EXPLAINER: How did South Africa end up on the grey list?

What is the FATF?

The Financial Action Task Force (FATF) is an intergovernmental organisation that was established in 1989 to combat money laundering and the financing of terrorism.

The FATF was founded by the Group of Seven (G7) countries: Canada, France, Germany, Italy, Japan, the United Kingdom, and the United States. Since then, the organisation has grown to include 39 member countries, along with several observer organisations, including the International Monetary Fund. The 39 members account for more than 90% of global GDP.

South Africa, which joined the FATF in 2003, is the only country in Africa to be a full member of the organisation.

South Africa has been involved in the development of international anti-money laundering (AML) and counter-the-financing-of-terrorism (CFT) standards and has contributed to the FATF’s work in the regulation of virtual assets.

There are FATF-style regional bodies that are associate members of the organisation. Several African countries are members of these regional bodies: the Eastern and Southern Africa Anti-Money Laundering Group and the Middle East and North Africa Financial Action Task Force. These regional bodies work closely with the FATF to promote the implementation of AML/CFT measures in their respective regions and to facilitate co-operation among member countries.

Via a network of regional bodies around the world, more than 200 jurisdictions have committed to the FATF’s Recommendations.

What is the FATF’s grey list?

The FATF’s grey list, officially the “List of jurisdictions under increased monitoring”, is a list of countries that are deemed to have deficiencies in their AML/CFT systems and are considered to pose a risk to the international financial system.

When a country is placed on the grey list, it means the FATF has identified certain weaknesses or shortcomings in its framework. These deficiencies could include inadequate laws or regulations, insufficient enforcement measures, or a lack of co-operation with other countries on AML/CFT issues.

Being on the grey list does not necessarily mean that a country is a haven for money laundering or terrorist financing. Instead, it is a signal to the international community that the country needs to take steps to improve its AML/CFT framework and to work with other countries to combat financial crime.

Countries on the grey list face increased scrutiny and pressure to take action to address the deficiencies in their AML/CFT systems. The FATF may also impose certain restrictions or requirements on financial transactions involving the country, such as requiring enhanced due diligence measures by financial institutions.

Currently, 24 countries are now on the FATF’s grey list: Albania, Barbados, Burkina Faso, Cayman Islands, Democratic Republic of the Congo, Gibraltar, Haiti, Jamaica, Jordan, Mali, Morocco, Mozambique, Nigeria, Panama, Philippines, Senegal, South Africa, South Sudan, Syria, Tanzania, Turkey, Uganda, United Arab Emirates, and Yemen. (South Africa and Turkey are the only FATF members on the list.)

Cambodia, Mauritius, Morocco, Nicaragua, and Pakistan were recently removed from the grey list after demonstrating a sufficient commitment to compliance.

The grey list is distinct from the FATF’s black list, officially “High-risk jurisdictions subject to a call for action”. This is a list of countries that are considered to have serious deficiencies in their AML/CFT systems and to pose a significant risk to the international financial system.

The FATF has three countries on its black list: the Democratic People’s Republic of Korea (North Korea), Iran, and Myanmar.

What does the FATF do?

The primary function of the FATF is to develop and promote international standards for AML and CFT measures. The organisation works to co-ordinate the efforts of its member countries in these areas, and to encourage countries to adopt and implement the FATF’s AML/CFT standards.

One of the key tools used by the FATF is a series of recommendations, known as the FATF Recommendations, of which there are 40. These recommendations set out the basic framework for AML/CFT measures, including customer due diligence, record-keeping, reporting suspicious transactions, and international co-operation.

What is a mutual evaluation?

The FATF heavily relies on mutual evaluations to assess a country’s level of compliance with its Recommendations. Mutual evaluations are peer reviews, where members from different countries assess another country. The examined nation is required to demonstrate that it has an effective framework to protect the financial system from abuse.

The mutual evaluation process is not designed to “pass” or “fail” countries, but to assess the effectiveness of a country’s AML/CFT framework and to provide recommendations for improvement.

Since joining the FATF, South Africa has undergone several mutual evaluations to assess its compliance with the organisation’s AML/CFT standards.

The most recent evaluation was conducted in November 2019, and the mutual evaluation report was adopted in October 2021 – the delay was due to the Covid-19 pandemic.

How did the FATF rate South Africa?

When the FATF performed its mutual evaluation of South Africa in November 2019, only 21 months had passed since had Jacob Zuma resigned as president. “It was too soon for those conducting the peer review to come to any other conclusion, but that South Africa has a serious corruption problem,” Allan Gray portfolio manager Sandy McGregor wrote in the asset manager’s fourth-quarter 2022 Quarterly Commentary.

The FATF gave South Africa a poor ratings assessment:

• Technical compliance: Half (20) South Africa’s technical compliance rating was “partially compliant” or “non-compliant”. Technical compliance refers to the extent to which the laws and regulations of a country match the 40 Recommendations.
• Effectiveness assessment (immediate outcomes), which assess a country’s implementation and effectiveness of its AML/CFT regime: South Africa was found to be critically weak on all 11 effectiveness measures, with eight assessed as “moderate” (achieved to some extent; major improvements needed), and three as “low” (not achieved or achieved to a negligible extent).

