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(English) Great Moments in the Failed and Costly War against Money Laundering

By Dan Mitchell

February 26, 2014

Time for another great moment in red tape.

I wrote a couple of weeks ago that banks treat customers poorly in part because of bad laws and regulations from Washington.

Money laundering laws were adopted beginning about 30 years ago based on the theory that we could lower crime rates by making it more difficult for crooks to utilize the financial system. There’s nothing wrong with that approach, at least in theory. But these laws have become very expensive and intrusive, yet they’ve had no measurable impact on crime rates. …politicians and bureaucrats have decided to double down on failure and they’re making anti-money laundering laws more onerous, imposing ever-higher costs in hopes of having some sort of positive impact. This is bad for banks, bad for the poor, and bad for the economy.

You may think that only cranky libertarians are unhappy about this system.

But that’s not the case. Three professors with expertise in criminology, justice, sociology, and public policy wrote a detailed assessment of policies on anti-money laundering (AML) and combating the financing of terrorism (CFT).

Given the establishment pedigree of the authors, the finding of the report are rather shocking. The report’s introduction hints that the whole apparatus should be called into question.

To date there is no substantial effort by any international organization, including the IMF, to assess either the costs or benefits of an AML/CFT regime.  The FATF system has proceeded as if  it produces only public and private goods, not public or private “bads” or adverse by-products  against which the “goods” have to be weighed.   The Fund staff itself has raised questions about whether its substantial investment in the 3rd round has yielded adequate returns. It is not known what value that investment produced for the FATF or the Fund’s core objectives.  There needs to be more open acknowledgement of actual and potential financial costs of AML/CFT controls, their potential misuse by authoritarian rulers, and possible adverse effects on populations that rely on remittances and the informal economy, as well as potential negative impacts on NGOs and parts of civil society.

And when you dig into the details of the report, you find some surprisingly blunt language.

Basically, there’s no evidence that these policies work, and lots of evidence that they impose real harm.

Benefits of the FATF AML/CFT system have not been demonstrated. Although there may be benefits known to international organizations, governments, regulators, and intelligence agencies, no systematic efforts have been made by the FATF network of IOs or countries or institutions to demonstrate benefits. …Standards and Methodology proceed as if the implementation of an effective AML/CFT regime delivers only public and private goods and imposes no public or private “bads.” This study has learned of no significant effort by any of the standard-setting or assessor bodies to undertake a cost-benefit analysis… Little consideration has been given, they say, to the costs of implementing an AML/CFT regime, and little evidence has been adduced to demonstrate that the costs produce commensurate benefits in their own or indeed in any other jurisdiction. …Costs are substantial whether construed broadly or narrowly. …Moreover, an AML/CFT regime generates substantial costs on the financial sector in terms of money-laundering compliance staff and software procurement. Entire industries have grown around consulting and advising businesses and governments on AML/CFT compliance… Particularly strong views were expressed by bankers about excessive costs of misplaced demands upon the financial industry for surveillance of customers.

The report notes that poor people are among the biggest victims.

AML laws and regulations may adversely affect access of marginal groups whom FATF documents describe as subject to “financial exclusion” from the formal financial system. The more onerous the burdens placed on individuals, companies, and NPOs in countries where there is a substantial informal and cash economy, the more likely they are to opt out of the formal economy for reasons of cost. …Money laundering and counter-terrorism measures can reduce the volume of overseas remittances to the most vulnerable populations in the poorest countries. …Administrative and financial costs imposed on voluntary associations, most of which are very small and poorly funded, can threaten the survival of small associations

By the way, the World Bank also has acknowledged that these counterproductive laws are very bad for poor people, oftentimes disenfranchising them from the banking system

Last but not least, kudos to the authors for making the very relevant point that the destruction of financial privacy is a boon for authoritarian governments.

Numbers of experienced assessors have observed that a fully functioning AML/CFT regime in some countries has provided tools for authoritarian rulers to repress their political opponents by denying them banking or other facilities, increasing surveillance over their accounts, and prosecuting or penally taxing them for  non-disclosure, in addition to opening up more opportunities for illegal extortion for private gain. This weapon can be applied against persons/organizations already in the formal financial system.

It’s worth pointing out that this also explains why it’s so dangerous to have governments collecting and sharing tax information.

