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Abstract

In their efforts to hold financial institutions accountable after the 2007 financial crisis, U.S. regulators have repeatedly turned to anti-money-laundering laws. Initially designed to fight drug cartels and terrorists, these laws have recently yielded billion-dollar fines for all types of bank engagement in fraud and have spurred an overhaul of financial institutions’ internal compliance. This increased reliance on anti-money-laundering laws, we argue, is due to distinct features that can better help regulators gain insights into financial fraud. Most other financial laws enlist private firms as gatekeepers and hold them liable if they knowingly or negligently engage in client fraud. Yet, as long as gatekeepers maintain deniability, they can accommodate dubious client requests. Instead, anti-money-laundering laws require gatekeepers to report to regulators suspicions of misconduct, even without clear proof of fraud. Because suspicions arise early in the gatekeeper–client relationship, conflicts of interest are not likely to be as strong. Moreover, the task of identifying suspicious cases can be more readily outsourced to compliance departments, lessening dependence on front-line employees whose future might be tied to specific clients. Finally, suspicions may arise even in gatekeepers who only have partial access to clients’ transactions and, thus, cannot come to full knowledge of the fraud.

Inspired by the collaborative relationship between gatekeepers and enforcement authorities in anti-money laundering, we develop a theoretical framework that explains why this approach could operate as a general template for financial regulation. We then investigate the implementation of the collaborative model in practice. Starting from anti-money-laundering laws’ history, we present new evidence from recently released archival materials to illustrate that, rather than fighting proposals for expanding their regulatory obligations, private industry embraced them. Turning to the present, we discuss how the collaborative model has reshaped banking oversight in money laundering: It has leveraged the power of big data, encouraged the creation of dedicated compliance departments, and spearheaded one of the biggest inter-agency collaborations in the United States. Finally, we discuss how the collaborative model could work in the future in two other areas of financial activity: broker-dealer regulation and equity issuance.

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