Conduits of Capital

The financial activities carried in financial centres can be
broadly divided into those based around balance sheets
and those involving financial services carried out for a fee.
Balance sheet-based activities include banking, investment
funds, insurance etc., where the financial institution
has liabilities to one set of customers (e.g., insurance
policy holders, fund investors, bank depositors) and a
corresponding set of assets (bank loans, securities, etc.).
These are all forms of financial intermediation. In a FC,
these asset and liability relationships are significantly with
non-residents. This may lead to a FC being characterised
by a high level (say, relative to GDP) of international assets
and liabilities in its International Investment Position (IIP).
Non-intermediation financial services do not involve issuing
assets and liabilities directly, and may be carried out on behalf
of financial institutions holding
their balance sheets elsewhere.
These services would be carried
for a fee, and could include
dealing in securities and foreign
exchange, underwriting, asset
management and custody fees,
fund administration, accounting,
credit rating, credit scoring, etc.,
and general back-office services
for financial institutions.
Financial services can also
extend to closely related
business services, such as IT services, legal services,
registration of international business companies. Financial
centres may also offer unrelated business services such as
ship and aircraft registration.
In principle, therefore, FCs may be distinguished by
objective characteristics, such as the magnitude of exports
of financial services (or finance and business services)
relative to total exports or to GDP, or by the magnitude of
IIP assets (adjusted for official reserve holdings) relative
to GDP.
Conventionally, however, FCs are also conceptualised
in terms of their operational characteristics, such as
having a favourable regulatory environment (e.g., minimal
supervisory and information disclosure requirements, or
permitting particular types of corporate form), and / or low
(or zero) tax regimes.
Although FCs by definition have a strong “offshore”
component, in terms of significantly serving non-residents,
they may nevertheless have important onshore elements.
For instance, an investment fund domiciled in a particular
country may raise funds from both international subscribers
and domestic institutions (or individuals). Those funds may
be partially invested domestically as well as internationally
(or regionally). The relative proportions of domestic and
international inflows and outflows will depend on the nature
of the FC. A small, international FC such as the Cayman
Islands would have virtually no domestic transactions, but
a large international FC such as London would have a
significant proportion.
Offshore Financial Centres (OFCs) are generally
conceptualised as small economies with very large financial
sectors that deal almost entirely
with non-residents on both the
asset and liability sides. They
are also often considered to
compete in terms of minimal
regulatory requirements and
low taxes. But distinguishing
between “offshore” and
“onshore” financial centres is a
question of degree and highly
subjective; what is “small;” what
is “almost entirely;” and what is
“minimal”? If a small FC deals
with non-residents but has a
compliant and internationally recognised and accepted
regulatory regime, and a non-zero tax rate, is it still an
“offshore” financial centre?
While large financial centres such as the US and UK are
often considered to be “onshore,” the IMF’s definition
classed them as offshore, due to their large volume of
international business. Indeed, the distinctions between
“domestic” and “international” financial centres may be
more useful than the terms onshore and offshore. If an
offshore centre is so classified because it primarily does
business with non-residents, then an onshore centre is one
that primarily does business with residents—i.e., it is just a
country with a (large) financial sector mainly servicing the
domestic economy. It is not evident that the concept of an
OFC is particularly useful for assessing jurisdictions from a
policy or operational perspective. The regulatory structures
employed in some FCs may not necessarily be negative,
Conduits of Capital – Onshore Financial Centres and Their Relevance to African Private Equity
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