Countering money laundering and terrorist financing
Banks and financial service providers have responsibilities, but they can’t be expected to solve these problems on their own
In November 2014 Westpac Bank, one of Australia’s largest banks, announced that it would be closing its remittance business because it was concerned it would not be able to meet the tough new legal obligations being imposed by international anti-money laundering (AML) and the combatting of terrorist financing (CTF) legislation. In doing so, Westpac became Australia’s fourth bank to close its remittance division. Meanwhile, in early 2014 France’s biggest bank was hit with a fine of almost US$9 billion after agreeing to pay up for breaching sanctions on doing business with clients in Sudan, Iran and Cuba – countries which, with the exception of Cuba (removed in October 2014), appear on the AML and CTF ‘high risk and non-cooperative’ jurisdictions list of the Financial Action Task Force (FATF). Finally, in the UK, HSBC and Standard Charter have also been hit recently with large fines after agreeing settlements with the US authorities over allegations that they too breached anti-money laundering procedures.
Something interesting is clearly going on. One of the major problems which banks and other financial intermediaries face is that the task of stopping the financing of terrorist organisations through the financial infrastructure is hugely complex. It is certainly far more problematic than the task of detecting and preventing money laundering, given the relatively small sums of money involved with terrorist financing. For example, the total costs of planning and carrying out the attacks on the World Trade Center, were thought to be no more than US$500,000. Given how much money passes through the global financial system each day, it’s hard to imagine such a nominal amount attracting attention.
Most major financial centres are now subject to stringent regulation and enforcement. This provides at least a basic level of deterrence and detection of money laundering. Those wishing to exploit the financial system for criminal activities are therefore turning increasingly to informal financial transfer systems, such as the hawala which offer a quick and efficient way of transferring funds internationally with little or no regulatory oversight. The problem of the hawala is that, like all informal money transfer networks (MTNs), it operates with little or no records, customer identification or regulatory oversight. Outstanding balances are only kept by individual hawaladars, with payments being settled either through the physical movement of cash by trusted couriers, bank transfers or reciprocal remittances.
Such practices have often led MTNs to be viewed as an antiquated practice. However, contrary to such a view, the hawala is actually a highly effective financial tool, offering a speedy, dependable and cost-effective way of transferring funds. In effect, the hawala, along with other MTNs, has offered the financiers of terrorism a practical way of moving illicit funds across national borders undetected.
One of the problems encountered in seeking to regulate MTNs with appropriate AML and CTF legislation is that the latter can easily drive them further underground, thereby excluding individuals who use these systems for legitimate purposes. This is particularly relevant in developing countries where, for many, informal MTNs are often the only viable banking institutions available. Afghanistan is such a case: prior to 2002 the hawala effectively replaced the formal banking system. It makes sense, then, to view the emergence of informal MTNs, such as the hawala, as a structural response to the uncertainty and risks presented by the formal financial services market. As a result, MTNs in many countries have become a necessary part of a fragmented financial system.
A further problem facing AML mechanisms is that informal remittance systems thrive throughout the developing world. Informal MTNs are extremely popular and are used by those excluded from the formal financial system because of associated cost and risk. MTNs are especially popular with the poor and, especially, with migrants. For many migrants informal remittance systems offer an effective and cheap way of transferring cash across borders to perhaps illiterate family members abroad. They avoid both the additional costs imposed in the formal banking sector and the accompanying invasive regulatory oversight (a particular problem, of course, for illegal migrants). At one and the same time, therefore, informal MTNs are an extremely important financial tool for many vulnerable people throughout the world and a system highly susceptible to exploitation by those who desire to use these networks for nefarious reasons.
A final major problem for AML and CTF laws, albeit one that lays outside the immediate reach of the formal banking system, is the fact that many countries, although they have toughened their domestic regimes to comply with international standards, still lack both the institutional capacity and political motivation to enforce successfully AML and CTF norms and practices. For example, Iran continues be a major source of concern to the FATF, which has consistently raised concerns over Iran’s failure to address the problems of money laundering and the financing of terrorism. The FATF has suggested that Iran’s failure to implement sufficient regulation on this front poses an intrinsic risk to the integrity of the international financial system. Yet the reality is that Iran’s vast oil reverses mean that the international community has little choice but to deal with them. As such, Iran continues to conduct business internationally, even though its financial infrastructure is known to be open to abuses by individuals wishing to finance terrorist activities.
In other words, even though many new international procedures have been put in place to incorporate the countering of terrorist financing within existing AML practices, with tough penalties being imposed on institutions found to be in breach of such laws, as we saw, there still remain big gaps in regulatory, financial and legal systems that allow money laundering and terrorist financing to go undetected. Essentially, many of the sanctions being imposed on banks are reactive, backward-looking and unlikely to strike at the heart of the problem. Of course, it is the case that banks and financial service providers have a responsibility to safeguard customers and stringently enforce due diligence checks. But they can’t be expected to solve the core problem. This lies beyond the scope of banks and other financial institutions and requires the implementation of a regulatory framework much, much broader than the current AML and CTF regime.
Articles and comments posted on this blog reflect the views of the author(s) and not the position of SPERI or the University of Sheffield.