**2. Rationale for the Study**

Over the past few years, the derisking practice has also gained popularity in Malta, and, in fact, there are quite a few domestic and international banks operating in Malta that have engaged in, or are in the process of engaging in, derisking.

Given that at present, very limited research regarding the implications of derisking vis-à-vis the Maltese scenario has been carried out, this implies the need for such a study. This study fills such a gap by identifying and subsequently laying out the analysis of the factors that are affected by, and more importantly, the drivers and implications of, the derisking process.

Although we herein highlight the main drivers of the derisking process in a small EU state and island, as suggested by various researchers such as Bezzina et al. (2014), Briguglio (1995), and King (1993), given the jurisdiction's size and nature, the results can be used as small-scale laboratory test findings for more complex politics, regulations and policies of larger countries. Therefore, the findings of this study are of significance to international policymakers, regulators and governments.

#### **3. The Objective and Research Questions of the Study**

The researcher has one primary objective: to identify and analyse the implications that are affected by the derisking process. Moreover, underpinning this objective are two research questions:

RQ1: What are the main implication variables of a derisking strategy within the context of Malta? RQ2: What are the key effects of derisking with regards to the Maltese scenario?

In doing this, we also check whether the drivers differ with the different demographics.

The aim is to understand what the implications variables are, which should be looked at when carrying out a derisking strategy, that is, a checklist to help risk managers develop a risk matrix and measure the implications of derisking as one single qualitative or quantitative value. This can also serve as a tool for policymakers.

#### **4. Why Was Malta Chosen as the Focal Point of This Study?**

As noted above, over the years, many leading and well-known researchers such as King (1993), Briguglio (1995), Baldacchino (2006), Bezzina et al. (2014), and Xuereb et al. (2019) have made use of small island states like Malta in order to understand the complex financial environments, dynamics, politics, policies and regulations of larger countries (Xuereb et al. 2019). Therefore, small island states are utilised as laboratories on a smaller scale (Xuereb et al. 2019; Pirotta 2001).

Moreover, the principle of proportionality is of utmost importance to ensure that smaller states still have a voice. Proportionality means that the EU should only take the action that is necessary to achieve its aims. This principle is set out in Treaty 5 of the EU under Article 5. In reality, when it comes to the EU's decision-making process, it is usually the larger states that have more prominence and are able to influence the outcome of final decisions. Therefore, in practice, the concept of proportionality is not always adhered to and is not effectively managed (Xuereb et al. 2019). Adopting an approach which is proportional involves taking into account the size, nature, systemic importance, complexity and risk profile of the stakeholders involved and the services being offered. Therefore, it is important that regulations are tailored according to such requirements. This leads to lower costs related to compliance and a decreased regulatory burden for smaller and less complex organisations that might otherwise experience an undue reduction in their competitiveness. Consequently, this study is of significant importance as it gives smaller states the opportunity to have a much-needed voice and allows further understanding to be obtained regarding the implications of derisking vis-à-vis smaller jurisdictions (Xuereb et al. 2019; Lautenschläger 2017; Grima et al. 2016).

#### **5. Literature**

#### *5.1. The International De-Risking Landscape*

#### 5.1.1. Traditional Risk Management

The traditional risk management approach used reactive models, defined as a managerial process, an administrative process or a decision-making process of planning, organizing, leading, and controlling the organization's activities to lower the adverse effects of any accidental losses that a firm might incur. It was more of a reporting and monitoring function.

It is a risk-based approach, which places responsibility on various departments and business units and the focus is on pure risk (hazard risk where the consequences may or may not be losses) and refers to individual risks as though they do not interact with each other. Therefore, this approach does not align with the risk management needs of an organisation since risks should be treated as a whole (taking into consideration the direct and indirect effects). The result is, therefore, unsatisfactory due to different types of risks being managed and treated independently. This fragmented approach to risk cannot work within an aggregated approach to risk throughout an organisation (Head 1973).

The complexity, volatility and unpredictability of the current economic and social environment are a constant reminder of the many risks we need to face to reach objectives. The traditional approach is, therefore, no longer sufficient, and it is necessary for today's companies to invest significant resources to identify, measure and manage risks and ensure longevity. The risk management approach has a major role in an organisation's ability to avoid, reduce and turn risks into opportunities.

