Financial integrity and financial inclusion are mutually reinforcing and interdependent public policy objectives. When they are complimentary, they reinforce their respective objectives and contribute positively toward economic development. To this end, financial integrity and financial inclusion will benefit from greater coordination within governments and across sectors.
C h ap t e r Broader Policy Conclusions for Enabling the Promotion of Financial Inclusion while Achieving Financial Integrity Preview This chapter provides: • A discussion of key policy objectives for achieving financial integrity and financial inclusion for the remittance sector • Key policy recommendations for regulators and other authorities Key Policy Objectives for Achieving Financial Integrity and Financial Inclusion for the Remittance Sector Financial integrity and financial inclusion are mutually reinforcing and interdependent public policy objectives When they are complimentary, they reinforce their respective objectives and contribute positively toward economic development To this end, financial integrity and financial inclusion will benefit from greater coordination within governments and across sectors A well-designed anti-money laundering/combating the financing of terrorism (AML/CFT) regulatory regime creates an environment that fosters greater financial inclusion; similarly, improved financial inclusion leads to a stronger AML/CFT regulatory regime (see figure 6.1) Ill-designed and overly rigid AML/CFT regulatory frameworks,1 however, unnecessarily increase costs and create other disincentives for remittance service providers (RSPs), other financial institutions, and consumers, and curtail financial inclusion efforts Financial exclusion cultivates conditions that enable informal financial service providers to thrive and informal Making Remittances Work • http://dx.doi.org/10.1596/978-1-4648-0109-9 109 110 Broader Policy Conclusions for Enabling the Promotion of Financial Inclusion while Achieving Financial Integrity Figure 6.1 Complimentary Effect of Strong AML/CFT Regime and Improved Financial Inclusion Stronger AML/CFT regime Improved ability to trace and monitor transactions and less use of cash transactions Smaller informal sector and expanded formal sector Less demand for informal financial services Improved financial inclusion Smaller informal sector and expanded formal sector Reduced remittance costs and created incentives for informal players to register due to balanced regulation Well-designed AML/CFT regime based on risk-based approach Note: AML/CFT = anti-money laundering/combating the financing of terrorism financial channels to be more competitive.2 Informal financial channels cannot easily be traced, recorded, or monitored, thus increasing the likelihood of suspicious and illicit transactions through these channels Hence, they undermine the very objective of AML/CFT efforts Financial inclusion is therefore a multidimensional challenge, of which AML/CFT requirements are an important aspect While it is not the only cause of financial exclusion, regulatory challenges in some countries may have created barriers to the capacity of financial institutions to conduct business and innovation, thus undermining their ability to promote greater financial access For example, many citizens in poor countries not have legitimate identification (ID) documents that fulfill AML/CFT requirements established by domestic authorities due to an underdeveloped and inadequate ID infrastructure This makes it difficult for money transfer businesses (MTBs) and any other financial institutions to provide financial services to customers without the required ID documents The fact that policy makers, regulators, MTB supervisors, and MTBs themselves not have a clear understanding of the flexibility of Financial Action Task Force (FATF) standards on AML/CFT has led many countries to overregulate certain financial services and products that may not pose high money laundering/ financing of terrorism (ML/FT) risk At the same time, many countries have not introduced a risk-based approach (RBA) to AML/CFT requirements, which has added unnecessary regulatory compliance costs and created other disincentives for MTBs and other financial institutions This study argues that to the extent that countries bring the industry under AML/CFT regulatory and oversight Making Remittances Work • http://dx.doi.org/10.1596/978-1-4648-0109-9 Broader Policy Conclusions for Enabling the Promotion of Financial Inclusion while Achieving Financial Integrity mechanisms with enforcement, understand ML/FT risks posed to the sector, and the industry conducts ML/FT risk assessment and complies with regulatory requirements, MTBs should pose no greater risk than any other financial institution In addition, policy makers in some countries are still unsure of how to address the AML/CFT implications for new financial service providers such as mobile network operators and their agents (such as retail businesses and retail outlets in the provision of financial services) Often, regulators are not yet familiar with these new entities or products Hence, many countries are taking cautious approaches in regulating these new service providers, resulting in preventing such businesses from entering the markets, or entering markets with limited functionalities (such as a prohibition on international remittances) These entities could and should be leveraged to assist in achieving financial inclusion targets, and in doing so, a risk-based approach to AML/CFT regulations should be considered It is therefore imperative to address these regulatory challenges in order to create a regulatory regime that is effective in risk mitigation while also conducive to financial inclusion goals The FATF has tried to explain the flexibility of the standards by issuing a guidance paper on AML/CFT and financial inclusion in June 2011 and a revised guidance paper on AML/CFT and financial inclusion in February 2013 to reflect the 2012 changes in FATF Recommendations.3 This seems to be having a positive impact, since regulators around the world feel more comfortable introducing simplified due diligence for lower-ML/FT-risk scenarios Based on the discussions and findings in this study, the key policy recommendations are presented to national regulators and supervisors of remittance markets, with the objective of achieving a balance between