Next month, the newly appointed chairman of Westpac will confront Australia’s most significant violation of anti-money laundering regulations. However, the implications of this situation extend far beyond what is commonly reported. A proactive regulator is expected to impose a record penalty on another prominent bank, alongside significant allegations against a third institution. Yet, the increasing number of enforcement actions tends to overshadow troubling realities regarding the actual effects on crime.

Breathless media narratives often obscure the grim truths surrounding these incidents. In November, Westpac, the oldest bank in Australia, was implicated in 23 million breaches of anti-money laundering regulations, which included allegations of neglecting payments that could indicate international sexual exploitation.

While most news articles are technically accurate, they often lack a broader context. The regulator's announcement, focused on its most shocking allegations, generated sensational commentary labeling the “revelations” as “deeply disturbing” and “incredibly alarming.” Expectations of penalties exceeding $1 billion alleviate some pressure on the regulator, as damaged corporations typically opt for settlements to mitigate fallout. AUSTRAC, Australia’s anti-money laundering authority, may boast another “success” without having to demonstrate the validity of its claims or address the conspicuous gap in the reports it failed to receive.

Westpac's immediate actions included suspending bonuses for management, increasing compliance funding by $80 million, and committing millions to initiatives targeting child exploitation. Subsequently, the CEO resigned, the chairman announced his early retirement, and the bank entered crisis discussions with shareholders amid renewed regulatory scrutiny and a dramatic decline in its stock price. Westpac faced the risk of losing substantial government contracts, incurred a $500 million capital charge, and saw its market valuation plummet by $4 billion.

The scrutiny on Westpac persists. Recently, a man in Victoria was arrested for allegedly using Westpac’s transfer system to facilitate arrangements for child exploitation in Southeast Asia. AUSTRAC reported the arrest of a 63-year-old Sydney man who allegedly traveled to the Philippines to abuse children. Investigations are ongoing concerning the Bank of Philippines and ten unnamed financial institutions linked to Westpac.

The narrative follows a familiar pattern seen in various banking scandals. However, the allegations against Westpac, like many others, obscure critical issues about the anti-money laundering framework itself.

Three decades of intricate compliance and rigorous regulatory oversight have long concealed harsh truths, including the minuscule impact on actual crime rates. The system, designed to safeguard economies, paradoxically inflicts harm on developing nations, ordinary citizens, and legitimate businesses. Westpac's hasty decision to terminate one of the few remaining low-cost international funds transfer services likely exacerbated these negative effects, impacting families in the Pacific and Asia reliant on remittances from Australia.

A recent economic analysis has unveiled a paradox in money laundering efforts: jurisdictions deemed to have effective anti-money laundering measures were found more likely to harbor the wealth of individuals like Isabel dos Santos, the daughter of Angola’s former president, accused of amassing a vast fortune through the exploitation of her impoverished nation, compared to those identified as having deficiencies in their anti-money laundering systems. Similar patterns were observed in the Troika Laundromat, which siphoned billions from Russia. Matthew Collin noted that developing nations are more frequently penalized for not meeting standards, while wealthy countries that do meet them are more likely to host illicit wealth taken from these nations.

It remains premature to predict how the Westpac situation will ultimately unfold. Allegations of child exploitation are always grave, and some analysts suspect that large-scale, high-level tax evasion might be uncovered. Nonetheless, distinguishing relevant issues from the noise is essential for examining the broader implications.

Accurate yet misleading reports have highlighted the 23 million alleged breaches of money laundering regulations, drawing comparisons to the Commonwealth Bank’s A$700 million penalty for just 53,000 breaches.

While the volume of breaches may influence potential penalties, it holds little significance regarding the severity of the underlying criminal behavior. For instance, failing to report a handful of transactions could enable Mexico's notorious Sinaloa cartel to reinvest in its operations, while a software error neglecting a million transactions at a travel agency might expose nothing beyond the travel plans of ordinary individuals.

The sheer number of alleged breaches reflects a compliance culture that emphasizes counting incidents rather than assessing results. AUSTRAC may be tasked with tallying each transaction, but the apparent precision of reporting “23,032,422 breaches” serves to sensationalize rather than clarify the case against Westpac. In reality, the regulator's claims encompass fewer than a dozen distinct breach categories.

Breaking down the numbers, approximately 19.5 million alleged breaches relate to ‘international funds transfer instructions’ (IFTIs), which are payments processed between Westpac and foreign correspondent banks on behalf of their clients. These transactions must be reported to AUSTRAC within ten days, including the source of funds information passed to the respective banks for processing.

AUSTRAC asserts that Westpac reported IFTIs late, often by considerable margins. Of the 19.5 million IFTIs, around 2,000 went unreported, and 10,500 lacked complete information. Additionally, 3.5 million alleged breaches pertained to the bank's data retention system prematurely deleting transactions.

