RAND1 Assessing the AML system Peter Reuter University of Maryland.

RAND 1

Assessing the AML system

Peter ReuterUniversity of Maryland

RAND 2

Many activities subject to anti-money laundering (AML) controls

• U.S. Banks required to conduct prevention activities since 1986– “Know your customer”

• Also aid investigations– File Suspicious Activity Reports (SARs)– Check account names against target list

• More recently financial services firms, casinos also regulated– Financial Action Task Force has created global regime

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Money laundering control regime still expanding

• Initially generated by drug trafficking concerns– Vienna conventions

• Broadened in the 1990s– Capital flight, kleptocracts

• Focus on terrorism post 9/11• FATF 2004 recommends covering lawyers, accountants,

other gatekeeper professions– US Treasury considering insurance regulations

• Growing private sector pressure for accountability

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Laundered Money May Be a Point of Vulnerability for Both Crime and

Terrorism

fromcrime

$ …for use inlegitimateactivities

$ $ $ $ $ $

…launderedin the

legitimatefinancialsystem…

from legalsources

$ …for use interrorist activity

$ $ $ $ $ $

…launderedin the

legitimatefinancialsystem…

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Anti-Money Laundering ControlsAre a Means to Diverse Ends

• Primary Goals– Reduce predicate crimes– Protect the integrity of the core financial system– Combat global “public bads”

• Terrorism• Kleptocracy/corruption

• Secondary Goals– Sanction major felons– Administer “just desserts”– Inconvenience felons

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But AML Controls Also Impose aSubstantial Burden

• AML controls affect business, the public, and government

• A rough estimate places the costs of AML controls in the United States in 2003 at $7 billion

• AML controls are also onerous and intrusive

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Summary Conclusions

• Some progress in the area of prevention

• Little impact on the activity or incidence or underlying crimes

• Regime must strengthen intellectual underpinnings before any further expansion

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Outline

• Overview

• Assessment

• Conclusions and Recommendations

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Current Estimates of Money Laundering Are Not Credible

• Current estimates range from $100 billion to $1 trillion

• Both traditional approaches are problematic

• There is little prospect for strengthening these estimates

Builds on estimates of the underground economy

Produces implausibly high estimates

Micro approach

Builds on estimates of income from criminal activity

Produces estimates that lack a systematic empirical base

Macro approach

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Money Laundering is a highly differentiated activity

Crime CashScale of

OperationsSeverity of

harm

Most affected

population

Drug dealing Exclusively Very large SevereUrban minority groups

Other blue-collar

MostlySmall to medium

Low to modest

?

White collar Mix MixLow to modest

Broad

Bribery and corruption

Sometimes Large SevereDeveloping countries

Terrorism Mix Small Most Severe Broad

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FATF Typologies Reports indicate many methods used by all offender groups

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Two Pillars of the Anti-money Laundering Regime

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Prevention Pillar of the U.S.regime differentiates among regulated entities

Customer due diligence

Reporting requirements Supervision Sanction

Financial Institutions

Core Financial Institutionsa Yes Yes Yes Yes

Other Types of Financial Institutionsb Yes Yes Some Limited

Non Financial Businesses

Casinos Yes Yes Some Yes

Dealers in Precious Metals and Stones Pending Yes No No

Real Estate Agents No No No No

Otherc No Some No No

Professions

Lawyers and Accountants Limited Limited Very limited Very limited

Trust and Company Services Providers Limited Limited Very limited Very limited

1. Depository institutions, securities firms, insurance companies and combinations.

2. For example, mutual funds and investment advisors.

3. For example, travel agencies, commodity trading advisors and vehicle sellers.

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Outline

• Overview

• Assessment

• Conclusions and Recommendations

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Costs of U.S. 2003 AML Regime

• Government: $3 billion

• Private institutions: $3 billion

• General public: $1 billion

• Total: $ 7 billion or $25 per capita

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Predicate Crime Reductions Indeterminate

• Volume estimates very rough

• Price measures largely absent

• Stand alone professional launderers are scarce– Simple market model is an inapplicable premise

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Defendants Charged with Money Laundering, 1994-2001

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U.S. Risk of Conviction

• Half of 2,000 annual convictions = 1,000 launderers

• $200 billion laundered at $10 million per launderer– 20,000 launderers– 5% annual conviction risk

• Compare 20% for cocaine dealers

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U.S. much more aggressive than other nations

