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Mexico Money Laundering Risk Grows
New central bank legislation would weaken fight against money laundering.
BY FINANCIAL SERVICES ADVISOR
Inter-American Dialogue
Mexico’s government is working on devising a banking product that would help migrant workers change their dollars to pesos, Finance Minister Arturo Herrera said recently. The product would be an alternative to controversial legislation that would require the central bank to accept excess dollars that Mexican banks are unable to repatriate to the United States due to money-laundering controls. Ruling party lawmakers back the bill, but critics say it would violate the central bank’s autonomy and potentially expose it to money laundering. Is the existing legislation as dangerous as its opponents suggest, and what would it lead to if passed in Congress? Would the alternative, which would allow Mexicans to open accounts at the Banco del Bienestar development bank, solve the problems that some face in converting dollars to pesos? How would the resolution of the debate affect the value of the Mexican peso?
Jonathan Heath, deputy governor at the Bank of Mexico: About 10 years ago, the Mexican government enacted a series of regulations aimed at curbing money laundering operations. As a result, the dollar-cash market was limited and separated from the digital or electronic dollar market. Incentives were introduced to minimize the use of cash, which is where most money laundering took place. Consequently, the cash market diminished nearly 76 percent over the next 10 years. This has led to different supply/demand channels in both markets. The supply of cash dollars comes mostly from tourism and illegal operations (mostly narcotics), together with a reduced number of remittances. Today, almost 99 percent of family remittances sent from the United States to Mexico are electronic transfers. Financial institutions that participate in this market are not able to sell back to the market all the cash that is purchased, forcing them to set up contracts with correspondent banks abroad to buy the excess cash dollars. These correspondent institutions face heavy regulations and supervision in turn from the U.S. federal banking agencies in order to ensure that the cash comes from legal known sources. If a Mexican institution does not comply with the standard procedures, it is very likely to lose its contract and face reputational risk.
These measures have been largely successful in limiting money laundering operations through the dollar cash market. One financial institution lost its contract and no longer has a means of disposing of its excess cash dollars. This institution has pressured legislators to force Mexico’s central bank to purchase the excess cash in the market. If this legislation is approved, the central bank would be forced to purchase cash dollars, thereby exposing it to money laundering.
Ernesto Revilla, managing director and head of Latin America economics at Citigroup: The proposed bill is problematic for technical and institutional reasons. On the first one, Banxico and experts have commented on why the reform is ill-advised to solve an exaggerated problem and will expose Mexico to unintended consequences.
The reform argues that anti-money laundering (AML) rules that place limits on banks accepting paper currency disproportionally penalize migrants and other workers. However, Banxico demonstrated that 99 percent of remittances arrive in electronic form, and that the identified problem is not a systemic one. Furthermore, by forcing Banxico to buy excess U.S. dollars, it could expose it to AML sanctions and place international reserves at risk. Although these technical aspects are concerning, the institutional implications of the bill are even more so. After all, if the reform were to pass, we would expect Banxico to significantly strengthen secondary rules and norms to protect its operational autonomy and the soundness of the reserves. However, the negative signal to the markets would be much bigger. It would mean the crossing of a line whereupon a reform highly criticized on technical grounds— and one that does not solve a problem but rather appears tailor-made for a specific interest group—passes in Congress despite the warnings that it infringes on the central bank’s autonomy. After such a breach, more concerning scenarios (including further encroaching on Banxico’s autonomy or on electoral rules, for example) would be repriced as having positive probability. That is why this reform is a canary in the coal mine: more important for the message it sends than for its technical aspects. The Ministry of Finance can solve the concerns of its proponents in many ways. Market-based alternatives that increase access are better than government-based ones. The Mexican peso can again underperform if the reform is approved, but the damage from this reform would not be in the form of an immediate market reaction (after all, markets are trading more on global rather than idiosyncratic factors), but in the increase in risk premium that will be priced in more and more for Mexico.
Pamela Starr, senior advisor at Monarch Global Strategies and associate professor at the University of Southern California: The Bank of Mexico Law, as introduced to Congress last November, would have huge negative repercussions for Mexico. By threatening the autonomy of the central bank, it would likely lead to a reduction in Mexico’s sovereign credit rating and a weaker peso. This helps explain why even AMLO’s nominees to the bank’s board have opposed the legislation. The bill would oblige the Bank of Mexico to buy surplus dollars that commercial banks are unable to repatriate to the United States. Legislation requiring the bank to make these purchases would not only weaken the bank’s constitutionally protected autonomy. By forcing it to buy dollars without question, the new law would also allow illicit operators to launder money through the central bank. If this were to happen, it would undermine the bank’s capacity to undertake the foreign operations essential to its monetary mission. The legislation is supposed to help migrant workers change their dollars to pesos, but this makes little sense. Fewer than 1 percent of Mexican remittance senders face this difficulty, and the bank, together with the Finance Ministry and the Association of Mexican Banks, proposed an alternative mechanism to deal with this problem. Rather, the legislation seems to be either a favor to AMLO’s main ally in the banking sector, Ricardo Salinas Pliego and his Banco Azteca, which is unable to repatriate dollars easily, or as an attempt to clip the wings of the Bank of Mexico. Both possible explanations are disconcerting.
Alfredo Coutiño, director for Latin America at Moody’s Analytics: The proposed legislation to modify the central bank law is not necessary, and it pretends to resolve an issue that does not exist for most of the banking institutions but rather for a single bank. Beyond the controversial argument behind the proposal, to help few recipients of
remittances to change their dollars into pesos, the problem lies in a proposal that was not subject to debate and consensus, particularly because the bill affects the central bank’s functioning. First, the proposal does not serve the nation’s utility and the society’s well-being. Second, it would transfer significant risk to the central bank in terms of accepting resources from illegal activities.
Third, the law would undermine the central bank’s autonomy because it would be forced to accumulate foreign reserves beyond the limits permitted by the function of monetary regulation. The fourth issue has to do with the interference with the anti-inflationary monetary mandate, because extra reserves imply more primary money in the economy, which will consequently result in inflation if the central bank is not able to fully sterilize the extra amount of pesos. The option of having Banco del Bienestar as the institution allowed to capture those extra dollars makes the problem worse, because that will imply having a public bank with ‘open doors’ for that extra cash of potentially doubtful origin.
If the bill is approved and implemented, then a side effect will be a faster accumulation of reserves, with a significant cost for the central bank. Another effect will be the increase in uncertainty and risk derived from a bill that undermines monetary independence, thus affecting the value of the peso.
Alejandro Landa, partner at Holland & Knight: If enacted, the proposed legislation would oblige the central bank to be the buyer of last resort for cash dollars that Mexican banks cannot exchange. This is a risky endeavor. If the central bank buys the dollars that the Mexican institutions cannot change, they would be added to international reserves. Because part of the cash could be connected to illicit operations, there is a risk of ‘infecting’ the reserves that function as backing for the Mexican peso. This negative perception could certainly affect the value of the Mexican peso. In addition, the autonomy of the central bank would be violated since the constitution grants it full control of reserve assets.
Republished with permission from the Inter-American Dialogue's biweekly Financial Services Advisor
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