View original document

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.


For release onj delivery
Fedciel: Sfesaftft BfiPffJ T.


Statement by
Maruel H. Johnson
Vice Chairman
Board of Governors of the Federal Reserve System
before the
Subcommittee on Financial Institutions Supervision,
Regulation and Insurance
of the
Committee on Banking, Finance and Urban Affairs
United States House of Representatives

June 9, 1987

I am pleased to appear on behalf of the Federal Reserve
Board to offer additional testimony on the issue of money

The Federal Reserve has a strong commitment to

implementing appropriate policies to ensure compliance with laws
enacted to eliminate money laundering.
My goal today is to more fully inform the Committee of
efforts by myself and by staff to press for greater international
cooperation by bank supervisors in addressing the use of banking
organizations to launder money.

In addition, the Committee has

asked for a status report on the studies required under the
Anti-Drug Abuse Act of 1986 and that I address the subject of bank
fraud and insider dealing.

Finally, I will provide further

information on the Federal Reserve's supervisory efforts to ensure
compliance with the Bank Secrecy Act and other laws to discourage
the use of banks and the payments system generally for laundering

- 2 -

International Cooperation
The Federal Reserve shares the concerns of this Committee
and believes that the effectiveness of efforts to discourage money
laundering could be further enhanced by initiatives on an
international level.

For the past year, the Federal Reserve,

together with the other Federal banking agencies, has worked to
secure the cooperation of bank supervisory authorities in other
countries of the world.

Discussions have been held amoung members

of the Basle Committee on Bank Regulation and Supervisory
Practices1 with the goal of obtaining a consensus on how best to
proceed with efforts to discourage criminal elements from using the
international payments system for the purpose of laundering money.
The subject was first raised with the Basle Committee in a meeting
in Washington last June.

Although all members of the Committee

^The Basle Committee was established at the end of 1974
by the central bank governors of the Group of Ten industralized
countries with the objective of strengthening collaboration among
national authorities in their prudential supervision of
international banking. The Committee, whose members are officials
of the central banks and supervisory agencies, meets three times a
year at the Bank for International Settlements in Basle,

- 3 -

were clear in their view that abuse of the banking system in the
form of currency laundering was a serious matter, many felt that
the primary responsibility for monitoring and detecting this
activity rested largely with law enforcement authorities.
Nonetheless, the Committee agreed that the subject should be
reviewed, and at the December 1986 meeting the U.S. delegation
agreed to draft a paper outlining the issue and making
In addition, this paper will propose rules of conduct
that could be utilized by banks in any country to discourage the
use of the payments system for illegal transactions.


constructing this proposal, we have consulted with other countries
for the purpose of incorporating their ideas as well as seeking
their support of a more active role for bank supervisors.


expect that in the next few weeks a draft of an initial proposal
will be ready for review by the Basle Committee and we are
attempting to put the item on the Committee agenda for the regular
meeting later this month.

We recognize that encouraging foreign

supervisors to endorse the concept that international banks should
adopt a code of conduct falls short of the extensive currency
reporting requirements in place in the United States; however, we
are hopeful that this effort, in combination with the activities of
our federal law enforcement authorities, will make a meaningful
contribution toward inhibiting the use of the banking system for
illicit money laundering.
Attempts to eliminate money laundering through
legislation are, of course, not confined to the United States.
Recently, Switzerland for example has proposed laws designed to
make money laundering a crime.
will follow suit.

It is our hope that other countries

The proposed rules of conduct to which I have

just referred endorse the concept that bank supervisory authorities
should support legislation that would make money laundering a

Federal Reserve efforts to encourage international
cooperation in this area will not be limited to the Basle

We intend to discuss this issue when appropriate at




formal and informal meetings with foreign bank supervisory

It is our hope, however, that the work going on in

the Basle Supervisors' Committee will serve as the principal
vehicle for advancing effective constraints on the involvement of
international banking institutions in money laundering activities.
International Studies
The Anti-Drug Abuse Act of 1986 requires that two studies
be conducted and furnished to this Committee.

Both of these

studies are being prepared under the auspices of the Department of
the Treasury in consultation with the Board of Governors.