• Regimes differ across countries– Reflect differences in legal culture

• British cast very broad net– “high value goods” reporting requirements

• Swiss highly discretionary• Germany minimal number of criminal cases

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Cocaine Price Structure Suggests that AML Controls Have Limited Potential

Leaf (Bolivia) $300

Export (Colombia) 1,000

Import (Miami) 15,000

Wholesale-Kilo (Chicago) 20,000

Wholesale-Ounce (Chicago) 25,000

Retail (Chicago) 110,000

ML controls target import, wholesale

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Cocaine Price Structure Suggests Limited Potential of U.S. AML

• Only high level dealers and smugglers earn enough to require laundering services

– Retailers earn less than $25,000 per annum

• Smugglers and high level dealers account for 20% of value added

• Raising money laundering costs for them by 50 percent, from 10% to 15% would add only 1% to the retail price of cocaine

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Protecting Integrity of Core Financial System

• Social goal – principally major banks

• Low prevention hurdle– No active solicitation– Few rogue employees– Unwitting accomplices – another matter

• Negligence = deficient controls

• Other

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Evidence from Limited Databases

• FATF / Egmont– 3% active solicitation

– 3% rogue employees

– 94% other

• Press Reports– 11% active solicitation

– 7% rogue employees

– 11% negligence

– 71% other

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Qualified Success

• Core financial institutions only in major financial centers

• Occasional block-buster scandal– E.g. ABN-AMBRO admitted in 2005 laundering $1.2

billion– Riggs, JP Morgan (Beacon Hill)

• Private banking – jury still out• Layering more complex• Unexploited potential of two-way street

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Combating Global “Public Bads”

• Three types– Terrorism– Corruption / Kleptocracy– Failed and failing states

• Conclusion: AML regime constructive, but just one tool

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Terrorism

• Not new with September 11, 2001• Unique difficulties: size and direction of flows

– Minimal funding needed for most incidents (e.g. $10,000 for East African embassy bombings)

• Success measures imprecise and indirect – $200-plus million frozen and seized– Object: disruption

• Challenge of differing priorities and legal & institutional cultures

• Example: New cash courier Special Recommendation (IX)

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Outline

• Overview

• Assessment

• Conclusions and Recommendations

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Conclusions

#1 AML Regime = Tool to achieve diverse

ends

#2 Law enforcement pillar underdeveloped

#3 System needs careful examination before

expanded further

#4 Constraints on coverage and leverage in

monitoring international compliance

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Recommendations#1 Global Report on Money Laundering• Exercise in global governance & accountability

• Build on INCSR

• Assign to U.N. Office on Drugs and Crime with FATF, World Bank, IMF inputs

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Recommendations#2 Financial as well as Technical Assistance

• AML is “luxury public good”

• Rich should pay

• Crude estimate: $315 million per year to cover 90% of expenses of IDA governments

• See also U.N. High-Level Panel on Threats, Challenges & Change

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Recommendations#3 Corruption

• Weak record on ratification of U.N. Convention (14 of 112)

• Ratification only second step

• Develop public database on kleptocrats– Cases– Results

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Recommendations#4 Reciprocity on Major Predicate Crimes

• FATF’s 20 principal categories of offenses

• Make ML a crime when linked to any of them anywhere

• U.S. covers only 13– Foreign corruption added in USA Patriot Act– Excluded: Trafficking in human beings,

counterfeiting, forgery, etc.

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Recommendations#5 Add Tax Evasion to List

• Controversial

• Important to other countries

• Quid pro quo

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Research Agenda

• Describe implementation of controls and enforcement

• Improve understanding of the ML market

• Develop evaluation framework

– How does AML reduce crime etc.?

– Who bears financial burden?

– Other intangible costs

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Create Data Base

• Early terrorism research effort provides model• Prosecuted cases (public source) and investigative

files (agency cooperation required) • Potential data elements:

– Criminal activity– Mechanism for laundering– Participants

• Financial institutions• Employment of money launderer

– Price of services

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Other Data Collection Activities

• Utilization of SARs for case making and intelligence– How many convictions depended on ML

statutes and/or mandated reports?

• Interview convicted launderers & customers– How do customers and sellers connect?– Knowledge of prices– Response to regulations

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Analytic Agenda

• Estimating costs– Needs new data

• Modeling effects of ML costs on crime

• Interpreting quality in the ML market– What are limits of hawalahs and other Informal

Value Transfer systems (IVTS)

• Creating performance measures for regulatory and investigative agencies