L. Burke Files is an international investigator, due diligence expert, and international finance and corporate world insider. For nearly three decades, he has worked as a specialist in international finance and due diligence working on projects in over 100 countries. Before founding FE&E in 1993, he was a licensed commodity FCM and CTA for Oppenheimer Rouse and served as the Director of Corporate Finance for American National Group. Mr. Files continues to serve on various boards for private companies, working in international finance, due diligence, and anti-corruption.
Mr. Files currently serves as President of Financial Examinations & Evaluations, Inc. on the Management Committee of INTERFIMA, Luxembourg, Co-Founder of the International Due Diligence Organization, President of the American Anti-Corruption Institute, Director Neilsen Spirits, Inc. and as an internal advisor for Shank Glazing Solutions.
Specialties: Due Diligence, Financial Investigations, Intellectual Property, and Critical Information Investigations, with a focus in International Engagements.
Today, we are talking with Mr. Burke Files about the worlds’ banking system in 2019:
By now, almost 100 countries have signed an agreement on access to the treaty on the automatic exchange of tax information within the OSCE. How did the international banking market change after this?
The OECD and their members’ thirst for tax revenue are doing their members, and especially developing nations, a great disservice. Tax harmonization, the requirement for the TIEA and eliminating regulatory arbitrage, are the fuel behind the nearly 90 different countries that have found themselves on one of the OECD / FATF blacklists. So what has changed? It is harder than ever as a multinational to seek or even maintain international and domestic banking services. The banks are just not interested enough to invest in KYC (Know Your customer). Scandal after scandal is empirical evidence that most do a very poor job on KYC. So now if the bank does not wish to understand your business, they close your account. After all for the under 1 million gross per year businesses, it is cheaper for the bank to close the account and appear tough in front of the regulators than it is to actually perform the required KYC due diligence.
At the same time, it is accelerating the disintermediation of the banks from financial services. Funds all over the world are pouring into alternative banking and remittance services. The top ten Cryptocurrencies in January of 2019 had about 140 million in the float. However, in 2017, over 1 billion dollars a day of mobile money payments were made with 690 million users.
Private lending is eclipsing banking lending in nearly all countries. Even in the USA, private lending accounts for only about 50% of loans. In some developing nations, private lending accounts for over 70% of the market.
Back to the point TIEA, FATCA, OECD/FATF, and other requirements have fundamentally changed every customer from an asset into a potential liability. Banks that once begged for deposits now require the depositor to petition the bank for an account. No wonder the customers have gone elsewhere. The hyper-regulation on tax and AML will continue to force people and business to seek other solutions to meet their payment, borrowing, and investment needs.
The very regulations levied on financial institutions have forced the client to seek non-traditional financial service providers just to stay in business.
What would you say were the main corruption banking scandals that happened in recent years? What were they related to?
The major banking scandals are tied to capital flight, corruption, and massive financial frauds.
Flight Capital is when the money of the people of a given nation leave for one of many reasons. Political instability, stupid leadership, or high taxes are the three main reasons – and they are not exclusive. Flight capital is best measured by the exodus of a country’s millionaires.
The country that saw the most millionaires leave was China – but they are a very populous country, and the percentage of millionaires leaving was small. This contrasts with France who had the most significant percentage of their millionaires depart. In the last 5 years, it is estimated that 28% of millionaires have left France. The big losers in capital flight are France, China, Russia, India, Brazil, and Turkey. The big gainers are Australia, the US, Canada, Greece, and Israel. In a poll taken just a few months ago – over half of the Chinese millionaires cannot wait to leave. What is stopping them? The severe restrictions on the convertibility of the Yuan.
The scandals dubbed, “The Russian Laundromat, Deutsche Bank Mirror Trading scandal, and the Danske Bank 280 billion in wires out of Russia”, were problems that appear to have been flight capital with a bit of tax fraud sprinkled in.
In fairness, the Russians who converted their rubles to other currencies between 2007 and 2014 can’t be blamed. The ruble was artificially supported, and everyone knew that. The schemes were simple – use the courts to move the money through Moldova, buy bonds in rubles and sell them for dollars in the same day, or use a company with the valid export/import licenses to convert the ruble into another currency. In 2014 when the Russian government withdrew support, the ruble lost 40% of its value over a short period of time and these schemes stopped. They stopped long before they were discovered.
Corruption is a scourge around the world, especially in Brazil, Azerbaijan/EU, Detroit, Nigeria, Germany, and Greece. Corruption is always related to a fix for commercial or political gain. That has led to the discussion of who is a PEP (“politically exposed person”)? While loosely defined in regulations, the PEP definition is poorly understood in practice. Several European banks overlooked thirteen members of the Parliamentary Assembly of the Council of Europe (PACE) and their spouses and business who were thrown out of PACE for accepting gifts and bribes from the Azerbaijani government. That’s it? These members were treacherous to Europe, their countries, and their families for what appears to be between 30-50,000 euros each. None of the banks appear to have filed even an SAR (Suspicious Activity Report) on the lot. With punishment like that, simple termination and corruption enforcement in Europe is a farce. It is also certain that the banks did not understand their clients, who their spouses were, and the front companies owned by and used by those targeted by the gifts. Also, what of the issue of corruption between two or more private companies? The scandals involving corruption will continue as long as the punishments are small and the profits to be made are large.
