The EU Needs a Centralized AML Authority

The European Union had a tough year. As if the refugee crisis, the rise of nationalist and far-right parties, and the Brexit affair weren’t enough, the 2018 headlines of European newspapers were crowded with a seemingly endless parade of money laundering scandals. Perhaps the most egregious was the case of Danske Bank, the largest bank in Denmark and a major retail bank in northern Europe. According to Danske Bank’s own report, between 2007 and 2015 the bank’s Estonian branch processed more than US$230 billion in suspicious transactions. The investigation, which is still ongoing, has already been dubbed the largest money laundering scandal in history. And there are plenty of others. In September 2018, for example, the Dutch bank ING Groep NV admitted that criminals used its accounts to launder money and agreed to pay a record US$900 million in penalties. And then in October 2018, after a string of scandals, Malta became the first EU Member State to receive an official European Commission (EC) order to strengthen enforcement of its anti-money laundering (AML) rules. By the end of 2018, it became apparent that the EU’s entire AML system needed a major overhaul.

The EU’s current AML legal framework is comprised of several components:

  • The first element is the set of so-called AML Directives, the most recent of which (the sixth) was adopted in 2018. These Directives require Member States to achieve certain legal results, but do not specify the particular measures that Member States must adopt.
  • Second, following the AML Directives, all EU Member States have adopted national AML laws and regulations that provide detailed guidance on a variety of topics, including the specification of different entities’ AML responsibilities, the sanctions for AML system breaches, and so forth.
  • The third important component of the EU’s AML framework is the EU Regulation on information accompanying transfers of funds, which is meant to harmonize across Member States the provision of payers’ and payees’ information when persons are transferring and receiving funds. In contrast to the AML Directives, this EU regulation, like other such regulations, has a direct legal effect on all Member States. Therefore, the information accompanying transfers of funds is identical in all Member States.

Taken together, these various instruments comprise one of the most stringent AML systems in the world, at least on paper. Perhaps for that reason, many commentators, including EU and EC officials themselves, attribute the spate of money laundering scandals plaguing EU countries not so much to weaknesses in the substantive regulations but rather to poor implementation—in particular, the fragmentation of AML oversight. Last October, Bruegel, an influential European think tank, presented a report calling for the establishment of a new centralized European AML authority—one that would work closely with national law enforcement agencies and be empowered to impose fines. ECB Chief Supervisor Danièle Nouy, who is intimately familiar with the problem, seems to agree at least to some extent. After one of last year’s many money laundering scandals, she suggested that “we need a European institution that is implementing in a thorough, deep, consistent fashion this legislation in the Euro area.” In fact, the proposal to create a more centralized EU AML architecture has been around for a while. It seems that the EU has finally decided that the time has come to do something like this, as the European Central Bank (ECB) announced last November that it would set up a central AML supervision office.

To understand the justification for creating a new centralized EU AML agency, one must first understand the extent to which, under the current system, supervisory and enforcement responsibility for the EU’s AML system is divided among several institutions, and the problems that this can create: Continue reading

Anticorruption Bibliography–February 2019 Update

An updated version of my anticorruption bibliography is available from my faculty webpage. A direct link to the pdf of the full bibliography is here, and a list of the new sources added in this update is here. As always, I welcome suggestions for other sources that are not yet included, including any papers GAB readers have written.

Are Corporate Anticorruption Compliance Programs Effective?

Requiring business corporations to institute an anticorruption compliance program should be a part of any national strategy to fight corruption.  The argument is simple.  Corporate employees or their agents are always on the paying side of a bribery offense and often a facilitator of conflict of interest and other forms of corruption.  Making it against company policy for employees or agents to participate in any corrupt act with stringent sanctions up to and including termination for a violation will help shut down the supply side of the corruption equation.

Even where a company’s compliance program is a sham, established simply to comply with the law, it can still be help in combating corruption.  A sham program would be a violation of law, and were the company investigated, the existence of a sham program would be easy for investigators to spot, easing their task of determining wrongdoing.  So there seems to be no reason why lawmakers shouldn’t insist that firms subject to their law, whether state-owned or privately-held, establish a program.  And between the many guides published by international organizations (examples here and here), NGOs (here and here), academics, the burgeoning compliance industry, and the issuance of an international standard for such programs, there is no dearth of information on how to create and operate an effective one.

I have argued the case for a compliance requirement in several posts (examples here and here), as have many other GAB contributors (examples here and here).  My most recent plea for mandating private sector compliance programs came in this one noting such a requirement in Vietnam’s new anticorruption law.  But one thing I have not done is address two obvious questions about compliance programs that Matthew posed in a comment to the Vietnam post: How are compliance requirement laws enforced? How effective are they in practice?

