Hungary seeks collective strategy against banking fraud

Citation

Ország-Land, T. (1998), "Hungary seeks collective strategy against banking fraud", European Business Review, Vol. 98 No. 1. https://doi.org/10.1108/ebr.1998.05498aab.011

Hungary seeks collective strategy against banking fraud

Hungary seeks collective strategy against banking fraud

Thomas Ország-Land

A Hungarian regional initiative against banking fraud is winning support from many countries and international organizations. The Hungarians are seeking collective action for the protection of the fledgling financial institutions of post-communist Europe from the lure of tainted cash derived largely from the illicit narcotics trade.

Banking fraud including money laundering has emerged as an enormous threat to the international financial system. The legislative proposals promoted by the Hungarians would reinforce the West's own efforts to stamp out the process. They would also confront the international drug syndicates whose illicit cargoes are increasingly being smuggled through East-Central Europe on their way towards the lucrative markets of the West.

Financial privacy remains a jealously guarded symbol of newly-won freedom in formerly Soviet-dominated Europe ­ just as banking secrecy laws are being relaxed in cases of suspected money-laundering in the West.

The new, free-market economics and relaxed political controls in East-Central Europe have enabled the transnational crime syndicates to establish or acquire their own banks and other financial institutions. And the easing of border controls as well as the widening use of containers in international cargo traffic have created new opportunities for smugglers. These criminal gangs have learned to employ sophisticated electronic money-switching techniques and to treat each new development in the present turmoil of economic transition as a matter of changing business opportunities.

By contrast, the police are still hopelessly inexperienced in protecting the law from criminals without breaking it in the pursuit of suspects.

A spectacular fraud case brought by the state against two top bankers has just been dismissed by a Budapest court in the absence of evidence. The case burst into public controversy over two years ago with the carefully-staged dawn arrest of Mihaly Kovacs, president of Agrobank, a businessman in his 70s, with an American background and high international repute. He was handcuffed and marched to a waiting prison van in front of television cameras. His health has suffered in the ensuing investigations, and the bank has collapsed.

But the incompetence of the law enforcement authorities cannot alone explain the success of organized crime in carving out for itself a lucrative role in the banking sector of the region. It has done so by exploiting the failure of the legitimate banks to provide the credit essential for small businesses to finance their part of the economic transition that has followed the collapse of communist rule.

The reform of the banking sector appears to have produced three recurring, transitional effects throughout post-communist Europe. Financial liberalisation has curtailed the availability of loans, raised the cost of borrowing and reduced the returns on deposits received by savers. Easier credit is expected later through the advance of the privatization process.

"At present, it is easier to rob a bank than to obtain credit from it", observes Laszlo Arva, economic consultant at the Privatization Research Institute in Budapest. And, as a consequence, "organized crime has won a 15-25 per cent share in all legally operated small and medium-sized businesses".

Elsewhere, the situation is even worse. Louise I. Shelley, a professor at the American University, Washington, writes in her forthcoming book Stealing the Russian State: "Hundreds of banks in Russia are owned or controlled by organized crime groups. Bankers who refuse to launder money cannot compete with banks that provide such services".

"The criminalisation of the banking sector has boosted capital flight. A minimum of 40 per cent of the estimated $2 billion in monthly capital flight (from Russia) is attributable to organized crime groups."

The Hungarian initiative to confront the trend enjoys the backing of the International Monetary Fund (IMF) in Washington, the Vienna-based United Nations International Narcotics Control Board as well as Britain's Know-How Fund (KHF) and the American Federal Bureau of Investigation (FBI).

Hungary wants to attack organized crime at its weakest front through a united policy aimed at safeguarding the banks as well as the insurance and holding companies while aggressively pursuing the privatization of state assets.

Peter Meggyessy, the Hungarian finance minister, told me in an exclusive interview: "I know only one effective weapon against fraud ­ we must give as great a freedom as possible to the power of the marketplace. The best way to confront financial and other corruption is through concluding the privatization process as fast as possible while liberalising the marketplace and the economy and building an open and transparent society".

