Drug Money and Bank Lending: The Unintended Consequences of Anti-Money Laundering Policies

This paper documents a hidden cost of anti-money laundering policies. We show that a policy implemented in Colombia reduced bank deposits in high intensity drug trafficking areas, causing banks that source deposits from these areas to cut lending in other areas, negatively impacting employment and number of firms. Additionally, using a proprietary database on bank-firm relationships, we show that small firms that rely on affected banks experience a negative shock to sales, investment, and profitability. Last, we use night lights data to show that these results are not due to a reallocation of activity across firms or to a move to the informal economy.