Amidst the chaotic fallout of the US presidential election, one result at least seemed clear: the half-century-long war on drugs has come to an end.
That’s how many observers have interpreted last week’s decision by residents of US state Oregon to decriminalise the possession of hard drugs like heroin, cocaine and methamphetamine.
In parallel, say an increasing number of critics, the global anti-money-laundering laws, long used to keep drug dealers and terrorists out of the financial system, are no longer fit for purpose.
Rather than keeping the bad guys out, it’s time to let them in.
A war against drugs and financial secrecy
In 1971 US President Nixon started his country’s war on drugs, calling traffickers “public enemy number one”.
“We must wage a total offensive”
“We must wage a total offensive, worldwide, nationwide and government-wide,” Nixon said.
The anti-drug campaign was part of a two-pronged attack. To help make it effective, new rules against financial secrecy were aimed at preventing drug dealers from laundering their ill-gotten gains.
A year earlier, the US Treasury Department had gained the right to force banks and their customers to disclose certain financial information.
Before 1970, US banks could conduct business for their clients in private. But in future, under the Bank Secrecy Act, banks had to provide a currency transaction report (CTR) for any transaction greater than $10,000.
Financial institutions also had to report cross-border financial transactions and to notify the authorities if they knew a customer held a foreign bank account.
Although banks fought the new measures in court, claiming a breach of civil liberties, they lost out.
KYC/AML goes global
Over time, the principle of using the financial system to police money flows, and to exclude the bad guys altogether, became established and spread worldwide. It also encompassed a broader range of potential villains, including terrorists and rogue states.
To achieve their objectives, governments relied on a regular flow of information from their informers—the financial institutions.
“Banks are not an arm of the police”
“Tax authorities and eager intelligence agencies wanted to reap the honey pot of data within banks,” says financial historian Simon Lelieveldt, a former central banker.
This breached a long-standing principle of the separation of powers, argues Lelieveldt.
“Banks are not an arm of the police and neither are bank supervisors,” he says.
“But they were forced to become one under pressure of the Financial Action Task Force (FATF)—with Ministries of Finance and intelligence agencies in the background,” says Lelieveldt.
The FATF, with US at its head, is a 200-country initiative aimed at enforcing know-your-customer (KYC), anti-money-laundering (AML) and countering the financing of terrorism (CFT) standards.
The FATF says its rules “ensure a co-ordinated global response to prevent organised crime, corruption and terrorism”.
According to Lelieveldt, the 9/11 terrorist attacks gave a major boost to those wishing to expand states’ policing powers via the financial system.
“Within a couple of weeks [of the attacks] the whole KYC/AML/CFT framework, which had previously been fully dismissed, was put in place, leading to a very costly additional layer of requirements in administrative law,” he says.
A financial crime free-for-all
But much of this money may be wasted. A recent leak of files from the US Treasury’s Financial Crimes Enforcement Network (FinCEN) appears to lead to one conclusion only: the global anti-money-laundering regime doesn’t work.
The leaked FinCEN files included thousands of ‘suspicious activity reports’ filed by banks with the US authorities, covering nearly two decades and transactions worth over $2trn.
The files revealed a catalogue of questionable financial activity, which had been reported by banks—as required by the AML rules—but not stopped.
“Laws that were meant to stop financial crime have instead allowed it to flourish”
According to the BBC, the leaks showed HSBC had allowed fraudsters to move millions of dollars of stolen money around the world, even after it had learned from US investigators the scheme was a scam.
In another case, JP Morgan allowed a company to move more than $1bn through a London account without knowing who owned it. The bank later discovered the company might be owned by a mobster on the FBI’s 10 Most Wanted list.
There was evidence that one of Russian President Vladimir Putin’s closest associates had used Barclays bank in London to avoid sanctions which were meant to stop him using financial services in the West. Some of the cash was then used to buy works of art.
And the files showed a husband of a woman who had donated £1.7m to the UK’s governing Conservative Party was secretly funded by a Russian oligarch with close ties to President Putin.
“Laws that were meant to stop financial crime have instead allowed it to flourish,” said reporters at Buzzfeed, having analysed the FinCEN files.
The global financial crime reporting framework is just a gigantic buck-passing exercise, said Buzzfeed’s journalists
“So long as a bank files a notice that it may be facilitating criminal activity, it all but immunises itself and its executives from criminal prosecution. The suspicious activity alert effectively gives them a free pass to keep moving the money and collecting the fees,” they said.
From AML to AIML
The only solution to the failing AML regime is a complete change in how we address financial crime, say experts.
“‘AIML’ may be our only hope,” says technologist Dave Birch, referring to the combination of artificial intelligence and money laundering.
“‘AIML’ may be our only hope”
Birch was speaking during a panel discussion on the future of the internet, organised by London’s Centre for the Study of Financial Innovation (CSFI).
With the advent of new technologies like traceable digital currencies, we need to turn current thinking on its head, says Birch.
“Instead of trying to build these KYC barriers and keep the bad people out, what we might do is forget about all of that and just get everybody into the system,” he says.
“Once AI can see all of the transactions, it will be much better at spotting the funny stuff going on,” he predicts. “Suspicious transaction reports and Edwardian nonsense like that have absolutely no place going forward.”
“Once AI can see all of the transactions, it will be much better at spotting the funny stuff going on”
But to achieve success in an alliance of AI with financial crime-fighting, we will need a solid identity database, says Nicolaus Henke, chairman of consultancy McKinsey’s AI venture, Quantum Black.
“[AI-based AML] could take us into a different space, in particular in countries where digital identity is solved in a regulatorily satisfactory way, such as India,” says Henke.
India has a national digital identity system called Aadhaar, introduced in 2016 and covering 1.25 billion people. Aadhaar is credited with helping the country’s financial system operate much more efficiently and cheaply than a decade ago.
“In India, the KYC cost should be a dollar per person, and that’s it,” says Henke.
Belief amongst traditional financial firms in the benefits of AI for combating crime is growing.
Recent research conducted by PYMNTS and Brighterion found that nearly two-thirds of financial institutions believe AI is an effective tool for stopping fraud before it happens.
But only 5.5 percent of banks in their survey currently fight fraudsters with genuine AI systems, PYMNTS and Brighterion said.
End of an era
Critics of the global war on drugs have long seen decriminalisation as the least bad outcome.
“Data from the US and around the world suggest that treating problematic drug use as a health issue, instead of a criminal one, is a more successful model for keeping communities healthy and safe,” says the Drug Policy Alliance, which lobbied for Oregon’s law change.
“Portugal decriminalized drug possession in 2001,” the Alliance says.
“More than a decade later, drug use has remained about the same—but arrests, incarceration, disease, overdose and other harms are all down.”
“We can throw the whole money-laundering cult in the garbage can”
The statistics backing the Alliance’s arguments seem unequivocal: the number of new HIV diagnoses dropped by 95 percent in the two decades after Portugal’s decriminalisation, while drug overdose fatalities dropped from about 80 in 2001 to just 16 in 2012.
If Nixon’s five-decade-old war on drugs has run out of impetus, are we also seeing the end of the AML-based approach to financial policing?
Following September’s leak of the FinCEN files, “I think we can throw the whole money-laundering cult in the garbage can,” says Simon Lelieveldt.
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