But let’s stick to the issue of money laundering. Now let’s look at two case studies to get a sense of how these laws impose real-world harm.

We’ll begin with an article in The Economist, which looks at how Western Union’s ability to provide financial services has been hampered by heavy-handed (yet ineffective) laws and regulation.

It seems like this is a company providing a very valuable service, particularly to the less fortunate.

Western Union’s services are essential for people who do not have bank accounts or are working far from home. …Western Union helps to bolster trade and disperse the world’s wealth.

But the statists don’t care.

Someone, somewhere, may want to transfer money for a nefarious purpose. And rather than the government do its job and investigate actual crimes, politicians and bureaucrats have decided that it’s easier to make Western Union spy on all customers.

…these laudable activities conflict with another pressing goal: impeding money laundering. Rules to that end require financial institutions to know who their customers are and how they obtained their money. These requirements transform the virtues of Western Union’s model—the openness and breadth of its network and its willingness to process vast numbers of small transactions—into liabilities.

And the heavy boot of government came down on the company, forcing Western Union to incur heavy expenses that make the system far more expensive for consumers.

Western Union struck a far-reaching compliance agreement with Arizona’s attorney-general in 2010. It agreed to adopt 73 changes to its systems and procedures, to install an external monitor to keep tabs on its conduct and to fund the creation of a new enforcement entity, the Southwest Border Anti-Money Laundering Alliance. Many of the recommendations were highly detailed. Western Union has, for example, set up a system to monitor transactions that takes into account factors such as the seasonality of marijuana harvests and illegal immigration. It is conducting background checks on agents and their families. Such efforts have turned out to be difficult and expensive. …Western Union’s shares have been jolted several times. Earlier this month Western Union said it would be subject to independent monitoring for an extra four years. It faces big fines and criminal prosecutions if it fails to meet the stipulations in the compliance agreement.

Let’s look at another real-world consequence of the AML/CFT regime.

You’ve heard of “driving while black,” which describes the suspicion and hostility that blacks sometimes experience, particularly when driving in ritzy neighborhoods.

Well, DWB has a cousin. It’s BWR, otherwise know as “banking while Russian.” And the stereotype has unpleasant consequences for innocent people.

Here are some passages from a story in the New York Times.

We had sold our apartment in Moscow, jumped through an assortment of Russian tax hoops and transferred the proceeds to the United States, where we now lived. It made me nervous to have all that money sitting in one virtual clump in the bank — but not nearly as nervous as having the card connected to it not work. The experience was also humiliating. In one moment, I had gone from being a Citigold client to a deadbeat immigrant who couldn’t pay for her son’s diapers. I called Citibank as soon as I got home. …”Who closed it?” I was working hard not to sound belligerent. “And where is my money?” …It was Citibank. “I see that because your transactions indicated there may be an attempt to avoid complying with currency regulations, Citibank has closed your account,” the woman informed me. …“Why wasn’t I notified?” “The cashier’s check will serve as your notice.” Citibank had fired me as a client.

Why would a bank not want customers?

Because the government makes some clients too costly and too risky, even though there’s no suggestion of wrongdoing.

Other than ethnicity.

I wasn’t entirely surprised. This had happened to other Russian-Americans I know, including one of my closest friends and my father. My friend had opened her account at a local bank in the United States when she got her first job, at age 13. Her accounts were summarily closed in 2008, while she was working in Russia. The bank, which had been bought by Sovereign in the meantime, would not state a reason for firing a client of 27 years. My father, who immigrated to the United States in 1981, had his accounts closed by BankBoston in 2000, when he was a partner in a Moscow-based business. His lawyers pressed the bank on the issue and were eventually told that because Russians had been known to launder money, the bank applied “heightened scrutiny” to accounts that had a Russia connection. It had closed “many” accounts because of what it considered suspicious activity. Like other kinds of ethnic profiling, these policies of weeding out Russian-Americans who have money are hardly efficient.

But the main thing to understand is that the entire system is inefficient.

Laws were adopted with the promise they would reduce crime. But just like you don’t stop crime by having cops hang out at Dunkin’s Donuts, you also don’t stop crime by creating haystacks of financial data and then expecting to make it easier to find needles.

For more information, here’s my video on the government’s failed money laundering policies.

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