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S outh African President Cyril Ramaphosa submitted his official response to the State Capture Commission Report on 23 October. In his remarks, he noted the wide-ranging institutional and infrastructural damage caused by rampant corruption and misappropriation of public funds in recent times. The Judicial Commission of Inquiry into Allegations of State Capture, Corruption and Fraud in the Public Sector was launched in August 2018 and heard testimonies from over 300 witnesses ranging from public servants, journalists, researchers and members of the private sector. The commission recommended over 150 criminal or other investigations and a slew of regulatory amendments. The timing of Ramaphosa’s response came as the country neared a deadline set to impact its business landscape and trigger a substantial transformation of the country’s regulatory environment.

In October 2021, the Financial Action Task Force (FATF) published a mutual evaluation of South Africa’s anti-money laundering (AML) and counter-terrorism financing (CTF) measures. FAFT is an independent inter-governmental organisation that monitors its members’ compliance with anti-money laundering and combatting terrorism financing policies that it develops to protect the global financial system. It conducts regular peer reviews to assess members’ implementation and compliance of the FATF Recommendations. Following its assessment of South Africa’s AML/CTF standards in 2021, the FAFT found that although South Africa had made “good progress” since its last evaluation in 2003, it was either partially compliant or noncompliant with 20 of FATF’s 40 recommendations.

The FAFT’s assessment revealed that South Africa had ineffective or low/moderately effective AML/CTF laws and policies; under-resourced and poorly skilled law enforcement agencies, specifically in money laundering and terrorist financing cases; and questionable prosecutorial capabilities. The FAFT gave South Africa until 31 October to demonstrate meaningful progress or being placed on the FAFT’s Grey List, which includes countries at high risk when it comes to money laundering and financing terrorism. If placed on the list, South Africa will join Albania, Haiti, Syria and Yemen on the Grey List – weakening the country’s access to the global financial system, increasing the risk of a sovereign downgrade and causing significant reputational damage.

The signal and the noise

Ramaphosa’s bold commitment to “build and rebuild the capacity and capability of law enforcement agencies to respond effectively to the findings and recommendations of the State Capture Commission” is long-awaited but unlikely to prevent South Africa’s grey listing. There are no quick fixes to legislative, regulatory and judicial shortcomings highlighted by the FAFT. The legislature has made some progress on enacting several amendments that will ensure South Africa’s compliance with the FAFT’s recommendations. A cursory look at the proceedings before parliament as at 21 October indicates that progress is slow particularly on key legislation such as the General Laws (Anti-Money Laundering and Combating Terrorism Financing) Amendment Bill and Protection of Constitutional Democracy Against Terrorist and Related Activities Amendment Bill. Other key amendments such as those to the Financial Intelligence Centre Act, which creates the framework for helping to identify the proceeds of unlawful activities; combat money laundering; and combat terrorist financing, have yet to be introduced to the National Assembly.

South African President Cyril Ramaphosa delivers the Presidency Budget Vote speech, in the South African Parliament in Cape Town, June 09, 2022. Image sourced from: VOA News

Making progress on the judicial front may be the most challenging aspect of these reforms. The main authorities that aid in the prosecution of AML/CTF activities – the police, South African Revenue Services, Hawks, National Prosecuting Authority (NPA), and Financial Intelligence Centre – are ill-equipped to effectively tackle the bevy of financial crimes in the public and private sector. Institutional capacity in these state organs has been slowly eroded over time, which has left South Africa vulnerable to AML/CTF threats. The NPA and Hawks have made a concerted effort to recruit and retain forensic accountants and investigators. However, it will take time to build internal capacity and develop the requisite skillset to support thorough investigations and ensure that the quality and efficacy of prosecutions matches the complexity of money laundering and terrorist financing crimes within South Africa’s borders.

Weathering the storm

The FAFT concluded its visit to South Africa at the end of October. The purpose of the visit was to assess what progress has been made on combatting money laundering and terrorism financing and if South Africa has a credible plan to address the FAFT’s areas of concern. The FAFT will put South Africa on its Grey List in February 2023 if it determines that insufficient effort has been made. Inclusion on the Grey List has immediate consequences for the local financial services industry, banking customers and investors.