#### 5.1.2. The Context of Derisking

Over the past years, regulatory scrutiny in the global financial services sector has significantly increased, especially regarding financial crime and AML/CFT regulation (Badour et al. 2017). The reaction of banks and other financial institutions to this new regulatory environment was to strengthen and invest more in their compliance and risk management functions (Badour et al. 2017). As costs associated with regulation and compliance continued to increase, some banks and other financial institutions started carrying out cost–benefit analyses with regards to certain activities and operations they carry out. Such banks and other financial institutions found that in some cases, it is more beneficial to stop servicing certain customer segments and/or to exit specific product lines (Badour et al. 2017).

In the current global landscape which comprises different actors concerned with derisking, there are many of such actors (e.g., the G20) that view this phenomenon as being an issue that is related to financial stability (HSC and ECNL 2018). This is because derisking has a considerable impact on CBRs, which may, consequently, negatively impact trade financing and economic development. Other actors such as the World Bank believe that derisking is broader in scope and may even affect financial integrity and inclusion (HSC and ECNL 2018). It is important that banks and other financial institutions do not only aim to safeguard their margins but also act as "good global citizens [by] providing a public service" (HSC and ECNL 2018, p. 12).

On the other hand, according to regulatory framework architects, derisking is not the result of stricter AML/CFT regulations, but principally, the result of banks and other financial institutions not properly applying and/or misinterpreting the requirements related to AML/CFT. At the same time, such banks and financial institutions complain that clean money is disappearing into banking channels that are unregulated (HSC and ECNL 2018).

#### 5.1.3. The Political Landscape

Long-established political concerns with regards to financial crime and terrorism collide with an increased demand for regulation that creates "legal, political and operational imperatives that result in derisking" (HSC and ECNL 2018, p. 13).

The pressure of ever-increasing international policy responses when it comes to financial crime and terrorism has transformed how the global financial system works and operates (HSC and ECNL 2018). In the 1980s, international architecture regarding the surveillance and control of customers was introduced. Following this was the establishment of enforcement mechanisms, which mainly comprise of economic and financial sanctions. As a result, financial services providers are now also being held responsible for monitoring activities that are carried out by their customers (HSC and ECNL 2018).

The Financial Action Task Force (FATF) is one of the most important and powerful international organisations with respect to derisking. The FATF was established in 1989 by the G7 countries with the primary aim of developing a framework to combat money laundering that could be applied on an international level. Upon its inception, this organisation imposed obligations on three levels (HSC and ECNL 2018):


Following the September 11 attacks in 2001, the mandate of the FATF was broadened in scope to include the combatting of the financing of terrorism so as to stop money from reaching terrorist organisations. Here, the ultimate aim is that of increasing peace and security on a global scale (HSC and ECNL 2018). The FATF also has the power to ensure that countries implement their recommendations. Countries that do not comply are blacklisted from the global financial system until they achieve full compliance once again (HSC and ECNL 2018).

The logic behind the transformation that the FATF underwent over the years can also be applied to the AML/CFT framework, which focuses on areas of failure and does not take into account other concerns such as human rights and accountability (HSC and ECNL 2018). The unintended spill-offs of this approach, such as derisking, are oftentimes tolerated and not questioned. It is only when derisking leads to funds being pushed into shadow banking channels that it starts becoming a concern for many prominent stakeholders (HSC and ECNL 2018).

#### 5.1.4. The Regulatory Landscape

To minimise the risk of noncompliance, the banking and financial services sectors have opted to internalise AML/CFT regulations and are regulated both statutorily and on a "self-regulation" basis. Individually, banks have also developed numerous internal mechanisms to ensure compliance and mitigate risk (HSC and ECNL 2018).

The role of central banks is to make sure that AML/CFT regulations that have been incorporated into the banking regulatory framework are actually applied in practice (HSC and ECNL 2018). "Breaches of sanctions regimes or failures to conduct proper due diligence" (HSC and ECNL 2018, p. 16) can lead to the imposition of fines and even the threat of criminal prosecution. In this regard, the biggest driver of derisking is not the cost of financial penalties, but the enforcement actions' reputational costs if the banks involved are allegedly found to be colluding with terrorist groups or organised criminals (HSC and ECNL 2018). Consequently, banks are revising their risk appetites and implementing more widespread derisking (HSC and ECNL 2018).