Justice Department is also to contribute to one of the studies.
The first study deals with the results of discussions
with central banks and other appropriate governmental authorities
concerning the establishment of arrangements to facilitate the flow
of information amoung supervisory authorities throughout the world.
The flow of information amoung international supervisors is
particularly important, and the Federal Reserve is discussing with
international authorities the need to improve communications and

information-sharing procedures in order to strengthen supervisory
activities vis-a-vis international banking organizations.


expect to be able to provide Treasury with the results of our
discussions in sufficient time to ensure a timely response to this
The other study requires that information be furnished to
this Committee on:

(1) the extent to which foreign branches of

domestic institutions are used to facilitate illicit transfers of
currency and other monetary instruments or to evade reporting

(2) the extent to which D.S. law is applicable to the

activities of such foreign branches; and (3) methods for obtaining
the cooperation of foreign countries for the purpose of enforcing
money laundering laws and currency reporting requirements.


Federal Reserve and the Comptroller of the Currency were asked to
assist the Treasury on Sections (2) and (3) of the study.

While we

are still in the process of developing materials to provide to the
Treasury, we expect the study to be completed within the

Committee's requested time frame.




Bank Fraud and Insider Dealing
I would now like to turn to the subject of bank fraud and
insider dealings.

Experience has demonstrated that insider abuse

and misconduct, as well as criminal activities, are among the
factors contributing to bank failures.

Data provided by the

Department of Justice and the Federal Bureau of Investigation
confirm that criminal misconduct, such as fraud and embezzlement,
is a serious problem.

For example, the FBI recently reported that

in 1985 it worked on 6,373 bank fraud and embezzlement cases— one
third of which involved amounts exceeding $100,000.

In 1986, this

number rose to 7,286— with a corresponding increase in the number
of cases over $100,000.

The FBI reports that in 1985, the amount

of reported dollar losses due to bank fraud and embezzlement
totaled about $850 million; in 1986, this total increased to over
$1.1 billion.
Over the last several years, the Federal Reserve by
itself, and in conjunction with the other federal banking and law
enforcement agencies, has taken a number of steps to address bank

fraud and insider abuse.

A major part of this effort relates to

our involvement in the Interagency Bank Fraud Enforcement Working
Group (the "Working Group") that was formed in April 1985.


Working Group is comprised of officials from all of the Federal
financial institution regulatory agencies, the Justice Department
and the FBI.

The principal results of the Working Group's efforts

over the last two years include the following:

The Working Group developed and implemented a uniform
criminal referral form to be used by all banks, bank
holding companies, savings and loan institutions, and
credit unions.


The Department of Justice developed and implemented a
"significant referral" tracking system.

For this

purpose, a criminal referral is considered "significant"
if the dollar amount of the suspected violation exceeds
$200,000, the suspected offense involves insider abuse by
senior officials, or the violation involves, in the
opinion of Board staff, activities or practices that

affect the integrity of the supervisory process or
otherwise have nationwide implications.

Each significant

referral received by the Federal Reserve System is
forwarded to the Fraud Section of the Department of
Justice for tracking and special attention.
As a complement to these efforts, the Enforcement Section
of the Board's Division of Banking Supervision and
Regulation developed and implemented an automated system
to monitor and track all of the Federal Reserve criminal

Complete access to the Board's criminal

referral recordkeeping system is available to all the
agencies comprising the Working Group.
The members of the Working Group developed and
distributed lists of key persons to be contacted at the
local FBI offices, U.S. Attorney's offices, Federal
Reserve Banks, and all district offices of the
Comptroller of the Currency, the Federal Deposit
Insurance Corporation and Federal Home Loan Bank Board on

matters relating to criminal referrals and bank-related
insider abuse and fraud.

These lists provide important

information for the staffs of the agencies responsible
for criminal referral and follow-up.
The examiner training programs sponsored by the Federal
Financial Institutions Examination Council have been
expanded to include extensive instruction on the
detection and investigation of insider abuse and
misconduct within financial institutions.

In addition,

the members of the Working Group jointly sponsor
white-collar crime seminars with the FBI.
At the urging of the Working Group, the Attorney General
called upon each U.S. Attorney to intensify his or her
bank fraud enforcement efforts.