Some of the key weaknesses identified in the report were:

• Inadequate implementation of AML/CFT measures in some sectors, particularly non-bank financial institutions, such as money remitters and informal value transfer systems.
• Weaknesses in the supervision of certain financial institutions and designated non-financial businesses and professions, particularly in relation to the implementation of AML/CFT measures and the reporting of suspicious transactions.
• Limited use of financial intelligence for operational purposes by law enforcement agencies, including weaknesses in the use of suspicious transaction reports and the low number of investigations and prosecutions related to money laundering and terrorism financing.
• Insufficient resources and capacity in some areas, particularly the judiciary and law enforcement agencies.
• Lack of co-ordination and co-operation among government agencies involved in AML/CFT efforts.

What did South Africa do in an attempt to avert grey-listing?

There is a view that the government did not treat the mutual evaluation as seriously as it should have.

“The political leadership failed to appreciate the complexities involved in responding to the report within the given time-frame – ahead of the meeting scheduled to review the matter in February 2023. Only after leaders of the banking industry went public with their concerns were the National Treasury and police ministry given the support needed to introduce appropriate amendments to legislation,” according to McGregor.

In 2022, the government fast-tracked legislative reforms through Parliament to increase the breadth and depth of the country’s regulatory frameworks. These reforms included:

• The enactment of the General Laws (Anti-Money Laundering and Counter-Terrorist Financing) Amendment Act, which amends five pieces of legislation, to address technical deficiencies highlighted in the FATF’s evaluation. These amendments include enhanced procedures and powers for regulatory authorities and improved access to information in relation to ultimate beneficial owners.
• Widening the scope of the application of regulatory requirements around anti-money laundering through amendments to the Financial Intelligence Centre Act (Fica), making new entities subject to the Act. This included bringing higher-risk entities such as virtual asset service providers and money transfer providers into the scope of accountable institutions under Fica.
• Regulatory bodies such as the Prudential Authority and FSCA working with the banks and non-bank financial institutions to enhance the application of the FATF’s risk-based methodologies to confront areas of concern.
• The enactment of the Protection of Constitutional Democracy against Terrorist and Related Activities Amendment Act, which addresses shortcomings linked to terrorist financing.

So, what was the problem?

It is widely acknowledged that South Africa’s Achilles’ heel is the lack of effective enforcement of its AML/CFT laws.

Busi Mavuso, the chief executive of Business Leadership South Africa, said the country’s commercial crime investigation and prosecution collapsed during the period of “state capture”. South Africa is facing the consequences for its failure to implement effective prosecutions for crimes, such as money laundering and terrorist financing.

The head of the Financial Intelligence Centre (FIC), which plays a major role in supervising and enforcing the country’s AML/CTF regime, is of the same view.

In an interview with Business Times in October 2022, Advocate Xolisile Khanyile said South Africa had come a long way since the mutual evaluation in 2019. However, she did not believe the country would be able to prove to the FATF that it has enacted the necessary laws and that it was effective in implementing them.

“We have failed to deal with corruption and state capture. We’ve failed to even recover the assets that are the proceeds of crime and that have left the country due to state capture,” Khanyile was quoted as saying.

She said although the National Prosecuting Agency’s investigative directorate was starting to bring people to court, and collaboration between different law-enforcement entities was improving, they were still badly under-capacitated.

“You need prosecutors who work closely with the FIC so that when we send them reports, they’re able to convert those reports into an investigation.

“These are things we should have prioritised years ago: to have financial investigators, financial analysts, data specialists, forensic accounting skills, investigators who understand how cyber criminals operate.”

Although there was “at least now the political will to beef up the NPA and the Hawks with the right skills”, improvements have been too little and too late.

McGregor said that three years after the mutual evaluation, progress in the war against corruption has been meagre.

“Eskom and Transnet are being held hostage by mafia-like organisations who wish to benefit from extortionate procurement agreements. Construction companies are prevented from operating by extortion rackets, and the mining industry is under constant attack. The police seem to be visibly absent. Procurement scandals in local government remain endemic,” he said.

McGregor said the FATF’s guidance on best practice states it “attaches great importance to the fight against corruption: corruption has the potential to bring catastrophic harm to economic development, the fight against organised crime and respect for the law and effective governance”.

It goes on to say that “corruption and money-laundering are intrinsically linked. Corruption offences such as bribery or theft of public funds are generally committed for the purpose of obtaining private gain.”

The terrorism financing factor

The weakness of the country’s law enforcement institutions is a serious problem. However, perhaps South Africa’s biggest vulnerability is the financing of terrorism, which is how Turkey ended up on the grey list, McGregor said.

The mutual evaluation report notes that given South Africa’s role as a financial hub in Africa, it is probable that it is a source of finance for terrorist activities. The US, which monitors terrorist activities globally, believes South Africa has become a conduit for the financing of terrorism, especially in Africa.

“The FATF finds it surprising that, in the past decade, South Africa has achieved only one successful antiterrorism prosecution. While South Africa responds positively to requests for assistance in terrorism investigations, it does so with lengthy delays,” McGregor said.