The internal compliance mechanisms that banks are introducing to avoid the risks and fines for not being compliant are usually developed by individual third-party financial services providers (HSC and ECNL 2018). Therefore, determining whether individual clients or entire business segments are perceived as being high-risk is a commercial decision based on the algorithmic decision-making of a third-party actor and not on an impartial and objective risk assessment (HSC and ECNL 2018). The industry that provides such compliance services has thus normalised the derisking process (HSC and ECNL 2018).

When it comes to derisking, it is important that relevant stakeholders take into consideration not only certain risk management tools that are provided by the industry (HSC and ECNL 2018), but also the "political economy of the compliance sector" (HSC and ECNL 2018, p. 16).

Derisking is not always a rational process based on sound cost–benefit analyses. It can be "the result of (highly politicised) processes predicated on the creation of 'suspect communities' to maintain an adequate supply of risk to be managed" (HSC and ECNL 2018, p. 17). This is not an appropriate baseline for the prevention of financial crime and terrorism and leads to statutory regulation not being applied on a proportionate basis (HSC and ECNL 2018).

#### 5.1.5. The Relationship between Money Laundering, Corruption and Bribery

Money laundering and corruption are two serious offences which are very much linked to one another. The prevalence of money laundering in any particular country is a clear indicator that corruption is also prevalent and vice versa (Mugarura 2016). The ideal environment in which money laundering and corruption thrive is one which is characterised by a lack of adequate oversight by regulatory authorities, bad governance and weak laws and regulations (Mugarura 2016).

One very common type of corruption is bribery. The underlying objective of bribery is to influence the opinions and/or behaviour of certain individuals such as public officials. Bribes often entail gifts and rewards; however, they are not always monetary in value. One example of a nonmonetary bribe is hospitality. The prevalence of bribery within a particular country leads to both short-term and long-term economic and reputational damage (Clark 2019; Consiglio and Grima 2012).

Since money laundering and corruption are intertwined, it is important that countries not only introduce anticorruption policies but also adopt robust AML strategies and make sure that such strategies are effectively implemented and enforced. Proper enforcement of AML strategies helps to hold corrupt public officials accountable for their actions (Mugarura 2016).

The manifestation of money and corruption hinders the ability of individual countries to pursue development goals on a national level and also facilitates crimes such as human, drug and small arms trafficking, terrorism financing, as well as prostitution (Mugarura 2016).

Corruption and bribery are often mistaken for one another or used interchangeably since their meanings are very similar. However, to prevent, manage and mitigate the problems they cause, it is important to understand the differences between them.

Corruption is defined as any actions by a person in a high position to take an unfair advantage, usually for personal gain. This is the abuse by persons with entrusted power for private gain, which can be of any size, commercial or political.

Bribery, on the other hand, is a type of corruption. An example is offering gifts to individuals so as to influence their opinions or behaviour (Consiglio and Grima 2012).

#### 5.1.6. A Sustainable Model for AML in the United Nations Development Goals

In 2015, all the member states of the United Nations (UN) adopted 17 sustainable development goals (SDGs) that focus on tackling a number of prominent issues faced by all countries around the world. Since money laundering destabilises domestic economies, it needs to be scaled down so that such SDGs can then be achieved (Dobrowolski and Sulkowski 2019).

According to Dobrowolski and Sulkowski (2019), money laundering "distorts the efficient and effective outcomes of economic activities and serves as a catalyst for other types of crime, including corruption, fraud, drug trafficking, and terrorism" (p. 1). Therefore, money laundering can have a crippling effect on economies worldwide and leads to distorted international finances. Furthermore, money laundering significantly decreases integrity, in turn leading to reduced transparency and accountability. Ultimately, this results in higher levels of public mistrust, adversely impacting global markets and stifling innovation and development (Dobrowolski and Sulkowski 2019).

Supreme audit institutions (SAIs) have the power and capacity to audit, investigate and evaluate AML systems and antimoney laundering organisations (AMLOs) to assess whether such systems and organisations are effectively fulfilling their obligations and tasks. In addition, SAIs have the responsibility of providing decision-makers and governments with accurate and reliable information, which allows them to establish AML systems which are efficient and effective. Therefore, SAIs promote good governance. Notwithstanding, the capacity of SAIs is sometimes limited due to a lack of standards and guidelines regarding the auditing of AML systems and organisations (Dobrowolski and Sulkowski 2019).