financial integrity and financial inclusion These policy recommendations are presented under three themes: (a) money laundering and terrorist financing risks and related challenges, (b) regulatory and supervisory frameworks, and (c) market entry Key Policy Recommendations Money Laundering and Financing of Terrorism Risks Associated with the Remittance Sector • Conduct a detailed risk assessment of the remittance sector, which will assist in risk-based supervision and facilitate applying the AML/CFT measures in a manner proportionate to the identified risks In this regard, it is important to explore and analyze the identified ML/FT cases and classify them in order to identify typologies that involve the use of RSPs These assessments will identify the different ML/FT risks faced by the RSPs, their channels, and their products and services If regulators are contemplating who should be allowed to operate remittance services, the risk assessment would help determine the types of remittance business models that are best suited to local remittance market structure, and its cross-border features Moreover, such assessment would help remove the misconception that all MTBs are Making Remittances Work • http://dx.doi.org/10.1596/978-1-4648-0109-9 111 112 Broader Policy Conclusions for Enabling the Promotion of Financial Inclusion while Achieving Financial Integrity uniformly riskier As such, the authorities can focus on the specific risks that may exist within their MTBs, beyond a one-size-fits-all approach This will in-turn help alleviate debanking of MTBs by the banking sector, as seen in certain countries, which occurred due largely to the fear of heavy enforcement actions on the banks Risk assessment should help both the supervisors and the supervised (in this case, banks) to understand that different MTBs pose different ML/FT risks It would also provide necessary guidance in designing an RBA to AML/CFT regulation and supervision Regulatory and Supervisory Framework and Implementation of AML/CFT Preventive Measures • Adopt a risk-based regulatory framework Once a sound ML/FT risk assessment has been conducted, developing a risk-based regulatory and supervisory framework is a critical step The objectives and approach of laws and regulations governing remittance services may differ among countries based on development level, economic environment, and other factors Nevertheless, there should be risk-based regulation that reduces barriers to formally serving customers, while still ensuring that customers are adequately protected Large volumes of informal remittances still exist in many countries, which is partly associated with the existence of undocumented migrant workers and of populations with no ID documents Thus, regulations need to accommodate, on a risk-sensitive basis, those segments of the population whose source of money for remittances may be legal but who are not able to use formal channels due to regulatory requirements relating to strict interpretation of customer due diligence (CDD) • Ensure an RBA with respect to CDD obligations The FATF Recommendations allow for simplified CDD measures where there is a lower risk of ML/FT It is advisable to introduce “proportionate” risk-based regulation for CDD to enable customers to access formal channels and present information that is necessary to mitigate ML/FT risks according to its transaction size In this regard, introducing a “tiered-approach” to CDD would be advisable, under which CDD obligations progressively tighten as the ML/FT risk increases Simplified due diligence can also be used for opening low-value/lower-risk accounts into which remittances can be transferred and easily accessed Simplified due diligence may also consider differentiating between the ID and verification process, to determine an area where flexibility could be better accorded The scope and level of the simplified CDD can be decided in regulations or at the financial institution level If decided at the financial institution level, authorities should assess the validity of the RBA undertaken by the financial institutions It is also recommended to balance regulatory concerns about agents with the financial inclusion objective Agents of RSPs should be allowed to perform ID and verification obligations, which would enhance financial inclusion by expanding the geographic outreach Making Remittances Work • http://dx.doi.org/10.1596/978-1-4648-0109-9 Broader Policy Conclusions for Enabling the Promotion of Financial Inclusion while Achieving Financial Integrity • Ensure an effective supervisory framework To achieve effective supervision, consider adopting an RBA to the supervision of the remittance market, especially in countries where the number of licensed or registered remittance service providers is large The institutions to be visited, and the scope and periods of the on-site visits, should be designed based on the findings of prior risk assessment An RBA also forces examiners to focus on actual risks as opposed to perceived risks On-site supervision should be complemented by adequate off-site monitoring mechanisms This is important since risk-based design of on-site visits will largely depend on findings and on the analysis of off-site supervision or monitoring Supervisors should have adequate resources and skills to perform their duties In many countries, MTBs heavily depend on agent networks in providing services It is unlikely that the supervisors can make on-site visits to all agency locations, but rather conduct sample testing In this regard, it is essential to assess the internal control systems of principal MTBs to ensure that their agents follow adequate internal AML/CFT policy and procedures It is critical that appropriate sanctioning powers are available to supervisors Sanctions, particularly in relation to breaches of AML/CFT, should be clear, and supervisors should not hesitate to exercise their power and impose sanctions when necessary • Encourage active communication with market players Undertake more institutionalized and regular communication with remittance market players Designing laws and regulations without consulting the private sector could bring unintended negative consequences if regulators did not understand the market well Therefore, it is advisable to ensure that there is regular and proactive consultation and outreach with institutions subject to AML/CFT regulations, before laws and