THE REPUTATIONAL RISK FOR LAW-ABIDING AND WELL-MEANING COMPANIES – On 5 February 2012 President Obama signed an Executive Order to further the US Administration’s Iran Sanctions Program that blocks (i.e., “freezes”) all property of the Government of Iran as well as all property of Iranian financial institutions, including the Central Bank of Iran.
This builds on a range of diplomatic and legal sanctions that the US imposed on 31 December 2011 to prevent foreign financial institutions conducting transactions with Iran, as part of international efforts to prevent further development of Iran’s nuclear weapons programme. The European Union also agreed to impose sanctions on Iran that would become fully effective from July 2012 onwards. Measures against Iran’s Central Bank, which primarily provides liquidity to Iran’s oil export and energy industry, and against any international bank that does business with the Central Bank, are designed to apply substantial pressure to the Iranian economy, and, by extension political decision-makers. In these circumstances, international banks are likely to suspend all transactions with Iran rather than risk the sanction of United States or Europe, with the threat of exclusion from the trade of the world’s largest and second largest economies.
Financial institutions, banks and companies based in Iran have over many years developed complicated transactional mechanisms and networks that have the express purpose of circumventing sanctions. These have involved the extensive use of
third parties, the formation of front companies and shell banks and the active cooperation of the governments, financial institutions and commercial enterprises of countries that have been willing to assist Iran or to profit by avoiding sanctions.
Iran is likely to continue with these methods, while applying pressure and incentives to the legitimate business activities of those that refuse to engage in illicit processes and rewarding those that cooperate with its efforts to undermine or circumvent the international action.
More recently, taking a note out of North Korea’s book, the Iranian regime has also reacted with a degree of calculated belligerence to the imposition or imminent application of further sanctions, threatening to cut the supply of oil to the European Union and to restrict the flow of international shipping through the Straits of Hormuz. Although these threats seem likely to be for internal consumption, have disadvantages for the regime and induce volatility in the global oil market, they are probably a tangible sign of Iran’s worries about the effects of a fresh round of sanctions on its already constrained economy; there are indications that inflation will continue to rise and that the net cost of imports is likely to increase further.
Recent history has shown that economic sanctions tend to encourage the formation of illicit, informal mechanisms for enabling transactions at every level of society in the target countries, to engender widespread official corruption and institutionalise black market activities, trafficking and criminality. As a general rule, these activities invariably lead to the progressive criminalisation of society, the weakening of official institutions and a further, systemic erosion of the rule of law, particularly with regard to commercial engagement and financial transactions.
In addition, in evading sanctions, authoritarian regimes generally resort to direct control of the national economic levers, coupled with higher levels of off-shoring, the use of front or shell companies and shadow banks to conceal economic activity and assets and to shield evidence of transactions from the impact of sanctions.
This, indeed, has been the pattern that has emerged in Iran since the Islamic Revolution.
Over the past thirty years, the regime has built up a coercive and progressively repressive political mechanism for maintaining itself in power; in parallel, it has developed a complex web of direct and indirect measures by which it can control and manipulate economic activity and financial assets. Each new round of sanctions that has been introduced by the US and Europe has caused a general exodus of capital and personnel from Iran by Western companies and institutions. It has also led to the emergence of a range of processes and instruments whereby Iran and those countries and trading partners who, for either political or commercial reasons, see advantage in softening the effect on the Iranian economy. As such, the increased level of sanctions is likely to lead to the more active use of shell banks and third parties to allow state companies, institutions and individuals to conceal both ownership and control of financial instruments and investments.
Much of the reputational and institutional risk for companies and institutions operating legitimately lies in the fact that transactions that are designed to avoid the sanctions regime are often conducted through these opaque mechanisms and third parties -indeed, the arrangements often involve fourth and fifth parties. The result is that, alongside determined sanctions-busters, there are likely to be a significant number of unwilling or unwitting participants, whose assets, processes and operations are being exploited to enable the Iranian governmental and commercial institutions to evade sanctions.
At the heart of Iranian attempts to circumvent sanctions is the Iranian Revolutionary Guard Corps (IRGC). Embedded in government, it runs extensive smuggling and trafficking operations, based around energy exports, high value items and scarce consumer goods, including alcohol. Evidence from Iraq confirms that smuggling and trafficking arrangements and networks in place during the rule of Saddam Hussein have remained active, especially among the cross-border towns and communities and among the Shia militia groups. There is also evidence of systemic money-laundering, which the regime undertakes through both indigenous and foreign banks, as well as through a complicated range of barter and substitution deals. This is often driven by the need to acquire foreign currency, for further third-party deals, and through bureaucratic deception and creative accounting in the pricing process for Iranian oil and gas, the export of which, is, of course, is the major target for US, UN and other sanctions.