To combat money laundering in an effective manner, Dobrowolski and Sulkowski (2019) proposed the use of the MAMA (multiple antimoney laundering activity) model as a universal framework of AML and an assessment tool for auditors. This model is beneficial because it can assist all types of organisations from all countries around the world. Moreover, this model allows different organisations to compare their different AML systems, meaning that benchmarks can be established (Dobrowolski and Sulkowski 2019). The MAMA model consists of 8 criteria (Dobrowolski and Sulkowski 2019):


### *5.2. The Drivers of Derisking*

When analysing the driving factors of the derisking process, it is imperative to take into account recent developments in the spheres of banking and regulation (Artingstall et al. 2016). The approach being adopted regarding risk is changing as the priority for banks and other financial institutions is to decrease their costs. Furthermore, banks and financial institutions aim to reduce risk-weighted assets and slim down their business in order to lower their risk profiles (Artingstall et al. 2016).

The derisking process is driven by an amalgamation of factors such as the ever-increasing AML/CFT regulations, higher compliance costs, more stringent and demanding prudential requirements, increased risk management controls and low profitability of certain business areas (Langthaler and Niño 2017).

To facilitate comprehension, these aforementioned drivers of derisking and other factors are going to be grouped under specific subheadings and explained in more detail in the following pages.

#### *5.3. Decreasing Risk Appetites*

In response to the 2008 global financial crisis, many banks started scaling back their risk appetites and adopting a risk-based approach (RBA) to AML/CFT. By adopting an RBA to AML/CFT, banks reduced the extent to which the services they provide to customers can be abused for the purpose of financial crime. This is done by such banks discontinuing relationships that they believe present too high a risk of this abuse (Artingstall et al. 2016). The reduction in the risk appetites of banks and other financial institutions has led to more widespread derisking of clients that do not fall within such decreased risk appetites.

The exiting of relationships with customers perceived as presenting the highest risk helps minimise counterparty risk. Consequently, banks can improve their risk profile and ensure compliance with the RBA to AML/CFT regulations, which many regulators advocate in favour of (Badour et al. 2017). Furthermore, it is beneficial for banks to have strong practices associated with risk management in place as this leads to reduced regulatory risk and a lower likelihood of regulatory action (Badour et al. 2017).

It is paramount that any organisation determines its level of risk appetite as this ensures that effective decisions are taken when determining strategies to manage risk by, for example, transferring or accepting part of or the whole risk and determining which tools to utilise when doing this. ISO 31000 defines risk management as being "the amount and type of risk that an organisation is willing to pursue or retain" (ISO 2009). Such risk is pursued and retained so that the organisation's strategic objectives can be achieved (Alix et al. 2015; Bromiley et al. 2015; Lamanda and Voneki 2015; as cited in Zhang 2016). In the context of derisking, banks and other financial institutions usually derisk the clients that are deemed to be too high-risk (in the light of the appetite of the shareholders, transmitted through the board of directors) and fall outside of their risk appetite. Moreover, the implementation of proper risk mitigation strategies decreases the adverse effects of risks that an organisation is exposed to.

Risk appetite is sometimes also defined as that amount of financial crime residual risk that a bank or financial institution is willing to have onboard and the view of how efficiently and effectively it can manage such risks (Artingstall et al. 2016). Risk management involves two complementary types of mitigation—enhanced due diligence and continuous monitoring. Beyond such mitigation strategies, interventions will then involve some form of derisking (Artingstall et al. 2016).

RBAs with respect to financial crime identify and analyse the risk that is associated with factors that include the type of business involved, the sector, the occupation, jurisdiction and political risk, distribution channels and the products or services required by the customer (Artingstall et al. 2016). These customer risk ratings allow banks to assign scores to specific customers and then determine whether the financial crime risks involved are acceptable and fall within the particular bank's predetermined parameters. This all depends on the financial crime risk appetite that the bank has (Artingstall et al. 2016).

