On 1 June 2023, Chapter 12A (Resolution of Designated Institutions) of the Financial Sector Regulation Act, 2017 (the "FSRA") came into effect, which introduced a system of resolution for certain designated financial institutions (including banks and systemically important financial institutions) and repealed the curatorship of banks. These legislative changes were introduced in response to South African commitment to the Group of Twenty's ("G20") recommendations to issue a list of international standards to ensure the resolution of systemically important financial institutions. These are institutions that are considered "too big to fail" because their collapse would have a significant national impact. As such, the new resolution framework is a critical component of South Africa's financial sector safety net. It empowers the resolution authority (designated as the South African Reserve Bank ("SARB") in terms of Section 166A of the FSRA) to manage the failure of a designated institution in a way that mitigates risks to financial stability, protects vulnerable depositors, and reduces reliance on government bail-outs for private sector business. In South Africa, these measures are especially important given that government resources need to be deployed for infrastructure development, amongst other things.
As currently drafted, the FSRA excludes derivative instruments (as defined in Section 1 of the Financial Markets Act, 2012) from the application of Section 166S of the FSRA. This section sets out the write-down and cancellation powers of the SARB. However, the FSRA does not exclude repurchase agreements and securities lending transactions from the write-down and cancellation bail-in powers of the SARB. By allowing the SARB to write down or cancel obligations arising under repurchase agreements and securities lending transactions, there is a risk that the enforceability of netting rights may be undermined, which could lead to legal uncertainty and increase counterparty credit risk. This may, in turn, discourage participation in the South African markets and raise the cost of short-term funding for financial institutions. Moreover, many international counterparties operate on the assumption that such contracts will be respected in resolution as this is consistent with the approach in other jurisdictions. If South Africa's regime diverges by exposing these instruments to bail-in, it could reduce the willingness of foreign institutions to transact with South African counterparties or demand stricter collateral and pricing terms, thereby creating a competitive disadvantage for local financial institutions.
In light of this, the SARB published a binding interpretation ruling which came into effect on 1 June 2023 The interpretation ruling stipulates that the resolution powers of the SARB, as outlined in Section 166S of the FSRA, shall not apply to repurchase agreements and securities lending transactions concluded under a "master agreement" as such term is defined in Section 35B of the Insolvency Act, 1936.
Market participants and representatives of relevant institutions had anticipated that the exclusion of master agreements, as set out in the interpretative ruling, would be further codified by an amendment to the FSRA through certain provisions of the Conduct of Financial Institutions Bill (the "COFI Bill"). However, the COFI Bill has not yet been passed. In order to expedite the process to exclude all master agreements from the scope of the bail-in provisions of the FSRA, National Treasury published the Draft General Laws (Anti-Money Laundering and Combating Terrorism Financing) Amendment Bill for public comment in December 2024. This bill contains a provision which amends Section 166 of the FSRA by expressly prohibiting the SARB from utilising its powers to reduce the amount that is or may become payable in terms of a master agreement with a designated institution and from cancelling such a master agreement. This amendment would also provide further comfort on the enforceability of the master agreements underlying these transactions. Although this bill is yet to become effective, we see this as a step in the right direction toward making South Africa more accessible for participants who wish to transact within the republic through securities finance, repurchase agreements, and over-the-counter derivative products.
*Reviewed by Deborah Carmichael, an Executive in ENS’ Banking and Finance Department
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