An area that is likely to see a significant, immediate increase in activity is the laundering and inter-change of US dollars and precious metals.
This trend, seen many times before, is triggered by the growing demand for US dollars and bullion in the country as the economy lurches every time a new round of sanctions is proposed and enforced by the US and Europe. These tendencies are usually accompanied or followed by steep rises in Iranian Central Bank interest-rates, as the rial falls in value, and an accompanying contraction of the money supply and the trade in non-essential goods.
These laundering activities are increasingly being facilitated by the informal processes associated with Hawala, hundi and zakat money exchanges and the human networks based on specific national communities around the world (diasporas), able to avoid scrutiny and regulation by any one country or authority. The well-established connections between Iran and Syria will have been complicated and disrupted by the situation unfolding in Syria and the sanctions applied to that country. Similarly, the pressure to use these informal systems will become even more intense if SWIFT (The Society for Worldwide Interbank Financial Telecommunication) prevents Iranian institutions and individuals from using its transaction network, to avoid sanctions and conduct illicit business. In these circumstances, Iran would be incapable of conducting international electronic financial transactions.
Meanwhile, Iranian state-owned companies and their commercial associates will continue to exploit a range of legal loopholes and offshore instruments to circumvent sanctions, most of which were developed to facilitate arms transfers and the supply of nuclear-related equipment.
For example, the Islamic Republic of Iran Shipping Line (IRISL) has renamed over 80% of its ships since 2008 and reflagged and re-registered a significant proportion of its fleet. This manoeuvre has resulted in the carriage of goods to and from Iran in ships that have a flexible identity and audit trail, based on multiple ownership, flagging, licensing and leasing arrangements.
Another method used in the past to circumvent sanctions and legal penalties -and likely to be employed again – has been the extensive use of barter, whereby goods or services of equivalent value have been traded, either directly or through a third party.
The considerable gap between the UN Security Council Resolutions and the much more coercive sanctions adopted by the United States and proposed by Europe and other countries has also offered competitive opportunities to some countries.
In summary,
the progressive application of sanctions has intensified the economic problems for the Iranian population as a whole, stimulating a vast, systemic black economy, while the regime and elites have managed to avoid the effects through a range of off-shoring and covert practices, often with the connivance of various states and financial institutions. These practices are likely to be extended in the wake of fresh sanctions. The lesson from previous sanctions regimes is that sanctions have to be universally applied and that they have to be employed in conjunction with other measures as part of a comprehensive approach that targets those areas that are crucial to the retention of legitimacy by those holding power.
For legitimate companies and individuals, it is the opaque dynamics and complex character of many transactions that hold reputational dangers and potential penalties for those dealing unwittingly with Iranian companies, interests of individuals. It is often difficult for national jurisdictions to attribute culpability, but the overriding criterion in deciding whether sanctions regimes and their legal application have been circumvented is cui bono – to whose good or benefit have breaches of sanctions accrued. Only a comprehensive, rigorous examination of all those entities engaged in the chain of exchange is likely to give assurance – to the international community and national courts – that all reasonable steps and precautions have been taken by a company or financial institution to demonstrate that it has not sought to circumvent sanctions and to benefit as a result.
The level of complexity and ambiguity that characterises Iranian attempts to subvert successive sanctions regimes offers significant risks for any business operating internationally. These sophisticated sanctions-busting networks and indirect linkages are, by their design and nature, opaque and multi-layered. Therefore, constant vigilance and detailed analysis of transactional and transfer arrangements are necessary to ensure that institutions and individuals are not unknowingly and indirectly engaged, or seen to be involved, in sanctions avoidance and breaches of international law. This level of assurance requires sophisticated tools and a degree of insight that can only be gained through intelligent, rigorous exposure and analysis of the multi-layered connections that exist between suppliers and customers, the providers and users of capital and between institutions and individuals. Only then can they avoid, or minimise, the evident risk of political sanction, reputational damage and severe legal penalties, as well as exclusion from a wide range of legitimate business.
Article extracted from THOMSON REUTERS’
http://world-check.thomsonreuters.com/KorthKorea_SanctionsMay2013?elq=a15a245ca94d4e2ea9f878a6faf8e14e&elqCampaignId=729
Loading...