IMF challenges ineffective FATF approach to money-laundering

The IMF report on money laundering risks in the Nordic-Baltic region (published in September 2023) offers a first glimpse of the new strategic orientation of the IMF’s work. The IMF is currently reviewing its anti-money laundering and terrorism financing strategy, to which the Tax Justice Network submitted written evidence in May 2023.

The report by the IMF Legal Department analyses the cross-border money laundering threats and vulnerabilities in eight Nordic-Baltic countries based on financial flow data. Its methodology and approach could complement and possibly correct the peer reviews commonly used in the anti-money laundering efforts of the Financial Action Task Force and related organisations. The novelty of the approach consists of the inclusion of the financial flows and ensuing bilateral risks in the analysis of a country’s vulnerabilities to, and threat of, money laundering.

In contrast to the Financial Action Task Force which assesses the legal and regulatory frameworks of countries on nominally equal terms, the IMF approach includes the sizes of financial centres in the determination of risks. It therefore opens the possibility to focus on those big financial centres that actually matter in major money laundering scandals. This approach, shared by the Tax Justice Network’s Financial Secrecy Index and Corporate Tax Haven Index which the IMF makes use of, avoids a focus on possibly weakly regulated, smaller jurisdictions that play far less of a global role – but are disproportionately likely to end up on the “black- and greylists” of the FATF (and European Union).

In the tax sphere, the UN tax convention process that is currently underway offers the first glimmers of hope to ending the OECD’s dominance of the international discourse and policies on tax matters that is not only exclusionary but also tends to result in largely ineffective, legalistic solutions. The anti-money laundering world similarly needs more democratic and transparent decision-making processes and standards than FATF is able to offer. While the IMF is not a democratic poster child either, and a fully democratic and transparent forum at the United Nations is ultimately needed, the Fund’s approach suggests it could play a more useful role than FATF and may more accurately get to the root of the actual problems in money-laundering.

Here are some key takeaways from the IMF report.

Include macroeconomic analyses in the design of anti-money laundering responses

The report emphasises the relevance of the financial integrity of banks for macro-economic stability and calls for more interagency cooperation between anti-money laundering efforts and prudential supervisors. Within this context, the counterparties, magnitude, patterns and trends of financial transactions should be taken into account when assessing the risks of money laundering. What would appear as obvious to a newcomer is in fact important progress over the FATF’s procedure to legally review all countries as if they are all equally responsible for causing money laundering risks (this is discussed in more detail below.)

The first recommendation in the report calls for countries to include that real world perspective in their efforts to counter money laundering:

“Country-Level Recommendation: Countries with the most material financial flows could increase their AML/CFT effectiveness by developing a national mechanism for comprehensive AML/CFT monitoring of cross-border payments.” (page 16).

It resonates fully with the recommendations we published earlier in 2023 around the monitoring of transaction level data (SWIFT or ISO 20022) for effectively countering money laundering.

Assess changing threats of countries based on payment data

An important finding from the analyses of financial flows in the region is the significant growth of the flows to and from international financial centres. Those centres are emphatically not the ones listed by FATF, the EU or others as uncooperative or otherwise non-compliant. In contrast, flows to “listed” jurisdictions have not grown and are rather not unexplained by economic fundamentals – confirming our earlier analytical findings that these “blacklists” are hopelessly biased, ineffective and misleading.

Specifically, the IMF finds the strong growth of inflows from Ireland and outflows to Luxembourg are not explained by other economic data, and deserve closer scrutiny. Germany, France and Belgium have also seen unexplained growth in flows.  Other unexplained flows, but that have remained relatively stable, continue to include international financial centres flows with Switzerland, Hong Kong, Singapore, and UAE.

We are pleased to see the IMF incorporate the secrecy scores and the haven scores of our flagship indices (Financial Secrecy Index and Corporate Tax Haven Index) in its machine learning algorithm to detect outliers in financial flow patterns, indicating money laundering risks. Within the EU Horizon research project Trace, the Tax Justice Network is currently developing this type of risk assessment for suspicious transaction reporting and for SWIFT data, and for use in criminal investigations and proceedings.

