Sanctions are a growth industry in Washington. Whether the problem is international terrorism, external aggression, humanitarian crisis, human rights violations, civil war or the proliferation of weapons of mass destruction, the US government reaches first for its rather ample powers to restrict access of target countries to the international financial system.
Washington’s reliance on sanctions is not irrational. They can have powerful effects when dealing with non-state actors and profit-motivated malefactors. They have also had a significant impact in the case of the international effort to pressure Iran to negotiate a cessation of its nuclear weapons related activities. However, while it is understandable that policy makers wish to apply unilateral sanctions that worked in one situation to other tough problems, including North Korea’s WMD programs and human rights violations, one size may not fit all.
BNP and Banco Delta Asia
The readers of the business and international press on July 1, 2014, were provided with an excellent example of the power of US financial sanctions when BNP Paribas, a major French bank with global financial operations, was fined $8.9 billion, forced to agree to suspend for one year US dollar clearing operations from its New York and several other international branches, and required to dismiss 13 corporate officers including a chief operating officer. These penalties—imposed to punish BNP’s Switzerland Office for repeated provision of financial services contrary to US law to clients in Sudan, Iran, and Cuba from 2004-2012—was larger than its annual profit and equal to the total estimated amount of the illegal financial transactions the bank conducted. Perhaps even more damaging was the possibility that the fine might cost the bank clients. Moreover, US Attorney General Eric Holder made clear in his public comments that the penalties were a message to stockholders of major banks that the US government expected them to hold their Boards of Directors accountable for either ignoring or failing to put in place controls that would prevent such violations.
Even before BNP’s guilty plea was announced, nonproliferation sanctions experts inside the US government were aware of an interesting development in the international financial community. The private sector—particularly the financial and insurance communities—was increasingly avoiding involvement with countries subject to US sanctions even when the transactions in question and the parties involved were not subject to those measures. In effect, the biggest players in international finance expanded the impact of sanctions on key proliferators like Iran by simply walking away from their financial markets.
The same proved true in the highest profile example of US financial sanctions against North Korea: the 2005 Banco Delta Asia (BDA) case. The Macao-based bank, used by Pyongyang for financial transactions and the movement of gold bullion, was cited for money laundering and some $25 million in North Korean assets were frozen. Several things resulted, all seemingly disproportionate to the size of the seizure. First, there was a serious run on BDA and other Macao banks were also shaken. Second, Pyongyang reacted with great volatility in the diplomatic sphere, making the return of the frozen assets its main demand for returning to nuclear talks. Third, the international financial community became very reluctant to involve itself in any financial dealings with North Korea for fear of following in BDA’s footsteps. While the Bush administration eventually relented on the frozen assets in order restart nuclear negotiations, by-and-large the financial community outside of China has remained hands-off with regard to business with North Korea. Indeed, Pyongyang has had a difficult time moving money and often is reduced to using couriers to lug cash back into the country.
Both of these models are providing new impetus for advocates of getting sanctions against North Korea to work faster and better. This certainly seems to be one factor driving legislation (H.R. 1771) introduced by House Committee on Foreign Affairs Chairman Ed Royce and passed by the House on July 29. The legislation seeks to:
- Strengthen already powerful authorities under the International Emergency Economic Powers Act (IEEPA) to sanction entities that facilitate North Korean proliferation activities;
- Press the Obama administration to declare North Korea a jurisdiction of primary money laundering concern and to ban Pyongyang from using the SWIFT system for processing international financial transactions. (Similar steps used against Iran resulted in the corporate self-censorship described above.);
- Undo the decision of the Bush administration to remove North Korea from the state sponsors of terrorism list; and
- Increase pressure on North Korean shipping by pressing countries to inspect their cargos and to crack down on their violations of shipping norms and regulations.
Other advocates of increased sanctions have focused on the opportunities available through derivative sanctions to pressure Chinese entities to halt their involvement in proliferation-related activities. For example, the House legislation would give the Administration the ability to sanction firms and governments that tolerate North Korean front operations. The theory is that, like the Europeans and others in the case of Iran, Chinese banks and firms would walk away from their North Korean business if forced to choose between that and access to the US financial system. Aside from dealing a major blow to Pyongyang’s proliferation programs, reducing Chinese support for its economy by inducing the kind of financial self-censorship we have seen with regard to Iran could be a sanctions magic bullet for North Korea.
