Rule-Based vs. Risk-Based approaches to control. The third EU AML/CFT Directive.

1. Utrecht School of EconomicsTackling Money Laundering – Conference Rule-Based vs. Risk-Based approaches to control.The third EU AML/CFT Directive. Paolo Costanzo European Commission Utrecht, 3 November 2007

2. RULE – BASED VS. RISK - BASED The two approaches to AML implementation and compliance confront each other in the international scenario. This could favour: • Discrepancies in the regulatory framework • Difficulties in cross-border situations (for covered entities; for competent authorities) Which of the two approaches is more cost-effective?

3. Rule – based approach. The features • Relevant measures or behaviours are pre-determined by rules • given the same “triggering events” (e.g. transactions over a threshold), the same behaviours apply in all situations • Compliance is achieved when pre-determined behaviours are adopted, regardless of their suitability (“formal” component) • No or little discretion in adapting the measures to the concrete case (equal treatment of different situations)

4. Risk – based approach. The features • Behaviours differ from case to case, depending on the risk • Given the same “triggering events”, situations may be treated differently (different treatments for different situations) • Compliance means exercising discretion in determining the most appropriate measures in light of the risk • Compliance is achieved when the risk is tackled appropriately; examples set out in the rules are not exhaustive (“substantial” component) • “High-level” legislation; extensive scope for guidance

5. THE IMPLEMENTATION OF THE NEW AML SYSTEM From 2003: convergence toward the risk-based approach to anti-money laundering • 2003 FATF revised Forty Recommendations • EU third anti-money laundering Directive (2005/60/EC) However, the rule – based approach is not entirely ruled – out

6. THE STATE OF PLAY IN THE EU • 19 EU Member States evaluated in the “third round” of mutual evaluations (10 by the FATF, 9 by MoneyVal) • 15 December: deadline for the implementation of the third Directive • Problematic areas include risk-based issues, like: • Overall Customer Due Diligence regime • Politically Exposed Persons • Correspondent banking relationships

7. Cost-effectiveness. Elements for a comparison

8. Cost – effectiveness. Elements for a comparison (2)

9. How to ensure effectivenessand measure it? EX ANTE: shaping an effective risk – based AML system • Need for an overall risk/threat assessment (at the country level) • Understanding the economics of money laundering is of particular importance EX POST: measuring the effectiveness of the system • The “embedded” tool provided for by article 33 of the third Directive: maintaining statistics to review the effectiveness • Understanding the economics of anti – money laundering is crucial to calculate costs and assess benefits with appropriate methodologies

10. Conclusions • The change over to a risk-based approach is expected to improve the effectiveness proportionally more than the costs • The risk – based anti – money laundering system requires: • To be shaped appropriately taking accounts of relevant threats • To be assessed in its effectiveness on a continuous basis • Appropriate tools should be identified to fulfil these tasks • Understanding the economics of money laundering and assessing the cost of compliance with AML/CFT measures are key

11. Thank you for your attention. paolo.costanzo@ec.europa.eu