The Impact of Anti Money Laundering and Combating Terrorist Financing

Activities on the Business and Operations of Financial Institutions

John Broome

Centre for Transnational Crime Prevention

University of Wollongong

LOOKING BACK …..LOOKING FORWARD

• 3 Decades of global AML activity

• Constantly expanding obligations

• Major impact on financial institutions (FIs)

• Will examine that impact but in the context of how we

got to the present position

• Also address some fundamental questions:

– What are we doing?

– Why are we doing it?

– Does it work?

– Does it pass a cost benefit analysis?

THE MONEY TRAIL

• In the 1980s money laundering was all about

crime

• Following the money trail was intended to

lead us to the major drug traffickers

• Criminalise money laundering

• Use financial intelligence

– Establish Financial Intelligence Units (FIUs)

• Intended to allow us to recover large

amounts of proceeds of crime

• It was a law enforcement tool within a law

enforcement paradigm

PROTECTING THE FINANCIAL SYSTEM

• Concerns about ML impacts on financial institutions and systems

• G7 decides to establish the Financial Action Task Force (FATF)

– Limited remit and limited life

• Asked to develop best practice recommendations

• These cover legal, financial system and law enforcement issues

• Based on a financial system paradigm

DEVELOPMENTS IN THE 1990s

• Major spread of AML initiatives

• Regional FATF style bodies

• Legislation introduced in many countries

• Mutual evaluation process adopted

• Many organisations involved

– European Commission

– Council of Europe

– Basel Committee

– Wolfsberg Group

– UNOODC

– World Bank and IMF

– Development banks like ADB

• FATF 40 Recommendations revised in 1996

OBLIGATIONS ON FINANCIAL INSTITUTIONS

• The 40 Recommendations required FIs to

– Report suspicious transactions

– Report cash transactions in some cases

– Verify customers and conduct KYC and CDD

– Train staff

– Keep records

• System applies to FIs

• Initial opposition but general acceptance

• Concerns about cost and benefits emerge but system remains

TERRORISM

• It all changed on 11 September 11 2001 • The focus shifted to preventing terrorism • Target terrorist financing • Use the existing AML system (despite obvious

problems) • New FATF Recommendations directed at terrorist

financing • The paradigm now shifts to protecting national

security • Much more intrusive laws • No opposition - Whatever it takes !

PROBLEMS WITH THE FATF 40+9

RECOMMENDATIONS

• Developed by developed economies for developed economies

• One size fits all approach

• A rule based approach

• This was due to the idea they were Recommendations

• But they had become Standards and were set in stone

• FATF recognised the problem in 2008 and said low capacity countries (LCCs) should focus on core issues

• LCCs were narrowly defined

• The reality is that countries need flexibility and reasonable time

• This is not an excuse for inaction

RISK BASED APPROACH (RBA)

• Developed in 2007 as a response to concerns about the rule based approach

• Idea is to assess the ML and TF risks of customers, products, locations and delivery methodologies

• Not compulsory – rule based approach can be used

• Hopes it would reduce compliance costs

• In fact good risk based analysis requires skills and resources – it does not save money

• Creates problems in low resource countries where the skills are not available

GLOBAL FINANCIAL CRISIS (GFC)

• Why?

– Greed,

– Stupidity,

– Negligence,

– Criminal fraud on a grand scale,

– Money laundering on a grand scale,

– Legislators who totally abrogated their responsibility and

repealed useful laws,

– Regulators who failed to take action, and

– Failure by the ratings agencies to accurately rate investment

risks in products

• Result was a new paradigm – focus on making system

sustainable

• G20 emerges with more influence

• Regulation was back in fashion (sort of)

A TIME TO ASSESS

• Review of the FATF Recommendations underway

– Two year process with external consultation

• Failed to address the fundamental questions

– What Are We Trying to Achieve?

• Changed over time – the four paradigms

– Can We Claim Success?

• Limited at best

– What Lessons Have We Learned?

• We know what works but focus on form over substance

– What Has Been the Cost?

• We don’t know!

– Does it Measure Up on a Cost Benefit Analysis?

• Can’t tell

IMPACT ON FINANCIAL INSTITUTIONS

• Varies between different sized FIs – International and domestic

• Varies between developed and developing economies – OECD and the rest

• Asia not homogenous major differences within countries eg China, India, Thailand

• Substantial obstacles to AML CFT – Lack of political will, – Inadequate resources, – Poor regulatory practices, – Corruption, – A lack of trained staff, – Poor international support, – Competing priorities, and – A view in many counties that it’s not their problem.

• Essential prerequisites for effective AML CFT

(see paper)

• Rarely exits even in developed economies so it

is very difficult to achieve

– Needs a public and pirate action and cooperation

– If only one side is trying it cant work

– If government fails to provide resources and

commitment it cant work

– If only some reporting entitles are trying it can’t

work

• The result is wasted resources

• Impacts are both positive and negative

IMPACT ON FINANCIAL INSTITUTIONS

POSITIVE IMPACTS ON FIs

• Enhanced customer knowledge • Good for business

– More business opportunities – Cross servicing

• Fraud prevention and detection – Less likely to be defrauded an more likely to find it

• Reduce disruption and costs of non compliance – Fines and legal costs – Loss of license – Diversion of management time

• Reputational Issues – Avoid high risk customers – Avoid public criticism – ‘banker to despots and dictators’ – Avoid involvement in international sanction regimes – Maintain correspondent relationships – Stay in business (Riggs Bank)

• High Compliance Costs – AML CFT IS NOT CHEAP

– Modify operating systems,

– Develop detailed policies and procedures (many should be standard

business practice),

– Board oversight and sign off,

– Ensure all staff are actively applying verification, KYC, CDD,

enhanced CDD procedures through internal management controls

and audits,

– Software and hardware to operate transaction monitoring systems,

– Detailed and ongoing staff training

– Review the AML CFT risks of all products, customers, markets and

product delivery mechanisms,

– Ensure new products and services are assessed for AML CFT risks,

– Have the risk analysis processes independently verified, and

– Set up systems to link transactions and account names to watch

lists, sanctions regimes and lists of high risk jurisdictions.

NEGATIVE IMPACTS ON FIs

• Competitive Disadvantage

– It is unfair unless everyone has to follow the rules

– Non compliance can produce short term benefits

– Move to the lowest common denominator

– The most often quoted excuse for non compliance

– But …. Remember the positives

• Cultural Norms

– Our clients will not answer questions

– Common to use single accounts for multiple customers

– Threats of adverse consequences to business for following the rules

– Our staff are intimidated

• The answer is public awareness and internal training

– We need to change the time when customers provide detailed KYC information

• Costs of RBA

NEGATIVE IMPACTS ON FIs (cont’)

WHERE TO FROM HERE?

• Are the costs and benefits worthwhile?

– Only if the systems are working

• Acknowledge they often do not work well

• The answer is to improve the AML CFT systems not stop trying

– We must critically examine what we do and how we do it

– Be prepared to change

– Improve levels of cooperation

• Focus on efficiency and effectiveness to reduce impact and increase benefits