Questions to Ask Yourself about New Sanctions
There isn’t enough space to walk through all the elements necessary for a thorough consideration of the risks and benefits of using US financial sanctions to compel China—both the government and private entities—to cut support for North Korean proliferation activities. But answers to four critical questions might begin that discussion.
Question 1: Isn’t Washington allowing North Korea to use the US financial system while blocking Iran from doing so by declaring it a jurisdiction of primary money laundering concern?
Answer: No, in fact both countries’ access is highly constrained. The designation of Iran as a jurisdiction of primary money laundering did not significantly affect the scrutiny that the US government or the private sector gave to transactions involving Iran. Rather, the designation was a coalition building measure, imposed in solidarity with other governments that needed to take steps to constrain Iranian access to their financial systems. Some advocates believe that designating the DPRK as a country of primary money laundering concern will have an exponentially larger impact on Pyongyang than the Banco Delta Asia sanction. But the reality is most banks connected to the US banking system have already voluntarily stepped away from dealing with North Korea. .
Question 2: What about other steps taken from the Iran playbook to pressure North Korea like denying it access to SWIFT?
Answer: A complete answer would require detailed financial analysis. However, in general, the North’s banking system is so crude and its entry points into the international system so limited that it seems, at first glance, that this would not likely have a major impact on North Korea or on its proliferation programs. In fact, actions at the most basic level of international finance—scrutiny of North Korean couriers carrying large quantities of cash through international airports—would have a more significant impact. There is also a risk to the US in continually intervening in the operation of international funds transfer services like SWIFT (which is a business entity subject to Belgian and EU law), since we are far more dependent on the smooth operation of such services than North Korea.
Question 3: Why don’t we sanction a major Chinese financial player for transactions involving North Korea the way we have hit French, US and Swiss banks in recent years for activities with Iran? Does the Obama administration need more authority or just more will?
Answer: Easier said than done, the answer revolves around a number of important considerations. First, is there a clear case to be made against an offending entity? Even when imposing sanctions under Executive Order, the US bureaucracy has been extraordinarily careful to build strong cases against offenders. This due diligence has insulated US sanctions from the kind of court challenges that have threatened to unravel EU sanctions. The IEEPA gives the bureaucracy remarkably broad power to seize private property and to intervene in normal economic activity. But case-building takes months and involves a wide variety of Executive Branch agencies. Moreover, in many cases involving administrative sanctions, foreign governments, including China, are given the opportunity to take remedial action prior to the imposition of penalties. Without such a step, collateral damage—as described below—becomes far more likely. When matters go to prosecution, case-building becomes even more exacting. The BNP case, for example, took five years to build.
Second, is there a clear case that the offender will actually be hurt by sanctions or prosecution? Self-censorship has been the primary trend to avoid US penalties in these sanctions cases but a second trend is the evolution of “designated evaders”: firms and banks that do not have interests in the US market and do not have correspondent accounts with American banks. The US can deny such firms access to its financial system but that will have no effect. This, of course, is the case for nearly all sanctioned North Korean entities. Sanctions against them are largely just pieces of paper without effect given the lack of almost any economic interchange between the US and North Korea.
While major Chinese and Russian entities tend to be as averse to US sanctions as their US and European counterparts, there are also many niche banks and players without such interests willing to earn large risk premiums by servicing North Korean clients. Such “designated evaders” seem to be a way for governments unsympathetic to US sanctions laws to work around them without a major confrontation either with Washington or their own large international business entities.
Of course, one could seek to continue to expand US sanctions reach to deal with this reality, but at some point the exercise would end up targeting entities and governments several levels away from the original problem being addressed. Moreover, each time the US imposes these sanctions it exposes its disproportionate influence and dependence on smoothly functioning international financial markets to a test. If Washington’s actions were seen as a greater threat to the markets than the problem it was seeking to address, our influence could evaporate quickly and US prosperity would be damaged.