#### *5.4. Increasing AML*/*CFT and Regulatory Compliance*

#### 5.4.1. AML/CFT Compliance

With AML/CFT regulations always increasing and becoming ever more complex, this has resulted in higher costs related to compliance (Haley 2017). A survey on global antimoney laundering carried out by KPMG in 2014 found that 78% of respondents, representing the most prominent global banks, stated that their banks reported a substantial increase in AML compliance, with 22% of such respondents revealing that their banks experienced a 50% increase from the years 2011 to 2014 (KPMG 2014). In 2014, HSBC spent \$800 million on risk management and compliance, which was about a \$200 million increase from the previous year (Arnold and Hughes 2014).

The main factor which has led to rising compliance costs is the imposition of enhanced customer due diligence (CDD) requirements (Haley 2018). These require banks to follow Know Your Customer (KYC) guidelines, which mandate that banks need to identify and verify their customers and also the ultimate beneficial owners of their legal entity customers (Langthaler and Niño 2017). Additionally, banks must comprehend the nature and purpose of the relationships with their customers and conduct monitoring that is ongoing. In the case of clients and countries that are both perceived as being higher risk, KYC requirements and due diligence can be very costly and time-consuming (Langthaler and Niño 2017).

Rising AML/CFT compliance costs have a magnified effect on jurisdictions that have smaller and more restricted banking markets as such jurisdictions are not always able to spread the fixed cost component of these AML/CFT compliance costs over a large enough number of transactions (Haley 2017).

In addition, rising compliance costs may disincentive larger banks to uphold certain interbank relationships that provide additional cover or more transactional options. This negatively affects small and medium-sized banks, which may end up having to stop servicing some of their customers and other banks (Artingstall et al. 2016).

In their study entitled Drivers and Impacts of Derisking, Artingstall et al. (2016) analysed banks that have engaged in derisking and closed several of their customers' bank accounts. The banks investigated were not willing to share a portion of these increased compliance costs for bank accounts with their customers by using the customers' risk rating as a basis. If these compliance costs could be calculated for each individual customer, there might have been customers willing to pay a premium to maintain their bank accounts (Artingstall et al. 2016). This is essentially a form of market failure, where if costs and resources are allocated more efficiently against the actual money laundering and terrorism financing risks involved, banks would need to derisk less (Artingstall et al. 2016).

Badour et al. (2017) argue that the derisking process actually leads to lower compliance costs and allows banks to operate with a greater level of efficiency. Exiting relationships with high-risk customers that typically require considerable compliance resources allow such resources to be used elsewhere. By focusing on fewer product lines that do not involve high compliance costs, this will allow banks to operate more effectively and simultaneously, also possibly boosting their profitability (Badour et al. 2017).

#### 5.4.2. Regulatory Compliance

According to Durner and Shetret (2015), regulatory approaches often diverge across "state, national and international jurisdictions" (p. 10). Such divergence is usually considered to be an

invisible cost associated with globalisation and results in increased costs related to compliance (Durner and Shetret 2015).

Apart from the significant fines, agreed settlements of regulatory action may include the imposition of certain business restrictions as part of such regulatory settlement for the organisation under consideration. This is known as regulatory derisking (Artingstall et al. 2016).

An example of a regulatory settlement reached when certain AML/CFT requirements are breached is a deferred prosecution agreement (DPA; Artingstall et al. 2016). With regards to DPAs, banks agree to voluntarily abide by several conditions in exchange for the suspension of their criminal charges. The conditions, stipulated in a DPA, comprise of financial penalties and improvements that must be made with regards to particular compliance measures and cooperation with the applicable regulatory and law enforcement agencies (Durner and Shetret 2015).

Costs associated with compliance of a regulatory nature may ultimately end up being shifted to customers in the form of increased fees, reduced availability of services and restricted credit (Durner and Shetret 2015). Low-income individuals and businesses that have low profit margins may not be able to sustain these newly added costs, leading to services being discontinued and these individuals and businesses being financially excluded (Durner and Shetret 2015).

#### 5.4.3. Rising Fines and Penalties

The imposition of significant fines and penalties on banks and financial institutions for noncompliance with and breaches of AML/CFT requirements is another main driver of derisking (Haley 2018). Fines and penalties may also be issued if there are deficiencies in AML/CFT compliance and if sanctions are violated (Durner and Shetret 2015). Table 1, depicted below, taken from Haley (2018, p. 5), shows some examples of fines and penalties that were imposed on international banks for noncompliance.