In addition to these automatic filings, banks are required to report ‘suspicious’ transactions, which do not necessarily imply criminal activity but rather highlight unusual transactions or those that fit known criminal patterns.

AUSTRAC also claims Westpac failed to adequately review its systems and correspondent banking relationships or update its software swiftly following changes to AUSTRAC's descriptions of known criminal methods. This, according to AUSTRAC, adversely impacted Westpac’s ability to monitor suspicious activities.

Even if Westpac had filed all transactions punctually, would it have genuinely made a difference? AUSTRAC’s assertions could hold validity, but hypothetically, if Westpac had reported all 19.5 million transactions on time and retained the 3.5 million records for the full seven years, it would still only account for a few thousand breaches.

In practice, only a minuscule fraction of transactions is ever flagged as potentially suspicious, and an even smaller number undergo investigation. According to AUSTRAC’s annual report, last year saw the submission of 155 million IFTIs and 246,458 suspicious matter reports. With false-positive rates often hovering around 98%, indicating the majority of flagged transactions have no issues, Australian banks may have generated over 12 million alerts before narrowing it down to approximately 246,000 reports.

In terms of outcomes, AUSTRAC's taskforce made ten arrests linked to 163 bank transactions, recovering A$29.5 million. Although there may have been additional arrests stemming from the use of AUSTRAC data by agencies in Australia and internationally, it is clear that AUSTRAC investigates a negligible proportion of reported transactions. Even fewer of these lead to proven criminal actions.

Thus, if Westpac had successfully filed the 19.5 million reports on time and retained the 3.5 million records as required, it is likely that only a handful, if any, would have resulted in the prosecution of offenders using Westpac accounts. The crux of much of AUSTRAC’s complaint lies in alleged failures that may have allowed criminals, including sex offenders, to evade detection earlier.

This universal requirement to report 'suspicious' activities underscores the deficiencies in the current anti-money laundering system, illustrated by the Westpac case, which highlights how standardized reporting methods are inadequate in effectively combating crime.

Failing to report ‘suspicious’ transactions can have serious repercussions, justifying the rationale behind anti-money laundering laws aimed at detecting and preventing significant profit-driven crime. If it takes sifting through millions of transactions to achieve this, the effort would be worthwhile.

However, the theory often falters in practice. The system generates vast amounts of data, yet almost none points to actual criminal activity. Instead, it produces a theoretical chance of locating a needle in a continent-sized haystack.

Suspicious transaction reports can indeed initiate investigations, lead to arrests, and result in asset seizures. The system is designed to capture some criminals. However, it has minimal impact on the financial operations of serious profit-driven crime, including sexual exploitation.

For instance, in 2011, the United Nations estimated that merely 0.2% of criminal proceeds are seized. My updated research suggests the global figure could range between 0.02% and 0.1%. Other studies, albeit with poor data, imply that Australia’s recovery rate might be 0.38%, with jurisdictions in that study varying from 0.1% to 1.65%.

Despite decades of inadequate results, anti-money laundering ratings data remain obscure, and authorities rarely conduct rigorous cost-benefit analyses. Official estimates are notoriously inaccurate, indicating that these figures should only be interpreted as general indicators of a persisting problem. The stark takeaway is clear: the modern anti-money laundering framework identifies some criminals but fails to make a significant impact on crime.

Regulators find banks to be easier targets. However, as Australia’s Home Affairs Minister Peter Dutton has remarked, Westpac allegedly provided “a free pass to pedophiles.” Such a statement, while alarming, should not equate the “23 million breaches” with the relevant facts at hand.

Overall, AUSTRAC asserts that there were 3,057 low-value transactions indicative of child exploitation patterns made by 12 Westpac customers to high-risk countries, totaling just under $498,000. The average payment was $163, with amounts for each customer ranging from $43 to $333. One customer had a prior child exploitation conviction and allegedly sent $2,612 across ten payments.

Westpac claims it filed suspicious matter reports for all twelve customers, while AUSTRAC contends these should have been submitted sooner.

For both Westpac and AUSTRAC, hindsight offers clarity. However, if Westpac had reported those twelve transactions earlier, authorities might have flagged some for investigation—or they might not have.

While twelve cases allegedly facilitating payments for child exploitation are concerning, and Westpac should face penalties for late reporting, this instance highlights broader issues that lead to many similar cases going undetected.

The shortcomings of the modern anti-money laundering framework can be summarized by an overlooked phrase. The assertion that payments are “consistent” with “known” patterns “indicative” of child exploitation to “known” risk countries is problematic, as many legitimate transactions share these characteristics. AUSTRAC’s typologies fail to pinpoint actual criminal activity.

