FROM THE OFFICE OF PUBLIC AFFAIRS

Thank you for providing me with the opportunity to be here to discuss money laundering on the southwest border. Seated here with me is Stanley Morris, Director of the Treasury Department’s Financial Crimes Enforcement Network or "FinCEN." I also would like to introduce Edward Federico, Jr., Deputy Assistant Commissioner of the Internal Revenue Service Criminal Investigation Division. Deputy Assistant Commissioner Federico’s testimony has been submitted for the record. The three of us will be happy to answer any questions you may have at the conclusion of opening statements.

I would like to begin by touching briefly upon the highlights of the IRS-CI study of the cash surplus in the San Antonio Federal Reserve district. I will leave it to Director Morris and Deputy Assistant Commissioner Frederico to discuss the study in more detail. Then I would like to speak briefly about the implications of the study for Treasury’s anti-money laundering program. Finally, I would like to address recent developments in Mexican anti-money laundering capabilities and the effect these developments should have on our joint efforts.

On October 21, 1996, Congressman Gonzalez requested that IRS-CI determine the sources of a $2.9 billion bank surplus at the San Antonio Branch of the Federal Reserve Bank for 1995. In response to the Congressman’s request, IRS-CI developed an analytical plan which reflected its institutional expertise. As you know, the special agents of the IRS-CI are highly skilled in investigating sophisticated crimes such as criminal tax violations and money laundering. They are not trained as economists or bankers. The analysis of the cash surplus was performed by IRS special agents employing the mind set and techniques of financial investigators -- in this case investigators familiar with the San Antonio, Texas, and southwest border areas.

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Numerous government and business sources were interviewed in furtherance of the analysis. Information was received from FinCEN, the San Antonio Federal Reserve, the Commerce Department, the Office of the Controller of the Currency, the Customs Service, the U.S. Attorney’s Office for the Middle District of Texas, the IRS Detroit Data Computing Center, and the Texas Comptroller's Office. Business sources interviewed include south Texas banks serviced by the San Antonio Federal Reserve, the Texas Banker's Association, discussions with Mexican bankers, and Internet business sources.

The most significant findings of the study were as follows. First, the existence of the cash surplus, in and of itself, does not indicate drug-related money laundering. The San Antonio Federal Reserve District has run a surplus every year since at least 1951 -- arguably more than fifteen years before drug trafficking emerged as the significant economic activity that it is today in Mexico, and certainly more than thirty years before money laundering was a crime in this or in any other country in the world.

In 1995, 32% of the Federal Reserve Bank regional districts had surpluses and 68% had deficits. Notably, of the five major designated High Intensity Drug Trafficking Areas, Los Angeles and Miami had currency surpluses. New York, Chicago and Houston, clearly among the nation’s most significant money laundering centers, have currency deficits.

The second finding of the IRS-CI study is that Mexican banks have increased their currency shipments to South Texas banks. An analysis of 1995 Bank Secrecy Act data indicates that banks in the San Antonio Fed district filed Currency Transaction Reports reflecting currency deposits of approximately $ 8.8 billion. Of that amount, at least $ 2.05 billion -- almost 25 percent -- was received from Mexico. Approximately $ 1.68 billion of that $ 2.05 billion, moreover, represents transfers of bulk currency from Mexican banks to U.S. banks.

Third, the IRS-CI study determined that one of the most significant impact on the cash flow in the San Antonio Fed was an affirmative campaign by south Texas banks in 1993 and 1994 to solicit currency shipments from Mexican financial institutions. Prior to 1993, U.S. currency was sent by Mexican banks to various large money center banks located mainly in the New York Federal Reserve district and, to a lesser extent, south Florida. The south Texas banks embarked on this campaign, which incidently received the cooperation of the San Antonio Fed, to expand business opportunities with Mexican banks.

