Panama Papers – Government Fights Back

Within hours of being published, the Panama Papers leak became the world’s most talked-about news story. Within weeks the revelations had forced at least one government leader to resign and had others issuing apologies. But the long-term consequences will continue being felt for years.

The story broke on April the 3rd when the US-based NGO, the International Consortium of Investigative Journalists, and more than 100 news organisations published the initial findings of information contained in 11.5 million leaked documents. The leak revealed how Panamanian legal firm Mossack Fonseca incorporates offshore entities (perfectly legal) some of which were allegedly being used to circumvent sanctions (illegal), evade taxes (illegal) or being used by politicians to avoid the taxes that they force on the electorate (legal but hypocritical).  However, Mossack Fonseca, which has said it is willing to co-operate with Attorney General’s Office, claims that it is the victim of a crime.

The Government Response

Panama’s government has been criticised for its slow reaction to the story. Attorney General Kenia Porcell has launched an investigation to determine whether any criminal act relating to the scandal had been committed in Panama. However, it took the Attorney General’s Office nine days to raid Mossack Fonseca’s offices, for which it has been heavily criticised, particularly as its counterparts in El Salvador and Peru had already carried out raids of the firm’s offices in those two countries. On April the 13th the Attorney General’s Office launched a 27-hour raid on the Panama City offices of Mosack Fonseca, securing vast quantities of information from more 100 virtual servers. Personnel from the Banking Superintendent and the Finance Ministry also took part in the raid.

“President Juan Carlos Varela has announced measures to improve the transparency of the local financial and legal system”

Although it has stressed that the Panama Papers refer to just Mossack Fonseca not the entire country, the government is likely to make changes. For example, Panamanian President Juan Carlos Varela has announced that his administration will establish a special committee to study measures to improve the transparency of the local financial and legal system. Some analysts believe the establishment of the committee is just intended to shield the government from further criticism from the international community but this international pressure will force the Panamanian government to introduce tighter regulations on financial services and legal firms, particularly with regards to taxation matters. The ongoing focus – whether through the media, other foreign governments, or bodies such as the Organisation for Economic Cooperation and Development (OECD) – on the country’s major role as a provider of offshore services will inevitably see the government clamp down on abuse of the system. It will also lead the government to tighten regulations relating to tax transparency, just as it has done previously with anti-money laundering (AML) regulations.

Domestic politics will also drive the government’s response, with political allies of Varela among those named in the scandal. Varela’s government has taken a hardline stance on corruption, particularly against officials from the administration of his predecessor Ricardo Martinelli (2009-14). This includes Martinelli himself who is likely to be indicted in the next 12 months. However, the process will be protracted, particularly as Martinelli must first be extradited from the US.

Although there is currently no proof that those named in relation to Mossack Fonseca have done anything illegal, the government will nonetheless come under significant pressure to ensure that they are fully investigated to show that it is being even-handed in its efforts to root out corruption. This may in turn drive the government to seek to tighten regulations further or scapegoat certain companies, as a means of diverting attention from troubles it may face from the revelations.

How clean does Panama want to be?

Ironically, the Panama Papers leak came just as the country was making progress in cleaning up its long-held image as money laundering hub and tax haven. For example, on the 19th of February the Financial Action Task Force (FATF) removed Panama from its ‘grey list’. In doing so, the FATF acknowledged the ‘significant progress’ made by Panama in improving its AML regime and addressing the ‘strategic deficiencies’ it identified in June 2014. The Varela administration announced that it had completed an AML action plan agreed with the FATF in September 2015, which entailed the implementation of an enhanced AML legislative and institutional framework. This included the ratification of the AML bill (Law 23) in April 2015. This policy has been underpinned by a systematic crackdown on money laundering and corruption in the financial services sector.

“Ironically, the Panama Papers leak came just as the country was making progress in cleaning up its long-held image as money laundering hub and tax haven…”

In the wake of the Panama papers, the French government has already announced that it will return Panama to its list of uncooperative tax jurisdictions, and the OECD has heavily criticised the government for a lack of progress towards greater tax transparency. Local financial and professional services, many of which have already expressed concern at the effect on the application of new AML regulations, will now almost certainly face a similar squeeze as the government seeks to repair its international reputation. At the same time, the Varela administration will be keen to avoid alienating or severely damaging the industry; indeed, the government will likely work with industry bodies to study possible new regulations.

In this context, the government committee will work with the private sector over the coming weeks to frame an appropriate response to international pressure. Particular focus is likely to be placed on whether it is feasible, or desirable, to bring the country fully in line with the OECD’s standards with regards to transparency and the exchange of information related to tax affairs. The Panama Papers episode is part of a wider trend in which the country has come under increased scrutiny with regards to the probity of the financial and professional services industry, which will lead to further efforts to tighten the regulatory environment. However, given the importance of the industry to the economy, the government will seek to avoid measures that will severely damage its ability to win and maintain business.