In a memorandum

distributed in February 1987, the Attorney General asked
all U.S. Attorneys to prepare inventories of bank fraud
cases involving more than $100,000 that are pending
prosecutive decision or action, to make prompt




prosecutive determinations in those cases ready for
decision, and to assign the needed personnel to complete
the investigation of open cases with the goal of
indictment or declination within nine months.

As part of this overall effort, the Federal Reserve Board
has attempted to improve its communication and coordination with
the enforcement agencies in this all-important area.

I believe we

have made considerable progress in strengthening our working
relationships with the Department of Justice and the FBI at both
the federal and local levels.

There is also now, I believe, a

better mutual understanding of the procedures and responsibilities
of the federal financial institution supervisory agencies and the
federal law enforcement agencies.
In addition to these interagency efforts, the Board has
sought to enhance its supervisory and enforcement activities
regarding insider abuse and misconduct.

This is reflected in an

increase in the number of formal enforcement actions taken by tbe


In the period 1980-1982, the Federal Reserve System

averaged 42 enforcement actions per year; from 1984-1986, the
average number of enforcement actions had increased to 177.


figures include actions against state member banks, bank holding
companies, and Edge Act Corporations.

Moreover, during this

period, there has been a significant increase in the number of
enforcement orders addressing improper or abusive actions of bank

This increase in enforcement actions has occurred

across the board —

involving civil money penalties and fines,

cease and desist orders, and suspension and removal proceedings
against officers and directors.
Board staff members are also working with their
counterparts at the other Federal financial institution regulatory
agencies to develop a joint legislative proposal for amending the
agencies' enforcement statutes.

The purpose of the proposal would

be to clarify the agencies' authority to obtain reimbursement from
individuals who violate applicable banking laws; broaden the
agencies powers to issue cease and desist orders; strengthen




removal procedures; and codify existing interpretations of the
Right to Financial Privacy Act.

We believe these changes would

strengthen the agencies' ability to address bank fraud and insider
dealings, and it is our hope that a proposal will be ready soon for
referral to the Congress.
Domestic Regulatory Activities
To conclude my testimony, let me describe the range of
our domestic activities to fight money laundering in U.S. banks.
First, the Federal Reserve provides several government agencies
monthly reports on currency flows.

These reports supply data on

currency sent into and out of each of the 37 Federal Reserve

The purpose of the report is to establish payment

patterns throughout the U.S. so that marked deviations in normal
patterns can be identified and enforcement resourses more
efficiently deployed.
In addition, Reserve Banks provide currency shipping and
receiving data to government agencies covering cash flows between
the Federal Reserve and a particular depository institution which


is ordering or depositing cash.



That information also is useful in

establishing marked deviations in normal depositing and ordering

The Federal Reserve is fully cooperative in responding

to any requests for data of this type.
The Board believes that the most effective way to ensure
that banks are meeting the recordkeeping and reporting requirements
of the Bank Secrecy Act is to conduct on-site examinations.


Federal Reserve has developed detailed examination procedures in
this area and has held special training sessions for examiners as
well as bankers.

It is our policy to review compliance with the

Bank Secrecy Act at each examination of a state member bank or Edge
Act Corporation.

In 1986, 844 such examinations were conducted and

through the first quarter of 1987 an additional 227 examinations
were completed.

The number and intensity of our reviews of

currency reporting requirements have increased steadily in the past
five years.

- 15 -

During the period covered by these examinations
deficiencies were discovered in 256 banks.

These deficiencies

included failure to file currency transaction reports, filing
incomplete or inaccurate currency transaction reports, improper
maintenance of exemption lists, and poor recordkeeping practices.
In all cases, the banks have been required to initiate corrective
action and in 16 cases the violations resulted in our forwarding
details to the Justice Department for further review.

Of course,

as a matter of policy, every violation is reported to the
Department of Treasury on a quarterly basis.
While considerable effort has been expended in recent
years to ensure that adequate and in-depth examinations

are being

conducted, the Federal Reserve reviews on a regular basis its
practices and procedures in an effort to strengthen its oversight

In addition, as already noted, the Federal Reserve

actively participates in the Bank Secrecy Act Interagency Working
Group that is chaired by the Treasury Department.

This working

group has developed new procedures that are designed to assist in

- 16 -

detecting violations of law.
process of

These procedures are currently in the

being integrated into our examination instructions.