Fourth, the study also noted that tourism and retail sales can affect the cash levels in the San Antonio Fed as well. Department of Commerce statistics show tourism in Bexar County, Texas, where San Antonio is located, was $2.1 billion in 1995. IRS-CI could not establish how much of these tourist dollars were expended in the San Antonio Federal Reserve area, however. The study also revealed that expenditures by Mexican shoppers during the months of Mexican holidays cause minor increases in the cash activity of the border banks. These spending trends have been decreasing since 1995 due to the opening of U.S. retail businesses in Mexico. The dollars once spent at these retail establishments in the U.S. are now being spent in the Mexican branches of U.S. retailers

Fifth, the IRS-CI study revealed that the North Atlantic Free Trade Agreement or "NAFTA" has had little or no impact on cash activity. This is so because businesses in both Mexico and the U.S. are using established banking methods, many of which do not involve actual transfers of currency, to make and receive payments.

Finally, the IRS-CI hypothesized, based on its investigative experience along the south west border and that of other Treasury bureaus, that some portion of the currency in Mexican banks that is being repatriated to the San Antonio Federal Reserve district was at one time in the hands of narcotics traffickers. Unfortunately, no information was available to the U.S. banks or to law enforcement about source of the funds already placed in Mexican financial institutions to determine its legality or illegality. Just as in the U.S., the placement of physical currency into the financial system erodes the direct link to its criminal origins. Again, the mere existence of a currency surplus does not supply the necessary information.

These were the principal conclusions of the study. At this point, I would like to explore some of its broader implications. What does it tell us about our own efforts to combat money laundering? We know that a significant amount of money is being shipped in bulk from Mexican banks to U.S. banks. And it is only logical to assume that some portion of that money is drug proceeds smuggled out of the U.S. But what does this say about our efforts to stop drug-stained cash at the borders?

Is the Customs Service doing enough to stop the flow smuggled cash out of the country? The answer is that Customs is doing everything it can given the resource constraints and the mission priorities which govern its efforts. Customs’ number one priority -- without question -- is inbound drug interdiction. The bulk of our resources and efforts are directed at stopping the flow of drugs into this country. And the results have been impressive. Last year, narcotics seizures at the southwest border increased 29 percent by total number of incidents, and 24 percent by total weight, as compared to 1995 totals. This translates into 6,956 seizures, and 545,922 pounds of marijuana, 33,308 pounds of cocaine, and 459 pounds of heroin. The total weight of narcotics seized in commercial cargo on the U.S.-Mexican border increased 153 percent over 1995 totals.

That is not to say that outbound cash smuggling is not a priority. To the contrary, Customs employs a variety of techniques to identify and inspect vehicles for cash smuggling, employing both intelligence and profiling, and random inspection. If there is any reason to believe that a carrier is smuggling cash, that carrier will be inspected. In addition, a certain percentage of trucks that are not suspect are examined anyway on a random basis, just as a precaution. Last year, Customs seized $ 3 million in outbound cash being smuggled to Mexico through southwest border ports of entry.

Still, the sheer volume of currency flowing between the U.S. and Mexico demands that we do more with what we have to address the problem of outbound smuggling. We must use our resources more creatively, employing greater use of intelligence to effectively target suspect vehicles and shipments. The results which can be achieved by intelligence-driven interdiction are demonstrated by the recent seizure of $ 5.6 million at the Nogales port of entry.

We also must explore innovative uses of our regulatory authority to heighten the prospect of seizing cash at the border. The recently employed Geographic Targeting Order or "GTO" -- which established special Bank Secrecy Act reporting requirements for certain money remitter businesses sending cash to Colombia -- is an excellent example of this kind of approach. The GTO’s heightened reporting requirements forced drug traffickers to resort to currency smuggling to move their funds. This in turn stimulated a marked increase in interdiction and seizure activity at the borders -- over $50 million since the GTO went into effect. This figure is approximately four times higher than it has been in prior years. Armed with the experience and insight the GTO has brought us, we will continue to look for approaches to marshal existing resources to enhance outbound interdiction.

