AML AT THE CROSSROADS

Crossing the ‘Compliance Gap’

My last two posts highlighted both a recent change and a long-standing challenge.  That no fewer than ten thousand Investment advisory firms face AML regulation – where the costs of compliance have increased by more than 50% over the last three years – suggests the potential for a messy regulatory train-wreck.   Why are costs spiraling out-of-control? And can anything be done about it?

Need a Bridge? …

KPMG’s 2014 Global Anti-Money Laundering Survey provides excellent background for answering the first question.  Not surprisingly, the most commonly identified challenge (cited by 84% of respondents) was the pace, methods, and impact of regulatory changes.  This isn’t a rant about the burden of regulation. It’s about change that’s driven by deception, not greed; crime, not political philosophy.  The simple fact is – regulations like AML must continue to evolve – because the patterns and methods of criminal behavior necessarily adapt to avoid detection.  Decriminalizing money laundering isn’t on anyone’s agenda.

The three areas of heaviest AML investment– transaction monitoring systems, Know Your Customer (KYC) systems, and recruitment/retention systems for AML staff – are inherently sensitive to regulatory changes and to patterns of criminal behavior.  Though the symptoms of this sensitivity may differ from one component, or even one implementation, to the next, I assert a common, underlying cause.

Wind.  Before the spectacular collapse of the Tacoma Narrows Bridge in 1940, bridge design did not explicitly account for aerodynamic effects.  The result – epic failure.  Constant, moderate (not storm force) wind not only destroyed this ‘state-of-the-art’ structure, it demolished the emerging foundations of modern bridge design.  The symptoms were evident from the outset, but the ‘flexibility’ of the bridge was considered an asset and it’s atypical dimensions an aesthetic masterpiece.

The uncontrolled increase in AML compliance costs (even if it’s only measured in the three components above) is the direct result of the poor adaptability of most current solutions purchased and deployed for monitoring, KYC, and retention purposes.  Adaptability to changes in regulation, changes in transaction, or communication, methods and sources hasn’t been sufficient – consequently, costs have risen as solutions struggled to keep pace with regulatory coverage and criminal cleverness.

A second element, I assert, is an insufficient agility in current solutions.  Agility accommodates rapid, frequent response to feedback.  A regulation changes – there’s need for agility (I guess you could wait until the regulation was repealed – but I wouldn’t hold my breath).  A new transactional method or more layered and complex ownership structure pops out of the criminal mind – again, there’s need for agility.  If solutions were more agile, there would be fewer costs associated with working around limitations.

The third element I’ll assert as absent, and a major cause, is dexterity.  Specifically, I’m referring to the kind of dexterity that seamlessly adds new sources and patterns of information.  Understanding patterns of transaction and ownership structures is at the heart of every AML program.  New sources of information - or more often, new ways of extracting and correlating information – can be a source of increased cost.  Alternatively, for organizations with dexterity, new sources of information and patterns can actually reduce cost.

 … Call an Engineer

These three causal factors – the relative paucity of adaptability, agility, and dexterity in current solutions – are three important reasons why compliance costs continue to rise.  Inadequacies don’t relieve a firm’s compliance obligations; they merely increase the likelihood of expensive manual processes to ‘bridge’ the ‘compliance gap’. 

Engineering guru B.V. Koen says, “The engineering method is the use of heuristics to cause the best change in an incompletely understood situation with the available resources.” In the next, and final, post in this series, we’ll take an ‘engineering’ view of a more cost-manageable solution.