AWAIS FARID KHAN, ANDREAS CHAI, GORDON HOOK, MIRELA MALIN AND NICHOLAS ROHDE |
Efforts to combat money laundering and terrorist financing are essential to maintaining trust and stability in the global financial system. But for banks, meeting increasingly demanding international standards comes with a significant and often overlooked cost.
New research from Griffith University examines what happens to bank operating costs after countries undergo evaluations by the Financial Action Task Force (FATF), the global body responsible for setting standards to combat money laundering, terrorist financing and the financing of proliferation.
Using data from 132 countries, the research finds that bank operating costs increase significantly following FATF mutual evaluations – with important implications for financial regulation and inclusion, particularly in developing economies.
A global agenda with local consequences
Over the past two decades, Anti-Money Laundering and Countering the Financing of Terrorism (AML/CFT) requirements have become increasingly comprehensive.
Banks have moved well beyond basic compliance systems. Today, AML/CFT programs rely on sophisticated technology, extensive data systems and specialised staff to monitor transactions, assess risks and conduct customer due diligence.
These systems are important. Effective AML/CFT controls can help prevent financial misconduct, protect banks from costly enforcement action and reputational damage, and reduce risks to the broader financial system.
But compliance comes at a price. Industry estimates suggest the global cost of AML/CFT compliance has exceeded US$206 billion.
For banks in developing and emerging economies, the challenge can be particularly acute. Bringing existing systems into line with evolving international standards may require substantial investment in technology, expertise and organisational capacity.
The FATF effect
The FATF works with countries and regional bodies around the world to assess how effectively international AML/CFT standards are being implemented.
A key part of this process is the Mutual Evaluation Report (MER), which assesses both a country’s legal and regulatory framework and its effectiveness in addressing financial crime.
While FATF evaluations do not impose direct financial penalties, they can create significant reputational and regulatory pressure. Domestic regulators may respond by requiring banks to strengthen compliance systems, recruit staff, upgrade technology and change how they assess customers and transactions.
The consequences of an international evaluation can therefore extend well beyond the publication of a report.
What the research found
Our study uses panel data covering 132 countries from 2010 to 2020 to examine whether FATF mutual evaluations affect bank operating costs.
We find clear evidence that they do.
Following a FATF mutual evaluation, bank operating costs increase by approximately 8.9 to 10.2 per cent relative to the sample mean.
The increase is most pronounced during the evaluation year and the two years that follow, before beginning to decline as banks gradually absorb the regulatory changes and integrate new systems and procedures into their operations.
However, the cost impact does not simply disappear, indicating that stronger AML/CFT requirements can create a lasting increase in banks’ operating expenses.
The financial inclusion dilemma
The findings also raise questions about de-risking and de-banking.
As the cost of managing financial crime risks increases, banks may seek to reduce their exposure by limiting relationships with customers, sectors or countries perceived to be higher risk.
While this can reduce compliance costs and regulatory exposure, it can also make banking services harder to access for small businesses, remittance providers and communities in higher-risk jurisdictions.
This is particularly relevant across the Asia-Pacific, where economies vary considerably in their regulatory capacity, financial infrastructure and access to international banking networks.
Getting the balance right
The research does not suggest that AML/CFT standards should be weakened. Rather, it highlights the need to recognise implementation costs as part of the regulatory equation.
International policymakers could consider providing greater advance notice of FATF evaluations, giving banks and regulators time to plan for additional expenditure and implement changes progressively.
The findings also suggest that sufficient time should be allowed between evaluations and follow-up reviews, as banks appear to experience the greatest cost pressures during the first two years after an evaluation.
For the Asia-Pacific, where financial systems range from highly developed global centres to emerging economies with more limited institutional capacity, a one-size-fits-all approach may produce very different outcomes.
Strengthening AML/CFT frameworks remains essential. But effective regulation also needs to consider institutional capacity, operating costs and the potential consequences for financial inclusion.
The challenge is to build financial systems that are not only safer from illicit finance, but also resilient, sustainable and accessible to the communities and businesses they serve.
Awais Farid Khan, Andreas Chai, Gordon Hook, Mirela Malin and Nicholas Rohde are from Griffith Business School, Griffith University, Australia. Andreas Chai is also Director of the Academy of Excellence in Financial Crime Investigation and Compliance and a member of the Griffith Asia Institute. Mirela Malin is an Adjunct at the Hong Kong University of Science and Technology.
This article is a synopsis of the Journal article: Khan, Awais Farid and Chai, Andreas and Hook, Gordon and Malin, Mirela D. and Rohde, Nicholas, Anti–Money Laundering Regulations and Bank Performance: Evidence from Global Panel Data. Available at SSRN: https://ssrn.com/abstract=6307729 or http://dx.doi.org/10.2139/ssrn.6307729