After the end of the 2008 global financial crisis, regulators worldwide started facing increasing pressures to hold organisations accountable for misconduct (English and Hammond 2014). Nevertheless, such regulators have stipulated that the imposition of substantial fines and enforcement actions is only for the most egregious and sustained offenders (Durner and Shetret 2015).


**Table 1.** Fines and penalties imposed for noncompliance.

Source: author's compilation.

#### 5.4.4. Declining Customer Profitability

Low profitability of certain customer bases is another factor which drives derisking. Indeed, there are some cases where "it is simply not worth the hassle and costs" (Durner and Shetret 2015, p. 17) to engage with a particular customer base. If the profitability associated with a specific customer base does not compensate for the higher risk, the additional costs that must be incurred and the further AML/CFT controls that must be implemented, the customer base is derisked (Durner and Shetret 2015).

Customer profitability is also important when it comes to assessing CBRs. Nowadays, banks and other financial institutions engage in a practice known as Know your Customer's Customer (KYCC), which means that the responsibility of banks and other financial institutions is not only limited to their customers but also the customers of their customers (Durner and Shetret 2015).

Since KYCC represents an additional risk for banks and other financial institutions engaging in CBRs (especially in high-risk jurisdictions) and is considered as being a costly and rigorous process, such banks and other financial institutions often resort to derisking (Durner and Shetret 2015).

#### *J. Risk Financial Manag.* **2020**, *13*, 216

Given the fact that KYCC is a highly intensive and expensive process, banks and other financial institutions may decide that the risk involved is not worth the reward with regards to certain high-risk customer bases. If this is the case, the subsequent closure of the bank accounts of these clients represents a clear market failure, especially considering the financial inclusion benefits derived if these sectors continue being serviced (Durner and Shetret 2015).

#### 5.4.5. Reputational Concerns

The consequences of noncompliance are not only limited to fines and penalties. Other types of enforcement actions, e.g., limitations, when it comes to the provision of certain services can also result in the organisation incurring high financial costs (English and Hammond 2014).

Certain enforcement actions can lead to a bank incurring reputational damage, and this can have devastating effects. As regulatory scrutiny continues to increase, so do the chances of banks being found guilty of noncompliance with AML/CFT procedures and sanctions. Often, there is an element of uncertainty and concern regarding the bank's ability to survive the enforcement action. This can have an adverse effect on the relationship that such a bank has with investors, meaning that the share price may be impacted (Durner and Shetret 2015).

Since banks provide crucial services to vulnerable communities, this implies that the derisking of such communities can have negative ramifications when it comes to public relations (Durner and Shetret 2015). Therefore, the continued servicing of these vulnerable communities can lead to banks obtaining "reputation returns" (Durner and Shetret 2015, p. 12).

#### 5.4.6. Higher Capital and Liquidity Requirements

A key driving factor that also influences the derisking carried out by banks and other financial institutions is the imposition of increased capital requirements and liquidity thresholds following the 2008 global financial crisis (Haley 2017).

Such higher requirements and thresholds have created an environment in which it is harder for banks to maintain profitable customer relationships, with some banks resorting to deleveraging (Artingstall et al. 2016). Moreover, many banks worldwide have opted to undertake a strategic review of their main business and functions, which has led to such banks focusing more on businesses that are the most core (FCA 2016).

### *5.5. The Factors and Implications of Derisking*

The main factors, implications, and effects of derisking, identified through various sources of the existing literature, are described below:

### 5.5.1. Shift of AML/CFT Risk and Shadow Banking Channels

When banks and other financial institutions engage in derisking, this results in a shift of AML/CFT risk. This is because if CBRs are terminated, affected clients will then have to start relying on smaller banks and credit institutions to obtain the financial services they require. The problem with this is that such smaller banks and credit institutions may not have the expertise and capacity necessary to service higher risk clients (Durner and Shetret 2015).

Some customers may have no other choice but to turn to shadow banking channels to address their financing needs (Durner and Shetret 2015). What makes these alternative channels an attractive proposition is their ease of access and low costs (Langthaler and Niño 2017). However, this does not always hold true—if these underground channels are the only way certain customers can obtain funds, this implies that such customers may have to incur higher costs to acquire finance (Durner and Shetret 2015). Moreover, these channels present a higher risk as they are not very regulated and monitored, suggesting that there is less transparency and accountability towards customers (Durner and Shetret 2015).

