Improving Anti-Money Laundering Compliance – Self-Protecting Theory and Money Laundering Reporting Officers

Improving Anti-Money Laundering Compliance – Self-Protecting Theory and Money Laundering Reporting Officers

As these words are crafted, money laundering is centre stage both in connection with the leaked Panama papers and the perceived risks posed by offshore finance centres (OFCs) and with its link to corruption. Public disquiet over foreign criminals using OFCs as a means of ‘laundering’ their criminal assets through the London property market appears to be prompting more overt action on the part of the UK Government with a series of recent announcements: requiring disclosure of owners of all overseas companies purchasing property in the United Kingdom (UK); a new corporate money laundering offence that would hold employers responsible for failing to prevent money laundering by their employees; and plans for introducing the offence of ‘illicit’ enrichment for UK public servants.

If these proposals find their way onto the statute books, there will be yet more rules and regulations with which companies and institutions find themselves legally bound to comply. Of course public intervention within otherwise ‘free markets’ is predicated on the desire to correct some imperfection and indeed must be both justified and proportionate. This is especially the case when state intervention places burdens upon or intrudes into the lives of its citizens. Intervention in the financial market is more frequently justified because in its absence, the rest of the economy would fail to function. Writing almost thirty years ago, Lomax (1987) cited in Franks et al. (1998, p. 1548) makes a most salient observation “the only major threat to the future health of the financial services industry is that of excessive or inappropriate legislation”. For regulation is not cost neutral. Indeed in the UK each new law must be accompanied by a regulatory impact assessment (RIAs), a ‘soft’ cost-benefit assessment. ‘Soft’ because very often costs are only partially identified whilst claimed benefits are unquantifiable, presented in narrative terms. Thus, Harvey (2004) reviewed the RIAs for UK Money Laundering Regulations in 1993 and 2001 and demonstrated costs to be significantly understated and benefits unquantified merely promising sweeping protections for society from the global threat to the integrity of the financial system. Whilst no one would condone the activities of organised criminal gangs or of terrorists, they are very different both in objective and modus operandi but are within political discourse cojoined in creating the ‘threat’ giving absolute justification for the imposition of an extensive anti-money laundering (AML) regulatory framework.

Such burdens are not inconsequential. Harvey (2008) noted that the machinery of AML compliance had become self-generating with increasing cost implications. Those charged with their compliance within institutions can find themselves personally liable for failures within their organisation or by any of their employees to spot and report money laundering. Her respondents draw attention to their difficulties in coping and refer to a culture that is fear driven and risk avoiding. Those bearers of the poisoned chalice of AML compliance (Harvey, 2004) negotiate a tricky line between ensuring that they keep their employing firm on the right side of the law whilst ensuring that they do not overly inhibit the activity of those employed by the same company to seek out and exploit profitable business opportunities. After all, ‘risk taking’ is the pursuit of profitable opportunity whereby the risk being taken is assessed, measured and managed.

Concerns about costs arising from and associated with what became termed the ‘rules-based’ approach, an approach that was proving overly prescriptive and burdensome, resulted in banks lobbying hard for a change in which they both managed to bend the ear of the regulator and were consulted on implementation of the revised ‘risk-based’ approach to AML compliance. Risk and the appropriate way in which it is handled has its roots in the insurance industry, where it was a relatively straightforward affair to assess the probability of a set possible incidents or events that have occurred within a defined time span to a particular subject. Then calculate the loss (for it is usually a one-sided affair) arising from its occurrence. In simple terms, risk = probability × impact. This quantitative assessment to risk was long ago adopted by the Bank for International Settlements and promulgated through its various Basel Accords for the measurement and management of risk within the global banking sector. As the main complaint with the cost of compliance with the original rule-based approach to AML compliance emanated from the banking sector, it was understandable that they would have been more receptive to a ‘risk-based approach’ (RBA) as this was familiar language.

The banks formed part of a group asked to develop guidance in relation to the RBA to foster a common understanding of what the term actually meant. Although the best this group could offer was that it “ . . . encompasses recognising the existence of the risk(s), undertaking an assessment of the risk(s) and developing strategies to manage and mitigate the identified risks” (FATF, 2007 p. 2). This inability to capture what is meant by ‘risk’ within the arena of AML remains outstanding. Guidan notes on the RBA set out in the FATF 2013 (p. 4) methodology state that “Once ML/TF risks are properly understood, country authorities may apply AML/CFT measures in a way that ensures they are commensurate with those risksi.e., the risk-based approach (RBA)”. Although there was no attempt to inform supervisors how they should set about assessing risk that being set out in the nine sectoral RBA guidance papers. The guidance for the banking sector, however, lacks specificity making application of the approach even more challenging, adding a new dimension of ‘interpretation risk’ when the assessment of the bank fails to accord with that of the regulator (see also Demetis & Angell, 2007).

In a perfect world, banks should be able to objectively assess the probability that for the total number of transactions passing across their books ‘x%’ will likely be associated with criminal activity. Of course in and of themselves these will not necessarily be loss making, so will not be observable from any historic loss database, and so indicators and red flags have to be built up in more interpretative ways, hence the criticism that banks can only truly observe what is unusual (Favarel- Garrigues et al. 2008). Unfortunately, unlike ‘risk taking’, ‘being at risk’ lacks any objective rod of measurement. What is evident here is that despite application of common vocabulary, the interpretation of ‘risk’ within AML is fundamentally different.

It is this fundamental difference that Abdullahi Bello carefully lays out before us in this book. He is, of course, not the first to centre a PhD study on compliance officers, Antoinette Verhage conducted hers with Belgian compliance officials noting (2011, p. viii) that ‘once they are found, they are very interesting and intriguing conversation partners’. Research in this field is not to be undertaken lightly; compliance professionals are often reluctant to talk publically, being anxious not to express views that differ from those of their employers. So it is less usual for empirical work to focus on the personal challenges faced by this group of people. By employing a grounded theory methodology, Bello was able to hear first-hand about their concerns. Data collection was carried out just by listening, no recording or note taking to disturb the conversation flow with his respondents feeling able to talk more freely.

Through this approach he has been able to uncover the very personal narrative of their daily lives and work pressures—the criticisms of compliance officers as being seen as cost centres and profit inhibiting, squeezed between two masters—their employer on the one hand and the regulator on the other. They feel underappreciated, the object of opprobrium for their trading-based colleagues. He further clearly demonstrates how the move from a rules based to a risk-based approach far from improving matters has actually increased levels of uncertainty. This leads him to derive what he refers to as ‘self-protecting theory’. This states that the more there is unfair pressures on compliance officers, the more they protect themselves rather than assist in regulation. However, rather than leaving things at this juncture he goes on to carefully construct an alternative approach to compliance that gives greater involvement to money laundering reporting officers as co-constructors of an AML framework in which they have control of their decision making.

This book makes an excellent contribution to literature on AML compliance, and as we enter the Fourth Round of FATF Mutual Evaluation, I recommend it as essential reading to policy makers.

Professor Jackie Harvey


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