It turns out these obvious, innocent sounding questions (the kind law professors always seem to ask) aren’t all that easy to answer.  What I have found so far follows.  Readers with more information earnestly requested to supplement it. Continue reading

Ownership Transparency Works: Geographic Targeting Orders in the US Real Estate Market

The anticorruption community, along with those concerned about tax evasion, fraud, and other forms of illicit activity, has made anonymous company reform a high priority on the reform agenda. It’s not hard to see why: Kleptocrats and their cronies, as well as other organized criminal groups, need to find ways to hide and launder their assets, and to do so in ways that are difficult for law enforcement authorities to trace. Moreover, those whose legitimate sources of income would be insufficient to obtain luxury assets would like to conceal their ownership of such assets, as the ownership itself could arouse suspicion, and might make the assets more vulnerable to forfeiture.

So-called “know-your-customer” (KYC) laws in the financial sector have made it much more difficult—though, alas, far from impossible—for account owners to conceal their identities from the banks and government overseers, at least in the US and most other OECD countries. But it is still far too easy for criminals to purchase substantial assets in wealthy countries like the United States while keeping their identities hidden. All the bad actor needs to do is, first, form a company in a jurisdiction that does not require the true owner of the company to be disclosed and verified to the government authorities, and, second, have this anonymous shell company purchase assets in a transaction that is not covered by KYC laws. Step one is, alas, still far too easy. Though we often associate the formation of these sorts of anonymous shell companies with “offshore” jurisdictions like the British Virgin Islands, in fact one can easily form an anonymous shell company in the United States. Step two, having the anonymous company purchase substantial assets without having to disclose the company’s owner, is a bit trickier, because you’d need to avoid the banking system. But you can get around this problem by having your anonymous company purchase assets with cash (or cash equivalents, like money orders or wire transfers), so long as no party to the transaction is under obligations, similar to those imposed on banks, to verify the company’s true owner.

One of the sectors where we’ve long had good reason to suspect this sort of abuse is common is real estate, especially high-end real estate. Though money laundering experts had long been aware of the problem, the issue got a boost from some great investigative journalism by the New York Times back in 2015. The NYT reporters managed to trace (with great effort, ingenuity, and patience) the true owners of luxury condos in one Manhattan building (the Time Warner Center), and found that a number of units were owned by shady characters who had attempted to conceal their identities by having shell companies make the purchases.

The US still hasn’t managed to pass legislation requiring verification of a company’s true owners as a condition of incorporation, which would be the most comprehensive solution to the anonymous company problem. Nor has the US taken the logical step of extending KYC laws to real estate agents across the board. But starting back in 2016, the US Treasury Department’s Financial Crimes Enforcement Network (known as FinCEN) took an important step toward cracking down on anonymous purchases of luxury real estate by issuing so-called Geographic Targeting Orders (GTOs). And thanks to some excellent research by the economists C. Sean Hundtofte and Ville Rantala (still unpublished but available in working paper form), we have strong evidence that many purchasers in the luxury real estate market have a strong interest in concealing their true identities, and that requiring verification of a company’s ultimate beneficial owners has a stunningly large negative effect on the frequency and aggregate magnitude of anonymous cash purchases. Continue reading

The UK Parliament Should Broaden and Sharpen the Legal Advice Privilege in Order to Encourage More Internal Investigations into Corruption

On September 5, 2018, the compliance departments and outside counsel of large corporations operating in the UK breathed a collective sigh of relief. In a much anticipated ruling, the Court of Appeal of England and Wales overturned a trial judge’s order that would have compelled a London-based international mining company, Eurasian Natural Resources Corporation Limited (ENRC), to hand over documents to UK prosecutors investigating the enterprise for bribery in Kazakhstan and Africa. Those documents were the product of an investigation that ENRC’s outside legal counsel had conducted following an internal whistleblower report that surfaced in late 2010. In conducting that internal investigation, lawyers from the law firm interviewed witnesses, reviewed financial records, and advised ENRC’s management on the company’s possible criminal exposure. Though the company tried to keep everything quiet, the UK’s Serious Fraud Office (SFO) came knocking in mid-2011. The SFO agreed to let ENRC and its lawyers continue to investigate on their own, periodically updating the SFO on their progress. In 2013, ENRC’s legal counsel submitted its findings to the SFO in a report arguing that, on the basis of the facts presented, the company should not be charged. The SFO disagreed and launched a formal criminal investigation. But the SFO then also demanded that ENRC turn over all of the files and documents underpinning its report—including presentations given by the lawyers to ENRC’s management and the lawyers’ notes from their interviews with 184 potential witnesses.