For instance, if South East Asia’s sex-trafficking leaders happened to gather in a particular location, regulatory typologies would merely instruct investigators to “look in that general area, perhaps.” This represents a classic needle in a haystack dilemma. Instead of developing more effective methods to identify the ‘needles’ of criminal activity, prescriptive regulations and checklists inundate the system with millions of legitimate transactions rather than focusing on those that genuinely matter.

Good intentions behind detecting money laundering and preventing serious profit-driven crime are commendable. However, creating well-designed incentives that effectively achieve these goals is paramount.

AUSTRAC’s case against Westpac illustrates the misaligned design elements inherent in the contemporary anti-money laundering landscape. Banks face little motivation to devise better strategies for detecting serious crime indicators. While many bank compliance professionals are dedicated to preventing crime, they encounter an impossible situation: if they enhance systems to identify criminal indicators amid legitimate transactions, they risk prosecution for not reporting every transaction matching known patterns.

Even if they present a clear case of criminal indicators, any remaining ‘needles’ could expose them to significant penalties. Under the current framework, banks are compelled to submit exhaustive reports, overwhelming the system with poor intelligence or facing severe consequences.

Misaligned incentives extend beyond banks. Politicians have their own motivations for implementing anti-money laundering laws. Non-compliance, regardless of effectiveness, jeopardizes a country’s access to the international financial system, and politicians often lack pressure from constituents. The public has been led to believe that money laundering is complex, best handled by experts, and that increasing regulation is the solution to almost every issue.

Even when banks are at fault, critical topics remain obscured by this simplistic narrative. The public is largely unaware of the modern anti-money laundering system’s negligible impact on crime or that the vast expenses incurred by legitimate businesses in compliance costs are ultimately passed on to consumers through higher fees and taxes.

Some regulators have begun to push for change, yet many remain entrenched in a shared belief system bolstered by ongoing conferences and a sense of camaraderie in the fight against money laundering. Without recognition of existing issues, there is little incentive for reform.

Even regulators who privately acknowledge a desire for improved outcomes face distorted incentives. Legislative frameworks compel regulators to enforce mandated compliance activities regardless of their impact on crime.

While it is essential for regulators to investigate breaches, they must also consider the broader consequences. The absurdity of Australian law, which allows penalties of $19–21 million per breach to total A$391–483 trillion (US$269–333 trillion) for Westpac, far exceeding global GDP, is not taken seriously. Nonetheless, commentators still anticipate penalties in excess of a billion dollars, reinforcing the notion that mere compliance is prioritized over effective crime prevention.

If Westpac had reported all transactions it was required to file and matched all known patterns, it would still face the same scrutiny, as AUSTRAC would remain overwhelmed with the challenge of identifying criminals.

If Westpac had complied fully, it would have experienced minimal repercussions from anti-money laundering regulations, akin to many large-scale criminal enterprises that remain largely unaffected by what I have described in testimony to the US Senate as perhaps the least effective anti-crime measure ever.

Ultimately, the question remains: what constitutes success? My focus lies in policy effectiveness and outcomes. In the realm of anti-money laundering, this involves not only assessing whether laws exist or meet standards but also evaluating their actual effectiveness.

If any of the twelve individuals allegedly making payments to exploitative sites are found guilty, a few may face imprisonment. While some may take satisfaction in the government penalizing banks to the tune of billions, the tragic reality is the harm that remains unaddressed.

When ‘success’ is defined solely in terms of regulatory compliance—achieving record penalties against banks—while failure is assessed only through the lens of the entire system and its meager impact on serious crime, opposing viewpoints will continue to clash, resulting in stagnant outcomes.

The unfortunate truth is that decades of substantial effort and trillions spent in the fight against money laundering have led to a status quo: banks face ongoing prosecutions, the media relays each new scandal, regulators demonstrate their activity without affecting meaningful change, and the compliance industry thrives on fear generated by systemic failures.

For criminals, it is business as usual; the anti-money laundering movement barely taxes their operations. With criminals retaining up to 99.9% of their ill-gotten gains, the movement’s impact is nearly negligible.

What, then, is the solution? Every strategic review has sought to enhance existing methods, yet rather than fixating on the 0.1% impact achieved over thirty years, let’s consider a fresh approach. By utilizing outcomes science, we can devise strategies to transition from the 0.1% impact in known areas to the 99.9% zone where the majority of criminal activity occurs. Law enforcement agencies often adopt such thinking already, and the regulatory framework must evolve to transform the trickle of cases handed to police into a deluge.

However, without political vision or voter advocacy for improved outcomes, and with regulators focusing on banks to demonstrate their success, there is little opportunity or motivation to build a case for what genuinely works.

In the meantime, the system remains unchanged from its design three decades ago. Faced with substantial penalties for failing to tick boxes that do not prevent crime, it is unsurprising that banks respond by forming review panels to assess governance, hiring consultants to refine processes, and employing thousands of compliance staff to shield themselves from regulators—ultimately resulting in more diligent compliance without addressing crime.

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