1. Seven of the UK's Overseas Territories have offshore financial centres, of varying size and significance to their economies.[3] Of these, Bermuda, the Cayman Islands and the British Virgin Islands have a high importance in the global financial system. The UK's reputation in the financial services industry is linked to how well its Territories perform against international standards. The Department and its Governors have a key role in protecting the UK from serious reputational risks and possible financial liabilities by ensuring that global standards for banking, insurance, securities and defences against money laundering, to which the UK has signed up on the Territories behalf, are being met. The Department does not have an established financial services training programme for Governors, although it does provide tailored training to new Governors taking up Post, depending on experience and the issues relevant to that Territory.

2. Whilst the UK faces the ultimate risk should any financial malpractice occur, it is the responsibility of Territory governments to develop the necessary regulatory arrangements. The Department believes that, apart from UK encouragement, market forces and the need to get a positive rating from the International Monetary Fund are the most effective incentives for Territories to improve their standards.[4] Despite this, regulatory standards have not yet reached those attained by the Crown Dependencies across the areas of banking, money laundering, insurance and securities. In Bermuda and Anguilla, anti-money laundering measures were 22% and 25% non-compliant respectively, compared to zero non-compliance in the Crown Dependencies.[5] As Figure 1 shows, there is considerable variation between and within the Territories.

3. The Comptroller and Auditor General's report found Territories to be lacking in regulatory capacity, especially those with smaller offshore centres, such as the Turks and Caicos Islands, Montserrat and Anguilla.[6] As a result, they are increasingly struggling to meet rising international standards.[7] For these three Territories, the UK retains direct constitutional responsibility for the regulation of financial services. The Department accepts that standards in these Territories need to improve, and is taking steps to drive up capacity: it employs a financial services adviser, based in the Caribbean, and is providing assistance in drafting legislation to allow the Territories to retain and reinvest the confiscated proceeds of crime.[8] But it is improbable that the deployment of a single Departmental specialist is sufficient to address the scale of the risk.[9] The Department acknowledged that the Comptroller and Auditor General's report was helpful in giving it added impetus to intensify its efforts in helping the Territories improve standards.

Figure 1: International Monetary Fund assessments regulation of offshore financial services in Overseas Territories [10]

Source: National Audit Office analysis of International Monetary Fund assessments

Notes (1) The table summarises compliance in six of the seven Offshore Financial Centres. Turks and Caicos Islands were excluded because the International Monetary Fund has not published its detailed breakdown of results. Percentages are rounded and may not always add to 100%.

(2) The smaller centres were not assessed for insurance and securities business.

(3) The Crown dependencies are Jersey, Guernsey and the Isle of Man.

4. Regulators in Bermuda, the Cayman Islands and the British Virgin Islands have achieved major improvements in capacity since 2000, enabled by their ability to levy fees on their growing financial sectors.[11] In the centres with a smaller regulatory capacity, the Governor retains more direct powers to intervene. In Montserrat, for example, the Governor has the authority to restrict the development of the financial sector, although this power has not been used for over ten years. [12]

Figure 2: Levels of monitoring and investigating suspicious financial activity in the Territories are variable

Source: Summarisation by National Audit Office, and latest IMF assessment reports

Notes: (1) Full time equivalents. Professional staff.

(2) In some cases investigations are ongoing and charges have been laid

(3) Included at the time seven staff seconded from the UK

5. A lack of local capacity has also impacted on Territories' ability to investigate and prosecute suspected money laundering activities. Governors have sought a balance between pushing for more local capacity on one hand and respecting local autonomy on the other. As Figure 2 shows, the number of suspicious transaction reports across the Territories appears low: Anguilla and Montserrat produced only three such reports between them. The Department agrees that there is a serious risk of money laundering in the Territories, particularly in the smaller Territories which lack the critical mass of regulatory and investigative expertise to follow up these reports. It has written to other UK departments and agencies, such as the Financial Services Authority, the Treasury and the Serious Organised Crime Agency, to emphasise the need for their involvement.[13]

6. The Department was unable to state clearly the comparative advantage which the Overseas Territories used to attract offshore financial business, but cited their tourist infrastructures and low taxation as areas where the Territories are in a more advantageous position.[14] The Department stressed the self-governing nature of the Territories and has therefore accepted their evolution as tax havens as a way to diversify their economies further. However, it has continued to exert pressure on Territory Governments to develop regulatory standards which are the best in the region. The Department for International Development (DFID) confirmed that it was not planning to assist St. Helena in developing a financial centre, but was concentrating on developing it as a niche tourist destination.[15]

4   Qq 36, 110 Back

5   Q 104; Figure 1 Back

6   Q 9; C&AG's Report, para 1.32 Back

7   Q 63 Back

8   Qq 8, 73-74 Back

9   Q 40 Back

10   The table shows the first round of IMF assessments for each jurisdiction. At the time of this report, the first second round report, for Gibraltar, had been published, with highly favourable results. Assessments in Turks and Caicos Islands, Anguilla and the British Virgin Islands had been deferred at local request, and the reports on Bermuda and the Cayman Islands had not yet been published. Back

11   C&AG's Report, para 1.32 Back

12   Qq 43, 68-70 Back

13   Qq 9, 37, 78, 147-149 Back

14   Qq 83-84 Back

15   Q 82 Back