When Donald met Kim - Counter Proliferation Finance within a global banking system

Caleb Hawkins 01.03.2019

Talking with James Emin, regulatory financial crime consultant, about the breakdown of the Hanoi Summit talks and Counter Proliferation Finance within a global banking system.

Can you describe in layman’s terms firstly what is Proliferation Finance and how does it affect the Financial Services market?

Firstly, Proliferation Finance abuses the formal (supervised) global financial system to facilitate and deceive the transfer of value in the pursuit of procuring and moving the components to build, test and deliver weapons of mass destruction. These components are also known as dual use items which are heavily supervised under export control regimes.

Secondly, it impacts the financial services industry as proliferators rely on the formal financial system to act as a high-level, credible conduit to transfer value in the exchange for these dual use items, as well as their transhipment. Therefore, financial services firms are obligated to prevent, detect, investigate and report any activity that they suspect puts their organisation at risk to this abuse.  

What is the current state of global affairs and what does the future hold?

The bilateral talks in Singapore between the US and DPRK (North Korea) may have seemed promising, however, given Thursday’s events in Hanoi this has proven to be no grounds for complacency, talks will continue and are embryonic with concessions still being ironed out. Therefore, a profound and very present priority for the international community is countering Proliferation Finance in all its forms.

On 21st/22nd July 2018 in Buenos Aires, (outgoing) FATF President Sanitation Otamendi (Argentina) hosted a summit of the G20’s Finance Ministers and Central Bank Governors. High up on the agenda was the prioritisation to enhance and work on preventing the financing of the Proliferation of weapons of mass destruction. There was support for revisions to develop and consider detailed proposals for amendments within the framework of FATF and current UN mandates. In Paris, 19th October 2018 – (incoming) FATF President Marshall Billingslea (United States) chaired his first Plenary. A major strategic initiative for FATF was the start of a project considering whether to expand its Recommendations applicable to Proliferation Financing, enhancing implementation of existing obligations and developing best practices to counter Proliferation Financing. Whilst this is primarily to explore deficiencies and to help countries strengthen implementation of the existing FATF requirements, the principles for FATF’s recommendation 7 remain in force.

Financial institutions have a continued and vital role to play in ensuring the disruption of Proliferation procurement by detecting, impeding and reporting the illicit flow of funds in line with UNSCR1540. This should go beyond their firms’ operations and cover the formal global financial system as a whole. By taking sufficient steps in understanding who they do business with and who they facilitate transactions for; taking a holistic view of all counterparty’s networks and supply chains. Therefore, be proactive in assessing current future threats and trends that is essential to countering by design, one method is forging a controlled environment.

How do you go about forging a controlled environment?

By setting out and developing control objectives specific to Proliferation Financing. This could serve as an effective risk and control framework demonstrating to regulators adequate oversight and monitoring measures.

What are the steps you would take to counter Proliferation Finance and the tactics that are being taken?

One approach would require extensive research and to carry out a threat and trend analysis, depicting risks relevant to Proliferation Financing.

  • A thorough assessment of the tactics used by proliferators to transfer funds or move assets in the pursuit of procuring dual use items
  • Once all risks have been fully determined mitigates will have to be considered, that are relevant, proportionate and effective
  • Theses mitigates will act as a baseline to forming broader control objectives that need applying within relevant areas, with prior consultation
  • Categorise and map control objectives to specific products of the global operating model, going beyond the traditional PF’s sensitive risk areas such as trade finance
  • Once control objectives have been agreed and sign off by product and service owners, a compliance rating should be benchmarked
  • This should not be perceived as weakness, but be championed as positive steps in understanding exposure and as a method to identify and plug gaps

What do you see as the main challenges and constraints?

Cost and technology: One of the big challenges to counter Proliferation Finance is the human cost to administer compliance and control. That said, the emergence of technology such as blockchain should act as an immutable and auditable distributed ledger that will provide real-time supply chain transaction data and provide cost effective transparency to all Financial Services participants. Furthermore, with the current trajectory of Artificial Intelligence we will likely see machine learning adopt much of the detection and analytics.

Brexit: With the UK’s departure from the EU looking ever more likely, UK could take a unilateral response, to which may see its gradual divergence from the EU’s harmonised dual use list. Whether or not HM Export Control Joint Unit (UK) takes this course of action remains to be seen.

UK's departure from the EU

GDPR: Depending or not if there is a hard Brexit could see the UK as a 3rd country and possible cause of data sharing constraints of transactional data, though given the ICO’s full adoption of the General Data Protection Regulation and the UK’s provisions of rigorous data control, this seems less likely.

Asset freezing: OFAC’s prompt and covert (intelligence led) unilateral action on proliferators takes effect to near enough real-time, feeding from the department of treasury to banking systems Watch List Filters. Multilateral UN sanctions, however, take time to ratify and embed. This timely implementation process cascades to all UN member states’ central banks, and treasury departments could allow proliferators to evert justice and move assets prior to full implementation. It is therefore cognizant to screen against OFAC irrespective of being outside US products scope and enforcement jurisdiction.

Cryptocurrency: The procurement of dual good items in the pursuit of mass destruction capabilities heavily rely on the financial system to ensure an effective supply chain, thus demonstrating credibility to legitimate and compliant (export control) suppliers. This has negated concerns of the use of crypto assets to facilitate Proliferation from some competent authorities; primarily the UK FCA’s Cryptoassets Taskforce.

So once a framework has been implemented, how would you conclude?

Once remedial work has been executed, continued and concerted efforts should not stop there. Proliferators are predominantly state sponsored actors. They have the resources, capacity and intelligence agencies, plus expertise of a government, at their disposal. A continuous improvements cycle of incremental change to counter these new and emerging tactics should be considered; ideally using the agile methodology. Given that letters of credit only account for a small proportion of trade finance, financial institutions should go beyond reasonable steps of traditional AML methods of; screening, ID&V CDD and trade finance monitoring with sufficient steps. Rules based approaches are often binary and vulnerable to circumvention. Therefore, a risk based approach should be applied. All participants need to be vigilant actors throughout the process of training and awareness of front line personnel. As the threat is there and it is very real; given the success of the AQ Khan network and what it has ultimately achieved.

Counter Proliferation Finance

Proliferators often adopt the transaction (credit) risk and use ‘open accounts’ transactions and use unscrupulous brokers, shipping agents and opaque shelf and shell companies. This in turn limits the amount of information financial institutions are privy to in facilitating possible illicit transactions. While many dual goods manufacturers and suppliers have internal compliance, they can also be unwitting actors to proliferators’ methods to disguise intent and destination. It is vital intelligence is shared across the industry as well as between public and private sectors as well as law enforcement and intelligence services (via Egmont Group) that provides leads to firms that help derive the multiple typologies and tactics used by state sponsored actors. Firms demonstrating rigour to understand the purpose of ‘at risk transactions’, will not only appease the competent authorities, but will act as deterrents to sophisticated proliferators and contribute to a firm’s global reputation of sound integrity.

Caleb Hawkins's picture
Manager | Compliance Temporary Recruitment
chawkins@morganmckinley.co.uk