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Regulators focus on ESG criteria in the fight against financial crime

As governments around the globe respond with their commitments to fight financial crime, regulators are focusing on environmental, social and governance (ESG) criteria. With low levels of awareness of these criteria, banks and obligated entities in MENA (Middle East and North Africa) need to integrate relevant considerations into their due diligence processes.

  1. Over the past two decades, the financial importance of ESG criteria has steadily increased and now regulators are paying closer attention to it when formulating responses to combat financial crime.
  2. A survey by Refinitiv reveals low levels of awareness of ESG criteria in MENA. This leads to a heightened risk, and makes it an area of vulnerability.
  3. To align with an anticipated shift in focus by regulators, banks and obligated entities should integrate environmental crime and wildlife trafficking checks into their due diligence process.

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In recent months, there has been a shift in regulatory focus in terms of financial crime as governments respond to international commitments. Regulators are taking a closer look at the impact of environmental, social and governance (ESG) criteria and formulating policy to counteract any adverse effect.

Awareness of the financial implications of ESG factors has grown steadily since 2004. The term was first used that year by the UN Global Compact in an initiative to promote the integration of environmental, social and governance value drivers into financial investment. Initial resistance to the concept was understandable as ESG issues were often viewed as intangible, difficult to measure, and too vague to affect financial statements, but growing evidence of financial implications has, however, weakened the strictly financial reporting argument considerably.

Read the report: Financial Crime in the Middle East and North Africa 2021 Report Highlights

The impact of ESG on regulatory risk

As the value of ESG in financial statements is increasingly understood and accepted, and sources of information have increased, there is also a better understanding of the contribution of certain ESG crimes to illicit financial flows.

There is increasing public pressure and urgency to tackle specific ESG issues, such as the illegal wildlife trade. The potential extinction of entire species due to uncontrolled poaching is unconscionable, and species loss and environmental damage also threaten the safety and security of vulnerable communities. A highly charged and emotive subject, it tends to inflame headlines and attract widespread condemnation, yet remains an incredibly thorny and complicated problem to solve. The payoff for the risk involved in extracting animal products like tusk and fin is immense. Regulators are gaining an understanding of how this trade in animal parts has the potential to transfer substantial value around the world without detection and create value for designated terror groups.

The Financial Action Task Force (FATF), the intergovernmental watchdog charged with setting standards for the international community, recently released two influential reports on ESG standards: Money Laundering from the Illegal Wildlife Trade in 2020 and Money Laundering from Environmental Crime in 2021.

Change in scope in fight against financial crime

This research signals a change in scope in terms of financial crime, and we expect regulatory updates and new regulations to expand and incorporate ESG criteria quickly.

We see an early example of this in the EU’s Sixth Anti-Money Laundering Directive (6AMLD), launched in June 2021.

The 6AMLD aims to harmonise the definition of predicate offences against money laundering by all member states, and these predicate offences for money laundering now includes cyber and environmental crime.

Any business with an interest in the EU market place should be able to report any association with ESG factors when engaging with EU-based business partners, customers and vendors. Regulation with a similar focus will continue to come online.

Low levels of awareness

According to the results of a recent survey we ran across the MENA region, available in our Financial Crime in MENA report 2021, awareness levels of the need to include ESG criteria in reporting are low:

  • Fewer than a quarter (24 percent) say they have a drugs/arms trafficking programme
  • 19 percent have a modern slavery/human trafficking programme
  • 12 percent have an anti-wildlife trafficking programme

Awareness levels of the need to include ESG criteria in reporting are low. Regulators focus on ESG criteria in fight against financial crime

A lack of awareness or understanding of the importance of ESG criteria represents a heightened risk and is an area of vulnerability.

We also do not see many plans to increase a focus on ESG criteria. When asked what their focus was if compliance activity were to increase over the next two years only 6 percent chose ESG practices.

The call for ESG information is a trend that will continue to expand. Banks and other obligated entities should prepare to integrate environmental crime and wildlife trafficking checks as part of their due diligence process.

There has been a sudden growth in ESG data and information sources, and it is essential to understand the integrity and credibility of the information. Risk and compliance functions are advised to begin researching and understanding the intelligence requirements.

Read the report: Financial Crime in the Middle East and North Africa 2021 Report Highlights