Pursuant to the Anti-Drug Abuse Act of 1986, the Federal
banking agencies have developed regulations that require banks to
establish and maintain procedures to ensure compliance with the
Bank Secrecy Act.

The Federal Reserve published its regulations

for this purpose as amendments to Regulation H on January 27, 1987.
These amendments require banks to implement a written program that
must be approved by the bank's directors to assure compliance with
the recordkeeping and reporting requirements of the Bank Secrecy

The compliance program must, at a minimum, include four


(i) a system of internal controls;

testing for compliance;

(ii) independent

(iii) designation of individual(s) to be

responsible for compliance; and, (iv) appropriate training of
Non-compliance with this regulation will result in the
issuance of a cease and desist order.

Although no such orders have

yet been issued based on this recently published regulation, the
Board has included requirements to strengthen compliance with the
Bank Secrecy Act in other forma], supervisory actions.


1980 and 1986, the Board or the Reserve Banks entered into 165
enforcement orders or agreements with State member banks.
Provisions requiring corrective action relative to the Bank Secrecy
Act were included in 25 of these enforcement orders.
Industry Education
In addition to focusing on strengthening regulations and
examining procedures, efforts have been directed at educating banks
and the public on the requirements of the Bank Secrecy Act and on
Federal Reserve policies and procedures regarding currency

Board staff members have participated in seminars and

programs intended to educate bankers about the Bank Secrecy Act,
especially as it relates to the Regulation H amendments and the
requirements for currency reporting.

We believe these seminars

have been particularly helpful and have achieved a substantial
degree of participation among bank managers and compliance





Regional programs conducted though our District banks

have also provided opportunities for bank compliance officers to
discuss issues and ask questions relating to the Bank Secrecy Act.
In order to provide assistance and guidance for state
member banks in developing compliance programs, the Federal Reserve
has developed and issued guidelines and sample documentation.
These materials have been widely distributed and, we understand,
have been particularly useful to banking organizations in
developing compliance programs.
Any banking organization or bank holding company making
application to the Federal Reserve receives a careful scrutiny to
determine whether the organization is in compliance with the
currency recordkeeping and reporting requirements of the Bank
Secrecy Act.

When violations exist, procedures require that a

thorough analysis be performed that looks carefully at the nature
of the violations, efforts taken by the Bank to cure the
deficiencies, and procedures developed to prevent any future


Applicants are required to provide detailed responses

on the cause of the violations and to submit copies of their
compliance programs, and procedures, and their related internal
audit reports.

Normal processing of any application is suspended

until all questions relating to Bank Secrecy Act compliance are
fully resolved.

From the beginning of 1985 through May, 1987, 125

applications involved issues relating to Bank Secrecy Act

In 25 of these cases, resolution of the compliance

problems resulted in a delay in the processing of the application
beyond the normal 60 day period.
Those cases that involve serious issuer, of noncompliance
and that can not be resolved by furnishing additional information
may require a special examination.

These examinations are

conducted either by the Federal Reserve or the regulatory agency
responsible for the primary supervision of the applicant banking

No action is taken on any application until

satisfactory compliance is demonstrated and any associated issues


are resolved.



An ongoing investigation by any law enforcement

agency, would also suspend processing of the application.
The Federal Reserve shares this Committee's concern that
banking organizations not be used to launder funds or participate
in other illegal or improper activities.

To this end, we have

devoted considerable effort and resources to monitor State member
banks compliance with the Bank Secrecy Act and the Anti-Drug Abuse
Act of 1986.

We have tightened our examination procedures, put in

place policies for carefully reviewing a bank's compliance record
at the time an application is made, and taken steps to ensure that
criminal referrals are made in a timely fashion with appropriate

The Federal Reserve has also contributed to banker

educational programs and provided guidance to banking organizations
for complying with the Bank Secrecy Act.

Finally, we are pursuing

cooperative efforts on the international level that we hope will
heighten awareness of the need to strengthen supervisory and
enforcement activities worldwide.




Despite these intense efforts, we recognize that we must
remain vigilant and continue our efforts to improve compliance with
the Bank Secrecy Act.

Mr. Chairman, Members of the Committee, the

Federal Reserve intends to continue to place strong emphasis on its
oversight responsibilities for Bank Secrecy Act compliance and to
contribute fully to efforts to eliminate money laundering.