Implications of South Africa’s Grey Listing

Individuals and private companies Local financial institutions Country Foreign investors
More forensic assessment of source of funds and probity Increased transaction costs for cross-border payments, impacting imports and exports

 

Potential negative economic impact of up to 4% of GDP Disinvesting/reconsidering investments due to increased compliance burden of doing business with South African individuals and companies

 

Enhanced due diligence including increased frequency in AML/CTF risk assessments Higher administration and funding costs Bilateral funding arrangements e.g. Just Energy Transition Partnership (JETP) subject to enhanced due diligence, further complicating access to financing Reputational damage sours investor sentiment places a drag on foreign direct investment
Likely placed in “high risk” category at European and U.K. financial institutions Correspondent banking relationships negatively affected; possible transaction restrictions from Western countries Potential downgrade in investment grade ratings

While speaking at an event in Cape Town in August, South Africa Reserve Bank (SARB) Governor Lesetja Kganyago issued a stark warning: “We have got to be able to treat this with urgency and demonstrate significant progress so that we could actually prevent a grey listing, or if we should be grey listed we can come off that grey list within 12 months.” There is widespread resignation that the grey listing is highly likely but the government and the private sector have a strong incentive to make the necessary reforms.

Two regional neighbours were recently on the FAFT Grey List but successfully implemented reforms and are now in the clear. Botswana took three years to move off the FAFT Grey List. During that time, it was placed on the EU’s list of non-cooperative jurisdictions and the UK’s high risk country list. Other consequences included an inability of its asset managers to transact directly with pension funds containing an offshore portfolio and delays to the government’s economic diversification plans.

Mauritius was grey listed in February 2020 and managed to get off the list by October 2021. It was placed on the EU’s blacklist and the UK’s list of high risk third countries. A thriving, globally connecting banking sector is a lynchpin of the Mauritian economy; the greylisting damaged the country’s reputation, caused transaction delays and negatively impacted trade. Mauritius has pertinent lessons for South Africa because it grappled with similar anti-AML/CTF shortcomings including disclosure of beneficial ownership and limited oversight of non-profit organisations that may be facilitating terrorist financing.

A defining feature of its swift removal from the FAFT Grey List is the close collaboration between the government and the private sector. The government did its part by bolstering existing AML/CTF legislation and regulatory frameworks and the private sector ensured efficient compliance and implementation. Regulators across a range of sectors sensitised and trained their respective stakeholders to ensure understanding and compliance. Working in concert towards a set of clear and common goals not only ensured that the FAFT’s recommendations were implemented quickly, it also gave the FAFT confidence in the country’s intent and ability to strengthening the global financial system.

Cloudy outlook

South Africa may not be able to match Mauritius’ short stay on the Grey List but it has created momentum, which if accelerated, could get it off the list within four years. Passing amendments to Schedules 1, 2 and 3 of the Financial Intelligence Centre Act 2001 (FICA) would send a strong signal to FAFT that South Africa is committed to making reforms. FICA places several obligations on “accountable institutions” to conduct customer due diligence, keep a record of client information and transaction records, adhere to cash threshold reporting obligations and provide ongoing training to employees. The proposed amendments widen FICA’s scope and places additional obligations on businesses that could be exploited by money launderers and financiers of terrorist activities. Parliamentarians in June argued that due process needs to be followed and they should not be rushed to pass the FICA amendments but time is running out.

Ramaphosa, with support from the government and private sector, effectively has until late 2023 to push through the reforms highlighted by the FAFT. The reality is that election campaigning and intra-party squabbles will start to take precedence towards the end of 2023 as politicians prepare for the next general election in 2024. If the AML/CTF reforms slip too far down the list of priorities, South Africa’s economy will be locked in a death spiral that will take years to exit and further erode public trust in the government of the day.