"Internationally, Hungary has embarked on far-reaching legislative reforms to outlaw money-laundering. We would like to persuade our neighbours to follow suit. Our protection of bank secrecy used to cover an enormous area of activities which made it impossible to detect money laundering. When we recently joined the Organisation for Economic Co-operation and Development, we agreed to reform the law in such a way as to defend the privacy of financial information without playing into the hands of criminals. We are very interested in promoting a co-ordinated regional strategy against financial crime. Conflicting national policies in this sphere could create an impossible situation for Hungary."

Hungary, the Czech Republic, Poland and Slovenia have recently made it a criminal offence to engage in a wide range of financial crime. The three Baltic states are now enacting legislation to safeguard their banks primarily by establishing co-operation between the financial system and the competent law enforcement agencies. They are setting up the necessary specialised services, particularly to handle reports of suspicious transactions.

But other countries, notably Russia, are nowhere near such reforms. Money laundering is conducted there often through a wide range of financial institutions including banks, insurance companies, exchange offices and real estate agencies and even newly privatised factories, hotels and other businesses. The privatization of state-owned properties as well as weaknesses in the supervision of the increasing number of financial institutions provide plenty of opportunities for money-laundering.

The main points of the legislative and administrative reforms launched by Estonia, Latvia and Lithuania include the following:

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  establishing money laundering as a criminal offence in the spirit of the 1988 United Nations convention and the 1990 Strasbourg convention;

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  providing for the confiscation of the proceeds of criminal activities;

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  preventing the abuse of the economy by organized crime;

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  promoting co-operation by banks and other financial institutions; and

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  providing mutual legal assistance.

The three neighbours are also seeking improved international co-operation in conducting financial investigations, the creation of joint control units to analyse information and intelligence on money-laundering and the implementation of training programmes for specialist staff.

Hungary wants to persuade all of formerly Soviet-dominated Europe to outlaw banking fraud as a crime in itself and to introduce a limitation on bank secrecy, the application of the "know your customer rule", the identification and reporting of suspicious transactions and improved regulation of businesses and professionals involved in the financial sector.

Discussions over the Hungarian proposals to harmonise legislation in the common interest have entered a delicate state, attracting robust support from many quarters. A series of regional conferences about drug trafficking used by the Hungarians as the main forum for promoting regional legal reform are being attended by such sympathetic advisers as the Council of Europe and the FBI.

Michel Camdessus, managing director of the IMF, has offered funding as well as technical assistance from his own organisation and the World Bank to countries prepared to crack down on banking fraud. As he put it: "We are going to make life a little more difficult for the financial criminals."

He has endorsed the findings of two new working papers published by IMF economists guesstimating the size of the money-laundering business at $500 billion or 2 per cent of the gross global product. The studies ­ by Vito Tanzi, director of the IMF's Fiscal Affairs Department, and Peter J. Quirk, an adviser in the IMF's Monetary and Exchange Affairs Departments ­ will be read very carefully by bankers expanding their business in the post-communist world.

The UN narcotics control board has also welcomed the Hungarian initiative. A spokesman explains: "The money involved has assumed such proportions that it is capable of tainting or destabilising the banks and entire financial markets, endangering the political and social foundations of states, especially those which have just developed market economies, and ultimately posing a real threat to democracy."

Money and financial operations are the points where criminals are the most vulnerable, says the UN board. Because of the compartmentalisation of the major criminal organizations, it is usually impossible to establish a link between a seized drug shipment and the real organisers of the trafficking operation. Money is often the only trail that extends all the way to the organisers.

Deeply concerned by corrosive global effect of organized crime, the FBI has already established a police academy in Hungary serving the entire region and prepared a co-operation agreement to improve co-ordination in the fight against financial fraud.

Paddy Feeny, a specialist spokesman for the KHF, a technical assistance programme for post-communist Europe, told me: "We welcome the Hungarian initiative because organized crime in Budapest affects us too in our own cities."

The KHF has already held workshops and seminars in Hungary about accounting and other big-crime investigation techniques. The programme is now about to intensify throughout East-Central Europe.