How can a bank spot a PEP? How many layers must the investigation look into to find the relationship to children, and how wide must the investigation be to encompass all of the relatives to satisfy regulators? How are those accounts to be monitored? All financial institutions must now spend an inordinate amount of time sorting through the transactions of politically exposed persons. I am aware of several banks which fire all PEP clients as a matter of policy. As one banker quipped, “Why bother with PEPs? The honest ones do not make enough money to make the effort of designation and monitoring worthwhile.”
Can you tell us about American, European, and Asian private banking in 2019? What is the difference? Their competitive advantages over each other? What are the disadvantages?
In terms of services – Asian Private banking is on the rise. Asian banks offer more products and services in an integrated fashion. European private banking is good but growing stale and paranoid. US private banking services are limited, fragmented but solid.
Security is on the side of the American banks. While limited in what they can offer, the vast majority of US banks are fiscally solid. European banks are on the cusp of fragility. Any significant European downturn will cause a considerable European liquidity crisis. While few banks will fail, some will require depositors and bondholder to bail in their bank. The more socialist the country is, the more there is the likelihood of problems. The Asian banks are by far the riskiest, especially any banks that are owned by a government invested heavily in government debt or companies that are owned by or do the majority of their business with governments. I also expect to see a wave of consolidation in Asian banks. Will consolidation create more robust banks and reduce risks or make any failures later and larger. I believe the answer is yes to both.
At the first significant signs of any recession, the trading models will force a massive sell-off of overseas equity and debt triggering issues with capital reserves and systemic liquidity problems. Developing nations’ currencies will devalue, and the USD, Euro, GBP, and SF will become overvalued. Do not be surprised either by drastically restated financial statements that are submitted to the markets and regulatory authorities.
What are the top 5 countries who have the best (safe) banking systems in 2019? And the TOP5 with the riskiest systems? Among TOP 5 are: United States, Canada, Australia, UK, Netherlands. Bottom 5 are: China, Turkey, France, Brazil and any country run by a dictator or socialist (often indistinguishable).
The ratings are based upon the nimbleness of responses to past crises, not on the amount of capital but on the soundness of the capital. The soundness of capital is viewed as being suspicious where there is a solid probability of accelerated losses due to flight capital.
A separate question about Swiss private banking: How relevant and competitive is it in 2019? Or what are the most competitive European banking systems in 2019?
Private banking will always be needed. The Swiss firms provide competent services, at a price to be sure. People and firms need financial security and privacy. People need it to reduce exposure to issues such as kidnapping. Firms need private banking to avoid telegraphing information on research, development of new products and markets, as well as the depth of financial resources to their competitors.
What are some fundamentally new banking services that banks have begun to offer?
The banks are exploring adding services to support business processes as well as multinational treasury management for family business and conglomerates. While some “Fin-Tech” is entering the “Fin-Tech” sphere, mostly it is aimed at introductory clients’ services such as RoboAdvisors and payment apps.
The banks are also developing select units for specific client needs such as trade-based finance, carbon credit investment, and trading, and are looking at both their and their client’s environmental footprints for sustainability.
What are your recommendations for wealthy clients in 2019: investment or private banking?
Prepare for a downturn that will be sharp, swift, and brutal. Investors will call loans, developing markets will see a capital exit to safer domiciles, and the liquidly crunch will be real. Thus, those with cash might be able to do some private barging hunting. Cash will be the best asset for the next 12 to 24 months.
Are there any fundamental differences in the auditing standards of banking in the US, Europe, or Asian countries?
The difference between the US and international auditing standards is really very small. There is a genuine difference in the ability and capacity of auditors. The US has a robust set of standards and generally good enforcement. Recent scandals, with many an accounting firm whistleblower coming forward, have shaken the faithful, but the US still possess the finest auditors and capacity. The EU is on par, but many lack the ability to become adverse to their audit client, and many auditors lack a safe harbor if they become whistleblowers.
The audits out of Asia, Middle East, Africa, and to a lesser degree Latin America are conducted by professionals that have not, as a group, developed the auditing mentality. The auditors are too interested in getting along with the client and less with the dignity of the profession. Their tests are often shallow and perfunctory. They understand accounting but have not fully developed their craft of auditing. I possess a deep distrust of all Chinese audits.
Can auditors, in principle, predict a bank collapse? For example, can one trust the ‘big four’ companies?
Auditors do not predict anything. They are there to ensure the company fairly and factually represents its financial condition by providing the financial information to meet the required standards. That being said, the Big 4’s work has deteriorated in the last few years. When 80% of the audit contact hours are with people with less than 4 years experience, well you begin to see the problem.
To predict any collapse, one must really understand a bank’s portfolio of customers, loans, investments, and the markets served. The risks can often be reinforcing risks – these that have a portfolio of reinforcing risks are the most vulnerable to market shocks.
Data security and information leakage. SSAE standard 18 (*new auditing standard). What are the main scandals associated with information leakage?
What’s new in SSAE 18? These are the fundamental changes that companies currently performing a SOC 1 or 2 (A SOC 1 and SOC 2 report is an independent snapshot of the organization’s control landscape on a given day), or, will be performing one in the near future, need to take into consideration this year and going forward:
1. Service Organizations will need to implement a formal Third Party Vendor Management Program
2. Service Organizations will need to implement a formal Annual Risk Assessment process
The audit firms are not prepared to be the sole arbiters of such a standard. They need real technical help on IT security and break prevention, detection, and recovery. Not only do you need in-house expertise, but you also need an outside vendor to assist the service provider company.
Also, any company with detailed customer data such as financial institutions, hospitals, or even governments should subscribe to some of the services that offer a real-time assessment of all attempted penetrations. Data protection decisions must now be made in milliseconds, not hours or days.
Interview: Irina Rybalchenko