OREANDA-NEWS. Ineffective anti-money laundering controls in some banks have come to light recently in Panama, Honduras and Guatemala and reputational risk could spread throughout the region. This brings another layer of risks to the region's banks and exposes them to heightened event risk, says Fitch Ratings.

Regulators are taking measures to bolster controls and rated banks have taken steps to bring controls into line with international standards.

Since 4Q15, a handful of unrelated incidents highlighted that Central American banks are exposed to risks from weaknesses in their regulatory frameworks. The Central American banking sector is already under pressure, weighed down by slowing economic growth. Rated banks in the region said that correspondent banks have reduced funding lines this year given weaker economic prospects and, in our opinion, news about weak governance and poor transparency is likely to cause a further drying up of wholesale funding for the region.

The 'Panama Papers' scandal, reported by the press in April, leaked information about over 11 million financial and legal records relating to offshore companies set up by a Panamanian law firm. The incident is not directly related to the Panamanian banking sector, but it undermines credibility in the country. We think Panama's reputation has been tarnished by the incident. The authorities responded by saying they intend to adopt data-sharing arrangements consistent with the US Foreign Account Tax Compliance Act law and the OECD's Common Reporting Standards (CRS). However, no commitment to formally adopt the CRS has been made.

Also in April, the authorities confiscated USD20m of preference shares at Guatemala's Banco de los Trabajadores on suspicion that illicit earnings had funded the investment. The bank suffered no material deterioration in its financial standing, reflecting the prompt and decisive action taken by regulators. The bank's ratings were not affected.

Honduras-based Banco Continental, however, was forced into liquidation in October 2015 when its principal shareholder faced prosecution for money laundering in the US.

In May, Panama's regulators intervened in Balboa Bank & Trust Corp. following an announcement by the US authorities that one of its largest shareholders was accused of involvement in money laundering. This triggered a rating downgrade to reflect the bank's default.

In assigning ratings to banks, we assess corporate governance by taking into account both the country and the issuer. Country-specific considerations often overlap with the operating environment because we analyse factors including the rule of law, levels of corruption and creditor rights. Issuer-specific considerations include broader factors, such as the effectiveness and composition of a bank's board of directors, transparency and related-party transactions.

The operating environment often keeps ratings low in Central American countries, but weak or ineffective corporate governance can also act as a constraining factor. We assign investment-grade ratings to seven banks in Panama and one in Costa Rica. Other Central American banks achieve ratings in the 'BB' and 'B' categories, which incorporate weaknesses in the governance and regulatory environment compared with higher rated countries.