How SA might stay off the grey list

RYK VAN NIEKERK: There is an 85% probability that South Africa will end up on the international [Financial] Action Task Force’s or FATF’s grey list early next year because it has not done enough to implement measures to combat money laundering and the financing of terrorism. This is evident from a report by the highly regarded consultancy group Intellidex, which conducted the research on behalf of Business Leadership South Africa.

The FATF put South Africa’s measures under the magnifying glass as long ago as 2019, and found that the country does not comply with 20 of the 40 guidelines set by the FATF. It has allowed South Africa time to take the necessary steps to comply with all these guidelines, and will decide in February [2023] whether South Africa has done enough to escape being put on the list.

If South Africa is included in the list, it will mean that all transactions of companies and individuals from South Africa will be seen as high-risk transactions, triggering onerous administrative and compliance obligations, and may reduce international trade with South Africa.

Other countries on the grey list include Panama, Yemen, Barbados and Pakistan, to name a few.

Stuart Theobald is on the line, the founder of Intellidex and one of the co-authors of the report. Stuart, thanks so much for your time. How did you arrive at the 85% probability that South Africa will be placed on this list?

STUART THEOBALD: I think we looked at the 12 priority actions that FATF set out for South Africa in order for it to comply with its standard recommendations and effectiveness tests.

Now, there has been a great deal of work undertaken by government in various parts, ranging from the National Prosecuting Authority through to the Reserve Bank. This has been a project that touches on many departments, elements of the criminal justice system, various supervisors and so on. So it really is a big, multifaceted task. We looked through all of the priority actions to assess how successful [South Africa] has been in delivering on those actions.

Now, there have been good successes and there are some areas where we have delivered, where I think FATF will be satisfied. But there are some areas that are very difficult, and other areas that are in between those.

So there are 12 priority actions that South Africa is meant to undertake.

We think we’re fully compliant in two of those. We think there’s another seven in which we have made some progress, and it’s a subjective call on whether FATF will accept the level of progress, but we think there are three areas where we’re quite far from meeting the bar, and we’re not going to, within the timetable, be able to meet it.

When we look at how likely or successful we’ll be at making the case for FATF that we’ve made sufficient progress, our view is that there is a possibility. So it’s not a 0% probability. There is a pathway open to us that could convince FATF, but it’s a narrow pathway.

It’s a bit like aiming for the final of the World Cup, but you have to achieve a few miracles in the intervening rounds, and I think that’s where we are at the moment.

It leaves us feeling that an 85% probability is the level as we see it at the moment.

RYK VAN NIEKERK: What are those three critical shortcomings we have not addressed that you are so concerned about?

STUART THEOBALD: Let me start with non-financial accountable institutions.

We hear a lot about banks and the requirements on them to tackle money laundering and terrorist financing, but FATF specifies that we should also be concerned about non-financial institutions like real estate agents, attorney firms, casinos, Krugerrand dealers.

They all are in the position of handling large amounts of money, and potentially facilitating money laundering into the formal economy. So there’s significant concern about them.

Now, the issue is how exactly do you supervise and regulate the money laundering requirements of those institutions?

The decision that the government took was that the Financial Intelligence Centre needs to extend its jurisdiction and supervision to include those kinds of organisations. Now, the legislation to enable that is currently before parliament as part of the omnibus General Laws Amendment Bill, which amends many laws to bring us in line with FATF requirements.

But there has not yet been any progress in enabling the Financial Intelligence Centre to undertake that work, and we think they’re going to have to double their staff; they are sitting at 50 to 60 people at the moment.

There are going to need to be equivalent budget changes; that work is some years in the doing and we just haven’t made the progress we need to.

A second area concerns the DPCI [Directorate for Priority Crime Investigation], the Hawks, the main priority crime investigative unit of the police. Now FATF is concerned that, when South Africa does investigate money laundering, it tends to be on some other predicate [component of a larger] crime. In other words, there might be corruption or fraud and money laundering is incidental, because the proceeds of that crime have to be laundered.

There’s considerable concern that South Africa might be used by professional money launderers, so there’s no crime involved other than money laundering itself.

You could imagine international criminal syndicates would send money to South Africa, it is laundered into the formal system in South Africa – and so on. At the moment the police have not recognised money laundering itself as a crime to investigate, and don’t really have the capacity to do so.

FATF recommended that the Hawks need to employ forensic investigators and accountants and create that capacity. At the moment there’s been very little action to do that. It’s a very scarce skillset in South Africa and very difficult to build those skills, and we think that it’s going to take some time for the police to comply with that.

The third area is about beneficial owners. FATF is concerned that in the case of companies and in the case of trusts there isn’t information available about who the ultimate beneficiaries are. This is information available to law enforcement, but also to the general public who ultimately benefits from companies or trusts.

