Terror and Diamonds in Washington

"The trade in rough diamonds and the mixing of parcels before being imported into a country for finishing [cutting and polishing] and sale is a recognized vulnerability." Vulnerability? This matter-of-fact statement was made yesterday by the U.S. Assistant Secretary of the Treasury for Terrorist Financing and Financial Crimes testifying before a U.S. Senate Intelligence Committee on the "abuses by terrorists of non-traditional means of financing and the U.S. government's effort to combat them."

A significant part of the testimony was devoted to diamonds, once again underscoring the U.S. government's continued concerns about "the vulnerability of the precious commodities sector as a possible means of terrorist financing," to quote Assistant Secretary Juan Carlos Zarate, who noted that "illicit diamond trade provides an instructive illustration of how terrorists could abuse the precious commodities industry to fund their efforts". These statements are nothing new – and no new evidence about the use of diamonds for terrorist financing was either presented to the Senate Committee, nor, in general, has recently come up. But that doesn’t seem to impact the resolve to stress the link – and if there is no new evidence, it might well vindicate and demonstrate the effectiveness of the measures already taken.

What makes the presentation of paramount interest is the apparent determination by the U.S. government to more closely regulate and monitor the diamond industry. The Kimberley system for rough diamond trade certification is not enough. Says Zarate: "Although the Kimberley Process has made notable progress in counteracting the trade in conflict diamonds, the procedures were not designed specifically to combat diamond laundering or other financial crimes associated with diamonds." It was in this context that Zarate made the earlier noted remark on the mixing of parcels, adding that "there are reports that in some locations Kimberley certificates can be purchased on the black market", and even more significantly that "the trade in polished stones is not subject to the Kimberley Process".

I have argued many times that money laundering and terrorist financing cannot be fought through the Kimberley Process; there are better ways to do so. Kimberley is meant to verify the source of diamonds – and ascertain that it is a non-conflict source. The fight against money laundering and terrorist financing has to do with the sources of money – and the Kimberley Process cannot verify monetary sources nor monitor money flows, nor was this ever the task of Kimberley to begin with.

Purely on the anti-money laundering and terrorist financing issues, the trade is still is waiting for the Treasury's Final Rules for the Jewelry Trade which, we were told earlier this week by a spokeswoman at the Financial Crimes Enforcement Network (FinCEN), should have been issued by the end of last December and the present delays are attributed to the "higher ups" at the Treasury (not at FinCEN) that may still wish to make some changes. Though Zarate did mention these final rules extensively (which, he said, "will be issued shortly"), he didn't indicate what changes the Treasury still might be contemplating. But, in light of yesterday’s testimony, it is reasonable to accept a further pro-active involvement of the U.S. government in international diamond matters.

Read the following sentence carefully and note the nuances: "The Treasury Department is responding to identified gaps in the prevention of financial crimes related to precious commodities, particularly concerns of potential terrorist financing, through sustained industry outreach and the development of effective regulation." What gaps is Zarate talking about? He didn't elaborate, but he had already identified his concerns with the time-honored practice of "mixing" rough from different origins and the fact that polished diamonds were excluded from the Kimberley Process. Instead, he made a more general remark stating that "to combat these risks, we must improve the oversight and transparency of the diamond and precious commodity industries through the development of effective international standards and domestic regulation, and we must identify and disrupt illicit actors within the system through targeted actions."

"Unfortunately," says Zarata, "the legitimate diamond processing steps of mining, trading, cutting, polishing, and retailing can be abused by corrupt regimes and criminal organizations to place, layer, and integrate illicit diamonds." [Placing, layering and integration refer to the three phases of money laundering – each of which the U.S. government believes to be present within the diamond industry.]

Kimberley is a governmental program and if a regime is corrupt, then certificates lose their meaning. Even if there is no "conflict" in the country, that doesn't matter – as diamonds will still be conflict-free. However, if money laundering is what worries the U.S. government (and other governments), then Kimberley Certificates are of little use. To the contrary: they can become a laundering vehicle par excellence, providing added legitimacy in turning diamonds into bank-money. Zarate’s statement that Kimberley certificates can be purchased on the black market in some locations implies governmental complicity – and increases laundering risks associated with the certification program.

What is important (and encouraging) for the industry to recognize is that the U.S. government remains committed to a dialogue with the industry. It wants to work out these vital issues in coordination and cooperation – and the industry must make sure that governments have partners to talk with. Such continuous dialogue has impacted the Treasury's ongoing development of the rules extending anti-money laundering obligations to dealers in precious commodities, including diamonds.

The Rules, which are expected to be issued shortly (and we wrote the same line a few months ago) will set minimum anti-money laundering program requirements applicable to dealers in precious metals, stones, or jewelry to prevent money laundering or terrorist financing. These rules include formal risk-based policies and procedures, with internal controls, reasonably designed to prevent the dealer from being used to facilitate money laundering or the financing of terrorist activities.  Says Zarate: Diamond "dealers are also encouraged to adopt procedures for voluntarily filing Suspicious Activity Reports with FinCEN and for reporting suspected terrorist activities to FinCEN."

Some of these rules are already applicable to the diamond industry – notably in Belgium – but when the U.S. Treasury issues its final rules, these requirements are likely to become a prerequisite for maintaining business relations with the world's single largest diamond consumer market. This week's testimony before the relevant U.S. Congressional Committees underscores that these items remain very high on the agenda of governmental policy makers and legislators.

Have a nice weekend.