These aforementioned points create a regulatory paradox. This is because the introduction of stricter regulation and increased AML/CFT compliance requirements has resulted in the implementation of more derisking strategies by banks and other financial institutions, and operations are being pushed to markets that are not properly regulated and monitored (Langthaler and Niño 2017).

#### 5.5.2. Financial and Socioeconomic Implications

The worst effects of the global phenomenon of derisking are felt the most by smaller countries that typically have low volumes of crossborder transactions. Countries that are also at a high level of risk are those that have a significant dependence on remittance payments (Haley 2018).

The derisking process can lead to reduced international trade finance. At times, international banks may decide to terminate certain CBRs with smaller foreign banks and close their correspondent bank accounts. This subsequently limits the access of such foreign banks to foreign currencies. Access to foreign currencies is vital because it is necessary for international trade to be conducted and it also facilitates international investment (Durner and Shetret 2015). Therefore, if a country's access to such currencies is lowered, this leads to the whole country being debanked, adversely impacting economic growth (Durner and Shetret 2015).

According to Langthaler and Niño (2017), tourism is one of the industries that suffers the most when a country's access to foreign currencies is restricted, especially in the case of Caribbean countries. If foreign exchange services become more difficult to access, tourism flows and related investments will decrease (Langthaler and Niño 2017).

Correspondent banks provide a variety of financial services that are paramount with respect to crossborder trade. Such services include import/export credit letters, contract guarantees and discounting. If banks and other financial institutions stop providing these services, this will have an effect on the balance of payments of many countries since small and medium-sized exporters will be less able to engage in trade (Langthaler and Niño 2017). The termination of services provided by banks has the largest negative impact on small and medium-sized firms in poor countries (IFC 2017).

#### 5.5.3. Increased Financial Exclusion

The implementation of a derisking strategy not only increases financial exclusion but also negatively impacts financial inclusion (Durner and Shetret 2015) and puts the world's financial integrity at risk (Babe 2017). Since financial inclusion and financial integrity complement each other, it is paramount that goals related to financial inclusion are met so that risks are mitigated in an effective manner and, more importantly, financial crimes can be combatted (World Bank 2016).

If a country or existing banked population is derisked, this means that the access of such country or existing banked population to financial services becomes curtailed (Durner and Shetret 2015). Therefore, poverty will increase, and there will be greater inequality when it comes to income (Demirgüç-Kunt and Klapper 2013). In fact, according to authors such as McLean et al. (2018), Erbenova et al. (2016), Starnes et al. (2017), and MacDonald (2019), such derisking and, particularly, the severing of CBRs also negatively impact initiatives that are primarily aimed at alleviating poverty and inequality. This is because derisking disrupts remittance flows. Additionally, people who have access to savings and credit mechanisms are in a better position to cope with economic shocks and smoothen their income (Durner and Shetret 2015).

Durner and Shetret (2015) stated that the barriers of financial inclusion include "a lack of financial literacy, low income and erratic cash flows, and high transportation and opportunity costs" (p. 21). The lack of availability of financial services is particularly detrimental in the case of developing countries, especially if there are impoverished and marginalised communities involved. Without access to crucial financial services, people are not able to purchase essential goods, pay for education or medical care and remit funds abroad (Taylor 2016).

The disruptions in global remittance flows caused by derisking is an issue of a humanitarian concern (Durner and Shetret 2015). Somalia is an example of a country that is heavily reliant on remittances—over 40% of Somali people rely on such flows (Paul et al. 2015). A decrease in remittance flows has a major impact on the country and its most vulnerable communities (Orozco and Yansura 2013). Without such remittance flows, families would not have enough funds to pay for food, housing, education and health care (Gutale 2015).

Derisking is often perceived as being a market failure as it may adversely affect financial inclusion goals. The implementation of a derisking strategy may lead to affected clients having to rely on smaller financial institutions that do not always have sufficient resources and AML/CFT capacity to minimise the impact of risks involved. Additionally, in certain cases, higher risk clients may end up being completely pushed out of the financial sector (Nisar 2016).
