‘A Jury of our Peers’: How External Scrutiny Benefits International Finance Centres

By Marcus Killick, CEO - Gibraltar Financial Services Commission (01/03/2013)

We have come a long way since the horse trading in the Financial Action Task Force (FATF) produced their first list in 2000 of Non Cooperative Countries and Territories (NCCTs) with respect to the fight against money laundering.  This list contained 15 jurisdictions, 11 of which could be regarded as international finance centres (IFCs).  Criticised for being quantative first, qualitative second. It nevertheless resulted in those centres making, in some case significant, changes to remove themselves from the list. Eventually they all did so successfully. 

Today the latest members of the list (no longer called NCCTs[1]) identifies 25 jurisdictions with strategic AML/CFT deficiencies of which there are four whom the FATF does not consider are making sufficient progress[2]. None of these are major IFCs and only a couple would fall within even a loose definition of an international finance centre.

Even the original FATF list was better than the first effort by the then Financial Stability Forum whose report on Offshore Finance Centres in 2000 produced three categories of centres based on little more than external perception or, as some might say, external prejudice.

Yet when it came to actual detailed reviewing, the leading international centres fared far better. The Edwards Review of the Crown Dependencies, the KPMG Review of the British Overseas Territories in the Caribbean and Bermuda and the IMF reviews all made important recommendations but all found that the quality of regulation and supervision in the leading centres as being as good as, and in some areas better than, their ‘onshore’ peers.

External scrutiny is very much part of the world of the IFC as so it should be. IFCs play a very significant part in the world’s economy. As such they could be a cause of systemic risk (though they have never actually caused a systemic issue in practice).  They still unnerve many and occasional problems, inevitable in any finance centre, seem to be magnified when it comes to an IFC. No IFC would have survived the problems the City of London has faced with its banking industry over the last few years.  If the Libor scandal had occurred in the Cayman Islands it would now have ceased to exist as a finance centre. If the misselling of Payment Protection Insurance (PPI) had emanated in the Channel Islands, consumer markets would have been closed to them.

So IFCs live under the microscope. Yet our petri dish has become much more crowded of late.  International standard setting bodies such as the International Organisation of Securities Commissions (IOSCO) and the International Association of Insurance Supervisors (IAIS) have now established Mutual Memoranda of Understanding (MMOUs) to facilitate and ensure global cooperation between regulators. To become a signatory of these MMOUs, regulators must demonstrate they have the necessary tools to be able to provide such cooperation in practice. Over time those who lack such capability or who fail to exercise it in their cooperation will be penalised. Ultimately this may end in their suspension or expulsion from the relevant standard setter with the reputational damage that would accompany such a decision.  

What is different about this phase of scrutiny is that it doesn’t discriminate between centres. All are subject to the same scrutiny. Gone is the need for tautologous, trite or wholly self-serving definitions of what an IFC is.  Canada is treated the same way as the Cayman Islands, Guernsey the same way as Germany.

Outside the area of financial regulation the work of the OECD and the signing of Tax Information Exchange Agreement (TIEAs) accelerate the process of reducing the concern that IFCs continue to be used for the hiding of the proceeds from tax evasion. Indeed the recent emphasis on tax avoidance structures rather than evasion shows how far this area had moved. FATCA, whether the USA original, or the potential UK and other derivations, will take the residual concern still lower. Indeed USA FATCA, as controversial as it is to some, does not single out the IFCs. Its reach is global.

The end of discrimination is to be welcomed but it comes with a price. The price is simple. To be treated as mainstream one must become mainstream. The final vestiges of secrecy, under regulation and inferior regulatory powers must be swept away with. Historically, weaker IFCs could hide in the shadow of their stronger brethren as all were being treated, or rather mistreated, together.  IFCs are finally no longer being judged as a group with the failings of one being used to condemn all.  The end of discrimination means that each centre must stand or fall on its own merits.

Inevitably there will be those who, for their own reasons will continue to vilify the role of the IFCs. Common techniques include the anachronistic use of data, portraying historic cases and figures as if they are current or relevant. Sometimes it feels akin to someone using the Great Plague as a reason not to visit London on holiday. Other tricks involve extrapolating an issue in one centre to decry them all.  However, with each external assessment their ability to do this is diminished, their polemic outbursts less potent.

So what can the IFCs do now to continue this path?

I mentioned earlier about issues or secrecy and under regulation. These clearly speak for themselves. However, there are other areas where I believe the IFCs can help the process still further.

·         Welcome external scrutiny. Now that all finance centres are being judged by the same criteria, the resistance to external scrutiny for fear it was biased or that the IFCs were being picked on should be lost. IFCs should be happy to show they have nothing to hide.

·         Engage in the process. A number of IFCs now participated in peer assessments of other jurisdictions. This both demonstrates their commitment and may help their understanding of what is expected of them themselves

·         Enhance cooperation with each other. IFCs still have much to learn from and much to contribute to other IFCs. Whilst they may compete for business they now must do so on a much more level playing field of regulatory standards. They have similar issues of limited resources and, often, similar risks. Organisations such as the Group of International Finance Centre Supervisors (GIFCS) and the Group of International Insurance Centre Supervisors (GIICS) with their memberships comprised of IFCs can play an enhanced role in this.

·         Get involved in the development of standards. This is always difficult as the resources available to spend time working with the standard setters is limited in smaller regulators, yet it is an important task.  A number of standards focus on larger centres and the particular needs of IFCs may not be taken into account if they are not there to represent their case. This may result in inappropriate or disproportionately burdensome standards being imposed. Again IFCs can cooperate to reduce the burden on individual centres and have their voice heard. Both GIFCS and GIICS have worked hard on this cooperation.  GIFCS has been particularly successful across a range of areas in this regard.

IFCs have proved to be both resilient and adaptive to change. Their fundamental role in supporting the effectiveness of the global economy remains. This role, free of the shackles of the unsavoury practices that caused so much damage in the past is a fascinating and bright one.  Mistakes will be made, some individuals and firms within the individual centres will be unwilling to change or incapable of change. For them their time in the industry is drawing to a close.  It is no different from and, in many ways easier than, the cultural shift the banks are now engaged in

Indeed perhaps it is the cultural challenge that remains the toughest test. One can comply with every rule, meet every regulation yet if there is no cultural shift, then the change will always be in danger of reverse as some seek to find routes around the new requirements to enable them to return to their old ways. It is similar to achieving change in corporate governance, imposing a code of standards is the first step; changing board behaviour is the big step.

In achieving such a change the regulator has a limited role to play. It has to be far wider. It has to be within firms themselves and the community at large.  As events have shown, the IFCs are no better or worse than everyone else in their need for this transition. At least, however, we are now being treated like everyone else.

[1] FATF - Improving Global AML/CFT Compliance: on-going process - 16 February 2012

[2] Ecuador, The Philippines, Vietnam and Yeman.