Pakistan Grey-listed by FATF

Bumpy Roads Ahead

The Financial Action Task Force (FATF), a global money-laundering watchdog, recently decided to place Pakistan back on its terrorist financing watchlist in June 2018. The United States fervently lobbied member countries of the FATF to place Pakistan on a so-called grey list of nations that are not doing enough to combat terrorism financing. Being on this list means that Pakistan’s financial system will be designated as posing a risk to the international financial system because of “strategic deficiencies” in its ability to prevent terror financing and money laundering. In the meantime, the government will work with FATF to build an “action plan” to plug the deficiencies identified by the watchdog, which will be put up for approval by consensus in the June session. If there is a failure to build consensus on the action plan, Pakistan could be black-listed by FATF, a status currently applied only to Iran and North Korea.

In February, the 37-nation Financial Action Task Force (FATF) held its plenary meeting in Paris, France, where it placed Pakistan in the category of jurisdictions monitored by the FATF’s International Cooperation Review Group, commonly known as the grey list – a watch list of the countries where terrorist outfits are still allowed to raise funds. According to the Foreign Office of Pakistan, the country will be assigned to the ‘grey list’ in June, once an action plan has been mutually negotiated. Media reports suggest that Pakistan will submit its new action plan in May.

This decision has come at a time when the country is experiencing rising deficit levels and its foreign exchange reserves are coming under increasing pressure. The current account deficit has increased to US$9.156 billion from US$6.182 billion in the year-ago period. Foreign exchange reserves have fallen to US$18.956 billion in January 2018, from US$22.242 billion in January 2017. The reserves with the State Bank of Pakistan at US$12.794 billion provide barely three months of import cover. Fiscal deficit stood at 2.2 percent of GDP in the first half of FY 2017-18 and is expected to rise faster in the second half of the fiscal year. Exports have shown double-digit growth, but continue to be outpaced by faster import growth. In the July-January period, exports grew 11 percent year-on-year, while imports rose by 19 percent. The government continues to borrow to finance the budgetary gaps and the pace of obtaining commercial loans has accelerated.

Implications

The probable implications of being put on the grey list are that the FATF regional group is expected to visit Pakistan very soon to see the level of compliance of their guidelines.

a. Image Problem

The FATF decision would be a major setback for Islamabad’s efforts to improve its image and it will inflict far-reaching reputational damage on the country. FATF, which maintains grey and black lists for identifying countries that have weak measures to counter and combat money laundering and terror financing, does not have the authority or power to impose sanctions on a country found non-compliant with the required standards. But a country’s listing can have an impact on its international transactions, as it would come under greater scrutiny. Merely stating that we can weather out the storm is nothing more than political and emotional rhetoric. The world has changed and the regional situation is evolving rapidly, and Pakistan needs to be cognizant of the dynamics.

The world, which includes our brotherly friends whom the foreign minister thanked in a prematurely triumphant tweet, is not impressed with what they see as this country’s continued intransigence. The all-weather friend China may continue to face difficulties in supporting Pakistan at forums like the FATF. China wants to be seen as a responsible global power that abides by international rules. That reality should prompt a review in Pakistan’s foreign policy choices.

There may well be an element of geopolitics at play here too. But the opportunities that have been made available to them to tighten the screws on Pakistan are the products of a deeply problematic foreign policy.

b. Economic Fallout

Pakistan’s economy will be adversely impacted. The country may suffer a risk downgrade by multilateral lenders such as IMF, World Bank, ADB and also a reduction in risk-rating by Moody’s, S&P and Fitch. As a result, the Pakistani stock market is expected to fall significantly. Being in the “grey list” means that accessing funds from international markets, for instance, would become tougher for Islamabad. The decision could make it harder for foreign investors and companies to do business in Pakistan. Islamabad would be made to go through all the scrutiny which can hurt the economy very badly.

Some global financial institutions would be wary of transacting with Pakistani banks and some might even avoid Pakistan altogether, viewing the legal risks associated with doing business there far outweigh economic benefits, if any.

A decline in foreign transactions and foreign currency inflows could lead to further widening of Pakistan’s already large current account deficit (CAD). Pakistani economy had to be bailed out by the IMF in 2013. Amid intense pressure from global regulators to guard against money laundering and terrorist financing, banks have been retreating from high-risk countries in recent years. The level of due diligence by banks is already high in countries such as Pakistan, but after the listing, banks may have to reassess the risk-reward scenario.

However, Adviser to the Prime Minister on Finance Miftah Ismail brushed off concerns that economic growth will suffer because of the country’s re-inclusion on a terrorist financing watch list, and lashed out at the United States for seeking to “embarrass” Pakistan. The adviser does not foresee the FATF decision acting as a brake on Pakistan’s economy, which, with growth above five percent, is expanding at its fastest pace in a decade.

c. Diplomatic Isolation

The FATF decision has put Pakistan on the way to global isolation. Grey-listed during 2012-2015, Pakistan was removed from the list on an assurance that it would strictly adhere, follow and implement the provisions of the UN Security Council Resolution 1267. Now, Pakistan is put on the watch list whose activities will be monitored by the watchdog FATF. If Pakistan fails to implement a financial system to curb terror financing and control money laundering, it will be back on the grey-list.

Thus a hundred-billion-dollar question here is: Will the existing government machinery be able to develop the action plan and take suitable steps to implement it by June 2018, especially when the next general election is due during this period? The answer seems in negative. The foreign minister who is supposed to play a vital role in developing the country’s foreign policy on how to counter global terrorism is busy in political bickering here. The foreign minister’s competence is also questionable in this regard.