A matter of concern is the lack of a transparent definition and list of what constitutes an ”international financial centre” in the IMF report. The footnote on page 14 is not clear and does not offer a list:

“As defined in the past lists of Offshore Financial Centers as part of IMF’s Assessment Programs: Past IMF Staff Assessments on Offshore Financial Centers Sorted by Jurisdiction. The list does not include large international full service centers with advanced settlement and payments systems that support large domestic economies, with deep and liquid markets, and where legal and regulatory frameworks are adequate to safeguard the integrity of principal agent relationships and supervisory functions.”

Ideally, the full list should have been included somewhere in an Annex, instead of remaining vague. Despite the vague definition, in various places throughout the report, though, the following countries are referenced as international financial centres: Luxembourg, Switzerland, Ireland, Hong Kong, Singapore, UAE, Liechtenstein, Isle of Man, Jersey, Gibraltar, Mauritius, Bahrain, and the Bahamas.

Role of the IMF to complement the work of FATF

As part of the consultation process with civil society, we have submitted and commented on the IMF’s future anti-money laundering strategy.

In view of the FATF’s existence and role, and in the absence of an UN body handling this matter, there is an important complementary and corrective role for the IMF.  Most, if not all, major money laundering and corruption scandals and networks of the past decades had their banks, nodes and service providers in big financial centres and in advanced economies (see FINCEN files, Danske Bank, Wirecard Germany or Panama Papers). In addition, financial flows and investment stocks are highly concentrated in the global economy. Therefore, the compliance focus of money laundering standards should be on those major centres and economies. They pose a systemic risk to global financial stability.  

FATF however does not take these aspects into consideration these aspects. It claims to be treating all countries equally by applying a purely legal and regulatory peer review mechanism. However, it ignores these systemic inequalities in the responsibility for creating money laundering  risks. Treating all countries exactly the same way, while the risks are highly concentrated and not equally distributed, is neither fair nor efficient nor effective in countering money laundering.

You could compare the FATF’s approach to a “zero tolerance” policy in the fight against the abuse of drugs, when police focuses purely on the dealer on the street but shies away from investigating the organised crime godfathers and networks in the background. All too often lower income countries without significance for global money laundering have been placed on “blacklists” or are being threatened by trade sanctions, when they are but a small part of the broader problem.

The FATF’s peer review mechanism risks missing the big elephant in the room: the major economies and big financial centres like the United States, the UK, the European Union, Japan or China. Many of them dominate the FATF. To counter these neo-colonial tendencies of the FATF approach, the IMF should ensure that their FSAP, Article IV consultations and wider work on anti-money laundering takes a macro-risk perspective and considers financial flows.

In addition, the IMF should also go beyond the FATF standards in the realm of beneficial ownership transparency, and the cooperation between anti-money laundering and tax departments. Making beneficial ownership registers publicly accessible, lowering the beneficial ownership threshold and including trusts would be a game changing milestone towards structurally halting dirty money.

There is also a lot of low hanging fruit and potential in overcoming the artificial separation between the tax sphere and the anti-money laundering sphere. This comprises information exchange, as well as investigative and enforcement procedures and actions. The world cannot afford siloes in the fight against illicit financial flows. Unfortunately, that is exactly what the FATF and OECD appear to be invested in.

In short: the IMF should a) focus on the macro and big financial centres; b) go beyond the FATF and demand fully public registers of beneficial ownership, including for trusts, and c) work on improving collaboration and synergies between tax and anti-money laundering, by taking a holistic approach to illicit financial flows.

Conclusion

The IMF’s tentative focus on macroeconomic risks of money laundering and financial flows is a welcome development. It remains to be seen if its engagement in the anti-money laundering space will be able to democratise and multilateralise beyond FATF. Without the UN, the power balance within the IMF may make it hard for critical reviews of G7 economies and finances to survive. If macro analyses, beneficial ownership ambition and cooperation between tax and money laundering departments are to stay with us in the longer term, UN leadership is important. For now, though, the IMF has taken a significant step in the right direction, and should follow its own logic further.

Certain is that the international community – ideally organised at the United Nations – should pay more attention to the macroeconomic risks emanating from money laundering and step up its efforts analysing financial flows to win the global fight against dirty money.

Image CC BY 2.0: IMF by Bruno Sanchez-Andrade Nuño. Https://www.flickr.com/photos/nasonurb/4344909546/