ENRC refused to comply, claiming that these documents were covered by two legal privileges under UK law: the “litigation privilege,” which guarantees the confidentiality of documents created by lawyers for the “dominant purpose” of adversarial litigation (including prosecution) that is “in reasonable contemplation,” and the “legal advice privilege,” which protects communications between lawyers and clients exchanged for legal advice. The trial court rejected ENRC’s privilege claims, a decision that sent shockwaves through the English defense bar and spurred much criticism on legal and policy grounds. But the Court of Appeal reversed, holding that ENRC’s lawyers didn’t have to share the documents. The Court’s ruling relied on the litigation privilege, holding, first, that documents created to help avoid criminal prosecution counted as those created for the “dominant purpose” of litigation, and, second, that criminal legal proceedings were in “reasonable contemplation” for ENRC once the SFO contacted the company in 2011.

Many commentators have hailed the Appeal Court’s decision (which the SFO declined to appeal) as a “landmark ruling” and a “decisive victory” for defense lawyers. The reality is a bit more nuanced. The Court of Appeal’s fact-specific ruling was very conservative in its legal conclusions, and it’s unlikely that its holding regarding the litigation privilege is sufficient to create the right incentives for companies and their lawyers. It’s also unlikely that further judicial tinkering with the scope of the litigation privilege will resolve the problem promptly or satisfactorily. The better solution would involve a different institutional actor and a different privilege: Parliament should step in and expand the scope of the legal advice privilege to cover all communications between a company’s lawyers and the company’s current and former employees. Continue reading

Corruption in Tennis, Part 2: Independent Review Panel’s Recommendations Are a Step in the Right Direction, But Prioritization Is Essential

As I explained in my last post, the game of tennis—because of its one-on-one format and unusual scoring system—is especially vulnerable to match fixing. This risk has become ever more significant with the explosion in the global sports betting market, particularly online betting. Professional tennis’s Governing Bodies (which include the Association of Tennis Professionals (ATP), Women’s Tennis Association (WTA), the Grand Slam Board, and the International Tennis Federation (ITF)), have demonstrated their concern about this sort of corruption for over a decade, publishing reviews on integrity in tennis in 2005 and 2008, establishing the Tennis Integrity Unit (TIU) to govern anticorruption matters in 2009, and adopting a mandatory anticorruption educational program for players and officials (the Tennis Integrity Protection Programme (TIPP)) in 2011. Yet, despite these efforts, match fixing and spot fixing continue to be a major problem. In January 2016, Buzzfeed and BBC published a bombshell report alleging not only that match fixing in tennis was pervasive, but also that the TIU and the Governing Bodies had suppressed evidence on the extent of the problem. The Governing Bodies quickly released a statement “absolutely reject[ing]” the suggestion that they had suppressed evidence of match-fixing, but they nonetheless immediately commissioned an Independent Review Panel to evaluate integrity in tennis.

Almost three years later, in December 2018, the Panel published its conclusions and recommendations in a 113-page Report, which the Governing Bodies endorsed. While the Panel found no evidence suggesting that the TIU or the Governing Bodies had covered up any wrongdoing, the Panel did conclude that the sport’s current anticorruption efforts are “inadequate to deal with the nature and extent of the problem,” and recommended changes to the sport’s governance policies and institutions.

The Report’s greatest strength—its no-stone-unturned thoroughness—is also its greatest flaw: More academic than pragmatic, the Report neither prioritizes its proposals nor sufficiently considers their financial feasibility. Given that the Panel attributes economic challenges—such as the under-compensation of lower-ranked players and the lack of resources allocated toward the TIU—as major reasons for widespread corruption in tennis, it seems unrealistic to think that the Governing Bodies could afford an across-the-board implementation of the Panel’s proposals. Thus, the Governing Bodies’ implementation plan should prioritize the Panel’s various recommendations, with an eye toward financial feasibility. Specifically, the Governing Bodies should: Continue reading

Some Good News and Bad News About Transparency International’s Interpretation of its Latest Corruption Perceptions Index

In my post last week, I fired off a knee-jerk reaction to Transparency International’s latest Corruption Perceptions Index (CPI). My message of that post was simple and straightforward: We shouldn’t attach much (or perhaps any) importance to short-term changes in any individual country or region’s CPI score, and the bad habit of journalists—and to some extent TI itself—of focusing on such changes is both misleading and counterproductive.

Since I was trying to get that post out quickly, so as to coincide with the release of the CPI, I published it before I’d had a chance to read carefully all of the material TI published along with the new CPI, and I promised that once I’d had a chance to look at those other materials, I would follow up if I had anything else to say. I’ve now had that chance, and I do have a few additional thoughts. The short version is that the way TI itself chose to present and discuss the implications of the 2018 CPI, in the accompanying materials, is both better and worse than I’d originally thought.

So, first, the bad news: Continue reading