Third, are the governments of the offending firms on the same page as the US with regard to the object of the sanctions? This is perhaps the most telling difference between BNP and what the US would face in the case of a major Chinese entity supporting North Korean proliferation. At one time, the US and Europe were at loggerheads on sanctions. This came to a head when the US sought to use the Iran and Libya Sanctions Act (ILSA)—prohibiting foreign investment in its oil sector—against Iran. The matter came close to triggering a trade war between the US and Europe but both sides blinked and an accommodation was found. As international concern about Iran’s nuclear activities grew, however, so did European willingness to impose sanctions and to find a way to accept measures aimed against their own firms. In the end, the French government intervened with the Obama administration over the BNP case, but was silent after the plea bargain was announced.
The same cannot be said for Chinese attitudes over North Korea. While the Chinese leadership may be frustrated and unhappy with Pyongyang (and also unhappy with American policy towards that country), there is no evidence that Beijing believes economic pressure will improve matters. Indeed, it appears the Chinese leadership believes that economic development in North Korea is the long-term answer to the entire North Korean problem.
Question 4: How might China react to unilateral sanctions that affect its banks and businesses?
Answer: Major elements of the Chinese economy are much more interested in doing business in the US than with North Korea. These elements—both private and state-owned enterprises—are likely to exhibit very creative means of avoiding entanglements with sanctioned North Korean entities, as long as the US government and media do not force them to declare public fealty to US policy. But, this will not solve the problem of support for North Korea’s proliferation programs by the many small and medium sized Chinese entities that can profit from this niche market. It also can not address the tendency of Beijing to tolerate work-arounds to financial and other sanctions on North Korea that Chinese and North Korean traders continue to develop.
It is possible to envision steps that could create powerful sanctions compelling the Chinese to make an “us-or-them” choice between North Korea and the US, but the risks to American interests in East Asia and to our long-term role in the international economy need to be assessed much more carefully than is likely in today’s Washington. There is no guarantee in the current global climate that the Chinese will pick us despite the obvious economic logic of that choice. To take one complicating factor out of many that must be dealt with in this context, how wise would it be to force together an alliance of Moscow and Beijing aimed at derailing US financial sanctions by sanctioning both powers simultaneously over Ukraine and North Korea? Given the apparent inability of today’s Washington to cope with rapid shifts in geopolitical reality in Europe, East Asia and the Middle East, this writer would counsel against subjecting national security and US prosperity to such a complicated test of strategic analysis and choice.
Looking for a single magic bullet that can achieve all our North Korea policy desires in one stroke may not only be a fool’s errand, but could also prove counterproductive, particularly given the dangers of Chinese economic retaliation and the likelihood of damaging any possibility of future US-Chinese cooperation in dealing with Pyongyang. It is worth remembering that the BDA sanctions were embedded in an overall “strategic sanctions” approach to North Korea, namely an “Illicit Activities Initiative” intended to deny Pyongyang profits from counterfeiting, drug trafficking and smuggling that advocates believed were important for maintaining support for the regime among the elite. There is still considerable debate over whether this approach had a hope of providing leverage for other national security purposes such as getting Pyongyang to yield on its nuclear weapons ambitions. But at least it had a strategic logic.
If Congress and the Obama administration wish to make another sanctions push on North Korea to effect change in its policies, Washington would be well-advised first to determine what its strategic approach should be, which targets are the most lucrative and how key countries (notably China and the ROK) can be persuaded to move in the same direction. In that context, while patiently expanding those areas where Beijing and private Chinese firms will consent to move farther against North Korea, it might be worthwhile to look for a “Chinese BNP.” An entity that violated both US sanctions law and UN Security Council Resolutions on North Korea, thus violating both countries’ policies, would be an excellent candidate for the kind of sanctions that could have the right effect on enterprises considering involvement with the wrong North Korean entities.
 H.R. 1771 also addresses banks that facilitate bulk cash transfers by DPRK sanctions violating fronts.