A second question that the IRS-CI study raises is whether the reporting and record keeping requirements of the Bank Secrecy Act are working to keep criminal proceeds out of U.S. financial institutions. The answer, without question, is yes. Twenty years ago, drug dealers or their associates could simply walk into any bank in this country and deposit satchels of cash, with little fear of detection. Today, through aggressive enforcement of the Bank Secrecy Act regulations, America’s banks have virtually been closed as avenues for the wholesale placement of criminal proceeds. Indeed, much of the credit for tightening the BSA enforcement regime should be handed to this Committee, which has been responsible for pushing through a number of important amendments to close loopholes and to expand the scope of the regulations. Today, the U.S. system of anti-money laundering regulation is among the most stringent and effective in the world.

Unfortunately, we are in sense victims of our own success. As free access to U.S. banks for initial cash placement has been denied, the criminals have been forced to seek other paths to launder their funds. Thus, banks in other countries, where controls are less stringent or non-existent, have become prominent destinations for initial cash placement. Mexico is among these countries. The absence of BSA-like customer identification, currency transaction reporting and suspicious transaction reporting requirements had made Mexican financial institutions a target for exploitation by money launderers.

The relationship between Mexican banks and their U.S. counterparts highlights the limitations of the U.S. regulatory efforts to prevent and detect money laundering. While the BSA may be extremely effective at preventing and detecting initial cash placement, and even subsequent layering transactions, it can do little to prevent the introduction of funds from other nations which have the appearance of legitimacy. Once illicit proceeds have been placed with a financial institution in a foreign country, and its criminal origins obscured through intervening transactions or commingling, U.S. financial institutions and law enforcement authorities are hard pressed to identify the funds as suspect when they arrive in the U.S.

To effectively counter the problem, we must rely to a certain extent on the existence of effective controls in the country of origin to prevent and detect the placement of criminal proceeds. Without these controls, we encounter the same kind difficulties identifying the source of funds which, as the IRS-CI study demonstrated, prevails in the case of bank to bank transfers from Mexico. More generally, without effective cooperation from law enforcement authorities and financial institutions in the countries of origin, our ability to address foreign-born money laundering is hampered significantly.

Recognizing that effective money laundering controls in the U.S. is but one part of the equation, the Treasury Department, along with the Departments of Justice, State and the Office of National Drug Control Policy, have been working with the Government of Mexico to enhance its own capacity to combat the problem. This work has produced some significant results which, over time, should provide additional answers to the questions that the IRS-CI study raise. I would like to take a few moments to review some of these results.

On April 29, 1996, the Mexican legislature added Article 400 Bis to the Criminal Code, establishing for the first time a criminal offense for money laundering. The new law replaces an earlier Fiscal Code offense, providing a wide range of predicates and enhanced penalties. It also applies equally to employees and officers of financial institutions that wilfully assist or cooperate with a third party in furtherance of a money laundering scheme. We regard this latter provision as an important "stick" to compel integrity among financial institution employees. Further, discussions with prosecutors from the Mexican Attorney General’s Office suggest that the applicable scienter requirement under the new law embraces "willful blindness." U.S. experience has demonstrated that this standard is an important tool to compel vigilance among financial professionals and others who act as facilitators in the laundering process but who lack a direct nexus to the underlying criminal activity.

In addition to its new money laundering law, on Monday, March 10, 1997, the Mexican Treasury, or "Hacienda," issued new regulations designed to insulate financial institutions from money laundering. Hacienda undertook to adopt regulations of this sort in May 1996, after much encouragement by the Treasury Department. This marked a significant departure from earlier positions the Government of Mexico had taken on the subject.

Treasury, Justice and State have been working closely with Hacienda to develop the new rules. In June and July 1996, respectively, Treasury led interagency missions to Mexico City for the purpose of assessing the Government of Mexico’s existing anti-money laundering capabilities, and suggesting improvements to be built into the new rules. Among other things, the missions resulted in the design by FinCEN of a financial intelligence unit to house and analyze the information generated by Hacienda’s reporting regulations. The State Department has purchased the necessary hardware and software for Hacienda. Two weeks ago, I attended the inauguration of the new unit while in Mexico City on other business. Save for some minor adjustments, the equipment has been installed and is ready for deployment. As Director Morris will tell you, FinCEN recently dispatched a computer expert to perform initial training to Hacienda analysts in the operation of the unit.