regulations are introduced or amended, to ensure that the proposed laws and regulations are practical, and also to secure buy-in from the private sector The private sector is often in a position to offer constructive solutions to regulatory challenges from a practitioner’s point of view Such a consultation process among all relevant stakeholders leads to proactive adaptation of relevant laws and regulations and achieves effective implementation of the laws and regulations in the market Providing proactive guidance to regulated institutions is important in assisting them to implement AML/CFT laws and regulations Market Entry by MTBs • Encourage innovation and competition by allowing a wide range of service providers Consider permitting a wider range of entities to conduct remittance activities either as a principal and/or as an agent of an RSP Be flexible enough to experiment with various types of new technology remittance models such as “e-money,” mobile money, and other remittance business models Explore permitting the use of retail “agents” for mobile money Making Remittances Work • http://dx.doi.org/10.1596/978-1-4648-0109-9 113 114 Broader Policy Conclusions for Enabling the Promotion of Financial Inclusion while Achieving Financial Integrity cash-in and cash-out functions This might facilitate the distribution of remittances, especially in remote or hard-to-reach areas It could also accelerate the access of unbanked customers to basic financial services in a manner that otherwise might not be possible, and would facilitate electronic tracking and monitoring of greater numbers of financial transactions in the event law enforcement authorities need to so to fight crimes It may be useful for authorities to issue guidelines for e-money and other innovative remittance products, such as prepaid cards and Internet-based remittance services As long as the risks are appropriately mitigated, regulators and regulations should not be a hindrance to the development of the private sector and private sector innovation • Consider the best fit between the two choices of licensing or registration regimes as the appropriate method of market entry In doing so, authorities should take into account ML/FT risk mitigation requirements, incentives for formalization, cost at entry and over time, and regulatory or supervisory capacity Such choice might not be an either/or approach, since tiered market entry regimes might provide a sound balancing act in terms of risk mitigation and effective allocation of resources Such a decision process is also relevant for agents, notably in light of the flexibility allowed by the FATF standards, between a system where agents are subject to registration or licensing, or one where the principals are responsible and accountable for maintaining the list of agents In many countries, putting the responsibility on principals is likely to be a promising approach, provided the obligations of principals are duly enforced When an informal market is relatively large, instituting a registration regime rather than a licensing regime may be more appropriate for principal RSPs, as would listing of agents by the principal for agents of the RSPs • Bring the informal players into the formal system Today, a still significant portion of remittance flows passes through informal systems To encourage informal market players to become formal participants, authorities should conduct a comprehensive assessment of the remittance market to identify the informal service players, design a regulatory framework including market entry requirements whose bar is not too high for informal players, develop awareness programs to explain the formalization process, allow reasonable time for licensing or registration with competent authorities, and continue to engage with them for a reasonable period of time Sanctions should be used only as a last resort in this process Notes For a detailed discussion on key regulatory impediments to financial inclusion, see appendix J As the formal remittance market becomes more competitive, there is less cost advantage for informal channels; however, in many countries, informal channels are still Making Remittances Work • http://dx.doi.org/10.1596/978-1-4648-0109-9 Broader Policy Conclusions for Enabling the Promotion of Financial Inclusion while Achieving Financial Integrity extremely cost-efficient and fast in processing cash transactions, with little or no process for verifying the ID of money senders or recipients Usually these informal systems are outside the regulatory parameters, and the nontransparent nature of these systems is a weak link in AML/CFT regimes focused on financial transactions This informal alternative means that such funds transfer providers are often not licensed or registered with authorities, and that the funds transfers and related transactions are usually not recorded, cannot be traced, and therefore pose higher integrity risks See FATF 2011, http://www.fatf-gafi.org/topics/financialinclusion/documents /fatfguidanceonanti-moneylaunderingandterroristfinancingmeasuresandfinancialincl usion.html This paper has been revised and updated to reflect the changes in the FATF recommendations adopted in 2012 The revised guidance paper, published in February 2013, is available at http://www.fatf-gafi.org/media/fatf/d ocuments/ reports/AML_CFT_Measures_and_Financial_Inclusion_2013.pdf The lead author of this report, Emiko Todoroki, provided substantial inputs to these guidance papers as a co-project leader of these projects References FATF (Financial Action Task Force) 2011 FATF Guidance: Anti-Money Laundering and Terrorist Financing Measures and Financial Inclusion Financial Action Task Force, Paris, June http://www.fatf-gafi.org/media/fatf/content/images/AML%20CFT%20 measures%20and%20financial%20inclusion.pdf ——— 2012 International Standards on Combating Money Laundering and the Financing of Terrorism and Proliferation: The FATF Recommendations Financial Action Task Force, Paris, February http://www.fatf-gafi.org/media/fatf/documents/recommendations /pdfs/FATF_Recommendations.pdf ——— 2013 FATF Guidance: Anti-Money Laundering and Terrorist Financing Measures and Financial Inclusion Financial Action Task Force, Paris, February http://www.fatf -gafi.org/media/fatf/documents/reports/AML_CFT_Measures_and_Financial _Inclusion_2013.pdf Making Remittances Work • 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