Questions after FATF

The FATF debacle has exposed the crisis of policymaking in Pakistan. Although the FATF meeting was a known event, as was the attempt by the US and other countries to return Pakistan to a terror-financing watch list, neither the political government nor the military leadership appears to have prepared for or even been adequately aware of imminent action against Pakistan. A post-mortem of the events ought to be conducted. Among the Prime Minister’s Office, the finance ministry, the foreign ministry, the National Security Committee, GHQ and the intelligence agencies blame must be assigned and shared. Too often, decisions fundamental to the future of the people of Pakistan are treated as private debates between institutions of the state and the political leadership. They are not. Whether the permanent state or elected representatives, they ultimately work for and must be answerable to the people of Pakistan for the decisions, and mistakes, made.

The Way Forward

The way forward demands an intensive drive at home by the Government. At present, Pakistan has Anti-Money Laundering Act, 2010. The law was amended again in 2016. It outlines a number of executive and legal measures (along with criminal penalties) to stifle money laundering and combatting financing of terrorism. Consequence of this act, the government is mandated to hold two biannual meetings of National Executive Committee (NEC) on Anti-Money Laundering (AML). Regretfully, last, and 9th NEC on AML was held in August 2016. Surprisingly enough, the then Finance Minister, Ishaq Dar, convened the meeting to review country’s progress for Mutual Evaluation in 2018. The little follow-up after that suggests lack of seriousness on the government’s part.

However, the ongoing challenge should bring out the best from relevant domestic stakeholders. The government needs to commit an integrated approach to prevent the anticipated crisis, despite country preparing for an election year. The government has a serious obligation before itself. Pakistan needs to build a stronger case. To this end, the government should articulate policy plan of issuing annual national progress report on AML/CFT measures, the latter is articulated under Section 6 subsection (4) clause (g) of AML Act, 2010. Besides introducing Anti-Terrorism Ordinance, 2018, the government could introduce specific legal measures to toughen the existing AML Act, 2010 to curb abuse of financial systems. So far under AML Act 2010, only one section deals with terror financing, i.e. Section 7, clause (d). Laws on countering terror financing can be widened by including a wide array of modus operandi employed for terror-financing. Moreover, laws to regulate block-chain and crypto-currencies need to be introduced to counter money laundering and terror financing efforts by malicious actors.

Similarly, the government needs to direct Financial Monitoring Unit of the State Bank of Pakistan to upscale its actions in scuttling suspicious financial activity, including action against all such account-holders. Moreover, given provision of international cooperation under AML Act, 2010, the FMU along with intensifying such cooperation needs to maintain a transparent, updated public report of its progress. Following on, the government needs to prepare a comprehensive plan for incrementally building cooperation and capacity of its regulators, judges and investigators under FATF training programmes. This will significantly aid in accomplishing an improved criminal justice system to tackle money laundering and financing of terrorism and work to accomplish most action points to be revised under next Mutual Evaluation by FATF.

Pakistan’s financial regulators and Ministry of Foreign Affairs should jointly facilitate collaboration with countries having strong credentials to replicate and contextualise best practices in Pakistan’s financial regulation. Similarly, regulation mechanisms with drastic outcomes can be adopted with incremental approach. However, they will need a clear timeline in place for their implementation.

Moreover, rather than adopting a crisis-management response, Pakistan needs a strategic approach. Regulatory measures need to be outlined on the basis of immediate, short- and long-term goals and action plans. Their introduction will certainly need a serious attitude from Ministry of Finance to follow-up with progress. This will help in not losing sight of the crucial goals, which is clear from foregoing example of government not holding requisite number of NEC meetings on AML since 2016. On a positive note, government’s decision to adopt innovative solutions under FinTech by mid 2018 will help bring convenience and regulate financial transactions.

The Financial Action Task Force

The Financial Action Task Force on Money Laundering (FATF) is an inter-governmental body that was established by the G-7 Summit held in Paris in 1989. It was originally created in response to the growing concern of the global drug problem. It currently comprises 35 member jurisdictions and 2 regional organisations, representing most major financial centres in all parts of the globe.

The mandate of the FATF is to set standards and to promote effective implementation of legal, regulatory and operational measures for combating money laundering, terrorist financing and the financing of proliferation, and other related threats to the integrity of the international financial system. In collaboration with other international stakeholders, the FATF also works to identify national-level vulnerabilities with the aim of protecting the international financial system from misuse.

The FATF is therefore a “policy-making body” which works to generate the necessary political will to bring about national legislative and regulatory reforms in these areas.

The FATF monitors the progress of its members in implementing necessary measures, reviews money laundering and terrorist financing techniques and counter-measures, and promotes the adoption and implementation of appropriate measures globally. In collaboration with other international stakeholders, the FATF works to identify national-level vulnerabilities with the aim of protecting the international financial system from misuse.

The FATF’s decision making body, the FATF Plenary, meets three times a year.

FATF Recommendations

In 1990, a year after its creation, the FATF created the 40 Recommendations. These recommendations set out the legal and regulatory measures that countries should take to enable them to detect, prevent and punish the misuse of their financial system for money laundering. These measures were the turning point in the fight against money laundering.

FATF President

The FATF President is a senior official appointed by the FATF Plenary from among its members for a term of one year.

The term of the President begins on 1 July and ends on 30 June of the following year.

Mr. Santiago Otamendi of Argentina assumed the position of President of the FATF on 1 July 2017.