FATF Risk Approach, or The Law Of Unintended Consequences

Finance and Trade
26/10/2015 17:00

"De-risking", according to the Financial Action Task Force (FATF), "refers to the phenomenon of financial institutions terminating or restricting business relationships with clients or categories of clients to avoid, rather than manage, risk in line with the FATF’s risk-based approach." The issue, which the FATF wishes to avoid by means of its risk 'management' approach, is that "de-risking may drive financial transactions underground, which creates financial exclusion and reduces transparency, thereby increasing money laundering and terrorist financing risks." Yet the evidence is growing - as Otaviano Canuto, Excutive Director of the IMF wrote just last week - that FATF recommendations to banks to follow a risk-based approach in their AML and Combating the Financing of Terrorism (CFT) efforts is having the unintended consequence of inciting the very de-risking they want to avoid.

Risk to correspondent banking relationships = risk of economic collapse

FAFT acknowledges that, "De-risking is having a significant impact in certain regions and sectors in particular." Canuto, as well as The Wall Street Journal, agree. Canuto writes, "Several international banks have referred to [FATF] recommendations as the reason for taking recent de-risking decisions, through which they have denied and/or restricted entire classes of costumers from financial services without conducting a comprehensive assessment of their level of risk or risk mitigation measures for these customers." Furthermore, "The recently intensified de-risking has had a disproportionate negative effect on small state countries...and the subsequent loss of correspondent banking relationships (CBRs) with tier 1 financial institutions in advanced economies", and he concludes that, "Given their dependence on CBRs with financial institutions in advanced economies, loss of these relationships as a result of de-risking can have severe and almost immediate implications on their macroeconomic stability and potentially result in financial destabilization, financial exclusion and ultimately economic collapse."

The question, of course, is whether the recognition that de-risking is undermining small states and entire industries is compatible with FATF's assertion that "there is currently no evidence that de-risking is adversely impacting global financial stability." In any event, it would appear that FATF's recent statement insisting that, "What is not in line with the FATF standards is the wholesale cutting loose of entire countries and classes of customer" amounts to a tacit acknowledgement that the unintended consequences of their own recommendations are indeed coming to fruition.