Now the legislation, as well, is being developed to enable the Companies and Intellectual Property Commission, CIPC, to capture that information as well as the Masters’ Offices of the High Court – they oversee trusts. The CIPC has begun gearing up to be able to capture that information, but the Masters’ Offices are far more difficult. There is some level of disarray in different Masters’ Offices.

The record-keeping around trusts has been a problem for quite some time, and we just don’t think we’re going to manage to get it together to be able to demonstrate that we are capturing that beneficial information.

I think on top of those three things, Ryk, yesterday the parliamentary hearings were held on the omnibus bill. This is the bill that amends five different pieces of legislation to ensure that South Africa comes into line on most of the technical requirements that FATF expects. And one of the tricky areas on NGOs, on non-profit organisations, is that FATF wants non-profits to be registered, and [for it] to know who controls them.

Now there is concern that internationally charitable structures have been used as channels for terrorist financing, so it’s a reasonable concern. But this has become quite an obstacle to the progress of that legislation, and there’s significant civil society concern about requirements to register non-profits. That element has really emerged subsequent to our report, and is another concerning obstacle to reach compliance.

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RYK VAN NIEKERK: Yes, the JSE has also complained that it would put very onerous requirements or amendments on their listing requirements because of the beneficial-ownership expectations or guidelines. But there are [no] short-term solutions to these problems, you know, to increase the capacity of the prosecuting authorities for example, and to fix the Deeds Office. It could take years for that to happen.

STUART THEOBALD: Yes, that’s precisely the issue. These are complex problems. But we have seen other countries manage to do it. I think, as a case study for instance, Mauritius was greylisted in the beginning of 2020, and was able to rally together to address FATF concerns and exit the grey list in 20 months.

Read: Greylisting could work for SA

That took a great deal of political will to achieve and, you’re quite right, these are complex issues in many areas of government and they require significant resource mobilisation. So political will is really a key ingredient for us to confront and deal with these risks.

RYK VAN NIEKERK: There is political will, but we’ve known about these issues for several years and there weren’t immediate actions taken to remedy the situation. It seems like it’s a ‘last-minute.com’ reaction again, and that’s very typically South African.

STUART THEOBALD: It might be too little too late, but I don’t think that it’s wasted. It’s very important that South Africa is seen to be making a great deal of effort to comply, even if we are greylisted.

The consequence of greylisting will depend substantially on how the rest of the world perceives South Africa to be responding to the grey list. If we’re on the front foot, that we are actively tackling the points that FATF makes about South Africa, [and] that there is considerable political will to meeting FATF requirements, then the consequences for South Africa will be relatively benign.

Other institutions will take the view that it’s a temporary issue, and that it’s worth sticking with South African counterparts in the meantime.

So it’s still very important, even at this stage, that there is considerable political action and effort to address FATF; that’s going to mean that the consequences are lessened.

So I think it’s important to continue to encourage [the authorities] that political will is going to be very important [and], if greylisting does happen, that we come out and tell the world that we’re taking it very seriously and that we’re very actively addressing the issues in order to restore our reputation and try and maintain trust from the rest of the world that we are a reliable counterparty.

RYK VAN NIEKERK: What could the economic impact be if we are indeed included on that list?

STUART THEOBALD: Look, it’s difficult to [express] definitive views on the economic impact, because South Africa’s quite different from countries that have been greylisted in the past. There’ve been about 89 countries that have entered or exited the grey list over the past 20 years, but most of them are very different from us. They’re small economies with very unsophisticated financial sectors.

We’re not the biggest economy to be greylisted – Turkey, Pakistan, the Philippines are all bigger – but we are probably the most sophisticated financial sector when you look at the size of our capital markets, and the level of foreign investment flows into our borders.

So there’s no playbook for how a country with our level of capital market development will be affected.

Generally greylisting has the practical consequence of requiring banks and other offshore institutions to apply enhanced due diligence to South African exposures. That means they need to be far more careful in assessing the source of funds and assessing the systems and processes of South African counterparts to satisfy themselves that it’s a low risk for money laundering or other criminal activity.

That enhanced due diligence adds transaction costs; you might find foreign counterparts will consider it not worth the expense or the compliance risk of dealing with South African firms.

And generally, for countries that have weak financial systems, that means it’s quite consequential, because they tend to rely on direct bank relationships and direct kind of bilateral funding for their foreign investment.

But in South Africa’s case we have significant capital markets, so the debt and stock market have a great deal of foreign participation, and those flows are unlikely to be affected by FATF greylisting.

So in South Africa’s case that suggests that we will be less affected than other kinds of economies, but it really does depend on the reputational impact and how the rest of the world perceives South Africa to be dealing with greylisting.

If we’re perceived to be very active and addressing it, and in the process of exiting the grey list, then counterparts will continue to trade with South Africa.

If we’re not, there’ll be far worse consequences and people will decide that it’s not worth the effort.

RYK VAN NIEKERK: Stuart, thanks for your time. That was Stuart Theobald, the founder of Intellidex.