially if the issued letter of credit is from a reputable financial institution, such as a branch of an
4
www.manchestercf.com
http://www.strategycenter.net/docLib/20101113_MoneyLaundandBulkCash_Farah.pdf
http://www.washingtonpost.com/wp-dyn/content/article/2007/07/24/AR2007072400150.html
6
http://www.bankersaccuity.com/resources/bank-rankings/
5
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internationally renown bank. Transactional monitoring for potential money laundering activity within
such international trade would be hard pressed to detect money laundering activity.
The profit margins possible in the international narcotics business are staggering7:
The Sinaloa cartel can buy a kilo of cocaine in the highlands of Colombia or Peru for around
$2,000, then watch it accrue value as it makes its way to market. In Mexico, that kilo fetches
more than $10,000. Jump the border to the United States, and it could sell wholesale for
$30,000. Break it down into grams to distribute retail, and that same kilo sells for upward of
$100,000 — more than its weight in gold.
This new variant of the BMPE is not, in fact, a black market for the exchange of United States dollars
for Colombian pesos, but rather the international sale of consumer goods purchased with illicit funds
to unwitting buyers at sub-market prices. Perhaps this money laundering typology should be named
the Black Market Trade Exchange (BMTE) to expand upon the mere peso brokering of a BMPE.
Banks from around the globe have been fined millions for allowing their operations to facilitate the
BMPE money laundering typology. A common theme emerging from the regulatory actions has been
disclosures by undercover law enforcement that a drug cartel has been laundering the proceeds of
their crimes through a particular financial institution. Once the case becomes public, regulatory
bodies then act upon concrete incidents of money laundering to launch supervisory actions. This
chilling source of anti-money laundering failures by a financial institution is not just common to banks
offering international trade and cash management products but to any financial institution implicated
in money laundering activity by undercover investigations conducted by law enforcement.
As trade-based money laundering typologies become more
sophisticated, financial institutions must respond with
increasingly detailed training programs for their senior
management, frontline staff, risk managers and auditors. Gone
are the days of pasting a few slides into PowerPoint and calling
everyone in for a "lunch and learn". Given the level of
complexity now facing traditional trade finance, supply chain
finance and international payments, regulatory bodies demand
appropriate responses. At the top of their list will be an
evaluation of the training programs implemented throughout the
firm. Mediocrity will be frowned upon in an era of billiondollar fines. As shown by the flurry of recent regulatory actions
against international banks, complacency is expensive.
ManchesterCF produces the Advanced Anti-Money Laundering
Course (Trade-based money laundering) in a variety of formats
that suit large multi-national organisations, from seminars to
integrated computer-based training in a variety of languages. For further information on how this
training program can become a component of your firm's defences against trade-based money
laundering, contact your local ManchesterCF representative.
Copyright © ManchesterCF Consulting Co. Ltd. 2013 – All rights reserved
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The United States Justice Department estimates8 that Colombian and Mexican drug cartels smuggle
between USD18-billion and USD39-billion of cash every year from the United States into Mexico.
Given the sums and margins in the drug trade, it makes perfect sense for corporations controlled by
organised crime to sell their products at a discount in order to ensure fast sales turnover. Such price
competition exacts a punitive costs for legitimate businesses. Smart firms would do well to not stop
their laundering costs at reduced product prices but to pay corporate taxes on the operations of their
international trading companies. After all, after-tax income is the cleanest income money can buy.
ManchesterCF
Suite 501
125-720 King St. West
Toronto, Ontario
Canada M5V 3S5
www.manchestercf.com
7
http://www.nytimes.com/2012/06/17/magazine/how-a-mexican-drug-cartel-makes-its-billions.html
8
http://www.fbi.gov/news/testimony/drug-trafficking-violence-in-mexico-implications-for-the-united-states
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