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U.S. Cut Cash to Iraq on Iran, ISIS Fears

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Currency is exchanged at a market in Erbil, Iraq
Currency is exchanged at a market in Erbil, Iraq

Fed and Treasury officials were concerned that dollars were ending up at sanctioned Iranian banks and possibly being funneled to Islamic State militants

 

Nov. 3, 2015 - The Federal Reserve and Treasury Department temporarily shut off the flow of billions of dollars to Iraq’s central bank this summer as concerns mounted that the currency was ending up at Iranian banks and possibly being funneled to Islamic State militants, the Wall Street Journal cited U.S. and Iraqi officials and other people familiar with the matter.
The previously unreported move to stop the cash shipments pushed the Iraqi financial system to the brink of crisis and marked a climactic moment in efforts to avert the flow of dollars to U.S. foes.
The situation sheds light on an important facet of the long-running U.S. battle against terror: Just as military officials worry about U.S. weapons getting to enemies, finance officials are on a global hunt to keep dollars from getting into the hands of adversaries who could use it to finance their activities.
After Iraqi officials this summer agreed to institute tighter controls on the distribution of U.S. dollars by Iraq’s central bank, the dollars are flowing again and with better oversight, according to U.S. and Iraqi officials and people familiar with the matter.
The problem dates to last December when Fed and Treasury officials called a secret meeting in an Istanbul hotel conference room with Iraqi officials. The Americans were alarmed by the rising volume of dollars being shipped into Iraq and the lack of clarity into where the cash was ending up, the people said.
Since the U.S. overthrew Saddam Hussein and helped establish the Central Bank of Iraq in 2004, the U.S. dollar has largely become the country’s chief currency because so much of the economy runs on cash. When Iraq needs more paper currency, the money is drawn from the country’s account at the Fed, funded largely by oil reserves, and flown to Baghdad.
The amounts have been soaring. In 2014, annual U.S. dollar cash flow from the Federal Reserve Bank of New York to Iraq was $13.66 billion, more than triple the $3.85 billion in 2012, according to data compiled by Iraq’s parliament and reviewed by The Wall Street Journal.
That spike doesn’t mesh with the sluggish Iraqi economy of late, and as a result U.S. officials suspected the dollars were being hoarded rather than circulated.
It was hard to know for sure. Until recently, New York Fed officials who supervised the money flows received only spotty monthly reports in Arabic and English in a mix of Excel spreadsheets, unsearchable digital documents and some hard-copy reports, including handwritten notes, according to U.S. officials and people involved in the process.
At the Istanbul meeting, U.S. officials insisted on tighter controls and information-sharing regarding how the dollars are distributed to financial firms in Iraq, according to U.S. and Iraqi officials. Iraqi central-bank officials started sharing more information in January.
The system for distributing dollars within Iraq works like this: Foreign central banks hold dollars and can call on the Fed for currency distribution. The new $100 notes are flown to Baghdad after leaving a Fed facility in East Rutherford, N.J. In Baghdad, the bills are moved to the Iraqi central bank, where they are sold in daily auctions in which Iraqi financial firms request dollars that they pay for largely using dinars, the country’s currency.
Early on, U.S. concerns centered on roughly 2,000 financial firms called exchange houses, which are active participants in these auctions.
Around June, Iraqi officials working under the enhanced information-sharing agreement reported to their U.S. counterparts that three sanctioned Iranian banks—Islamic Regional Cooperation Bank, Bank Melli and Parsian Bank—had obtained at least millions of dollars through the auction. Like other Iranian banks, those were operating under international sanctions, and it was illegal for the Fed to knowingly ship dollars to them.
Based on the new information, U.S. officials sent a written demand around July to Iraqi officials that the Iranian banks be cut off and separately conveyed to Iraqi officials that the Fed wouldn’t approve cash requests until the overall situation improved.
The decision was delivered just as Iraq’s central bank was running out of cash. Many Iraqis panicked after large withdrawal requests were denied, and the exchange rate fluctuated much more than usual.
Iraq’s central-bank governor didn’t reply to requests for comment.
On Aug. 6, just days before Iraq’s central bank said it would run out of dollars, the Fed and the New York Fed sent nearly $500 million. It has sent several more in the weeks since then.
“From a counterterrorism perspective, it is not in our interest for there to be an economic crisis in Iraq derived from a lack of U.S. dollars,” Mr. Glaser said in an interview.
The issue isn’t fully resolved. On Oct. 2, the Treasury hosted a classified meeting in Washington focused on Iraq exchange houses that could have connections to Islamic State, according to people familiar with the meeting.
A couple of those exchange houses are owned by politically connected Iraqis, and U.S. officials discussed how best to persuade other Iraqi officials to terminate those relationships, one of these people said.

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