The Departments of Treasury and Justice have been engaged in an analysis of the new regulations. The rules include a number of features which US experts regard as essential to the establishment of effective anti-money laundering controls. These include: requirements to obtain, and to retain for a period of five years, identifying information on customers establishing account relationships or engaging in other financial transactions; mandatory reporting of currency transactions in excess of $ 10,000; and mandatory reporting of suspicious transactions. The rules also include: a safe harbor from liability for financial institution employees who file suspicious transaction reports; a no "tip off" provision, prohibiting disclosure by financial institutions and their employees of the fact that a suspicious transaction report has been filed; a requirement for anti-money laundering training programs to be developed and implemented by covered financial institutions; and civil penalties for "any violation, partial or untimely compliance" with customer identification provisions" or for any violation or partial or timely compliance, or omission to file a report."

While more certainly can be done, we regard the adoption of these regulations as a salutary development. This is particularly so given that, one year ago, Mexico had no rules governing the placement of criminal proceeds with financial institutions. In addition, the scope of the rules is quite broad, providing coverage of a range of non-bank financial institutions including registered casas de cambio. Further, a number of the features which have been included in the Mexican regulations took the U.S. many years to adopt.

If effectively implemented, these rules will help erect the kind of barriers that will prevent the placement of drug profits and other criminally derived funds with Mexican financial institutions. In addition, the rules should provide Mexican law enforcement authorities with a paper trail on the source of funds deposited in Mexican financial institutions that heretofore was difficult or impossible to obtain. U.S. authorities should have access to this information pursuant to the Financial Information Exchange Agreement in place between Treasury and Hacienda.

To assist the Government of Mexico in implementing its new money laundering law and regulations, Treasury, with the support of the State Department, has been sponsoring investigative and analytical training. In the fall of 1996, the IRS-CI and FinCEN conducted seminars for Hacienda analysts and investigators in suspicious activity report processing and analysis. Also in the Fall of last year, IRS-CI conducted training for investigators from Hacienda and the Mexican Attorney General’s office in money laundering investigative techniques. FinCEN, IRS-CI and Customs will be providing more training in the coming year. In addition, the Department of Justice will be providing training in the prosecution of money laundering cases for Mexican prosecutors and judges.

Of course, the adoption of new legislation and regulations is but an initial step. Only through the effective enforcement of such rules, will we have an impact on the money laundering problem. In this respect, the Government of Mexico has posted a number of significant accomplishments recently. These include: the conviction of 13 defendants for money laundering from 1995 through 1996; the referral by the Mexican Treasury of 16 money laundering cases, involving approximately 96 defendants, to Mexican Attorney General’s office for prosecution last year; the testimony by a Mexican Treasury official in two major narcotics trafficking/money laundering trials in the U.S.; and a cooperative investigation which resulted in the seizure by Mexican authorities of approximately $ 16 million in bank accounts associated with a Mexican drug trafficker. This seizure represents one of the largest ever by U.S. and Mexican authorities.

I recognize, of course, that there are shortcomings along with these successes. I share the concern that this Committee undoubtedly harbors that corruption continues to threaten the integrity of Mexican anti-narcotics efforts. Still, our intolerance for setbacks should not obstruct out view of tangible progress Mexico has made on this important issue.

In the last year, the Government of Mexico has acquired important new tools to combat money laundering, and has begun to utilize them. We are heartened by these developments. At the same time, we will continue to work diligently to ensure that Mexico capitalizes on the momentum generated by recent advances, using the new weapons at its disposal to bring swift and certain prosecutions against money launderers and to seize their ill-gotten gains.

This concludes my opening remarks. I will be happy to answer any questions you may have at this time.