The correspondent banking network is crucial to facilitate the flow of funds around the globe, but the existing model is under pressure from rising regulatory, compliance and operational costs – a scenario that is forcing banks to decide whether they are really committed to the business of cross-border payments. For corporate treasurers, this could mean rising costs to ensure the delivery of money in the right place at the right time, or that some jurisdictions become much harder to access altogether.
The challenges in correspondent banking have been well documented: increased regulatory and compliance costs, along with the threat – and issuing – of massive fines, mean that banks have had to re-assess and make tough decisions relating to their correspondent banking activities, including exiting long-standing relationships.
For some banks, the risk-return trade-off and cost of offering cross-border payments in certain jurisdictions has become just too prohibitive. The issue, however, is not just about which regions to retreat from and where to play; the question is more fundamental than that. Banks ultimately have to decide whether they want to remain in the business of cross-border payments or not.
This is one of the expected consequences of the changes we have seen in the industry since the 2008-09 financial crisis. Regulators have made an example of banks that failed to comply with regulations or their duty of care, especially as it relates to preventing financial crime and complying with sanctions restrictions. Moreover, when fines run into the billions of dollars, it is natural for banks to reconsider whether the risk-reward continues to make sense.
For treasurers, especially those who require access to harder or “higher risk” jurisdictions, this means that their banking relationships have changed as managing payments into different countries is now more likely to involve dealing with a handful of regional banks rather than a single global player. Seemingly, the days of a large global bank being all things to all people are a thing of the past.
Banks that operate in multiple jurisdictions, or that are domiciled in a market that is highly regulated, tend – or are required by their home regulator – to take the ‘regulatory high ground’ and choose the strictest common denominator for the standards they apply across their network. If regulations are particularly strict in one country, this standard will be applied to all the markets they operate in.
Applying the ‘strictest common denominator’ approach can be very costly to manage, and in higher-risk jurisdictions where transaction volumes can be low, it does not always make financial sense to continue offering correspondent banking services; resulting in many financial institutions exiting relationships in these jurisdictions.
This, however, leaves something of a moral dilemma for banks. On the one hand they have to comply with regulations and meet their internal compliance requirements, which may make the activity unsustainable or unprofitable. Yet, if they opt out of providing international remittances to a specific jurisdiction, are they meeting their obligation to do the right thing by the underlying consumer or corporate customer?
This issue is particularly evident in some developing markets that rely heavily on cross-border payments to support their economy (for example, remittances of funds from offshore workers, or facilitating trade flows). If the large (or in some cases all) correspondent banks no longer support the international remittances – whether through their own correspondent banking relationship, or by banking a money service bureau – then this action could severely restrict the flow of money in and out of the country. That could, in turn, have serious humanitarian consequences for the people living there.
Scope for improvement
How do we solve this dilemma? In the short term, it is not clear how to address the trend of the reducing corresponding network, but there are several aspects that can be improved. Firstly, there needs to be better communication and engagement between financial institutions and regulators. In some cases, there is not a level playing field for domestic and regional players. Domestic institutions only have to contend with one set of rules, but regional players that apply the ‘strictest common denominator’ approach can be severely disadvantaged. Setting a level playing field for domestic and regional banks will ultimately benefit the end consumer as it will stimulate greater competition.
Secondly, addressing the mismatch of regulations and standards across markets through better harmonisation – driven by various regulators – will provide greater comfort on local standards governing financial institutions. Thirdly, more can be done to ensure that domestic providers are carrying out know-your-customer (KYC) and anti-money-laundering (AML) checks to the same standards as cross-border players; in particular to provide the much-needed comfort that funds are originating from a trusted source.
ANZ along with other banks that have committed to the cross-border payments business, continue to invest heavily in its payments systems and operations areas to keep pace with changing regulations, as well as the advances in payments technology. This is crucial as the payments industry rapidly moves toward a world where delivery of payments has to be faster, cheaper, more transparent and with certainty of delivery.
On top of the increased regulatory pressure on correspondent banks, there are also additional external forces at play. Newer payments technologies and fintech companies are emerging that are challenging the status quo. Banks are meanwhile piloting the latest technologies, such as distributed ledger technology, with the same aim of improving speed, transparency, certainty of delivery and cost.
There has been much discussion about the correspondent banking model and alternatives, and corporate treasurers will no doubt be exploring their non-bank options for international payments. Regardless of the provider of these cross-border payments, however, any serious player in this business will find the same pressures of meeting the obligations of preventing financial crime, for example, and will have to commit time, effort and investment dollars to comply and be a credible service provider.
Ultimately, the fundamental ‘to be or not to be?’ question remains: all players have to decide whether they are committed to the cross-border payments business or not.