The old notion that ‘if it ain’t broke, don’t fix it’ sometimes needs revisiting, just to see if things really are as good as they could be. One long-standing aspect of corporate treasury that has come under pressure on a number of fronts in recent times is that of cross-border payments.
The ability to make payments between domestic systems is still commonly facilitated through the correspondent banking network. This requires banks to set up accounts with selected counterparty banks (a nostro/vostro arrangement). It seems to be a simple ask.
Yet the correspondent banking world appears to be in a bit of a crisis, according to some high profile commentators. “The correspondent banking model is antiquated and inefficient, often resulting in high costs, payments not being delivered on time and illicit activity,” says the latest AFP Payments Guide, ‘The Advent of New Cross-Border Payments Systems’. Or how about this rather anxious extract from none other than BIS: “The continuing decline in the number of correspondent banking relationships in many countries around the world remains a source of concern.”
Whilst most treasurers will be interested more in the timeliness and cost of their payments than how the bank executes them, if correspondent banking is showing its age, it may be time to explore other options, and that may mean stepping beyond the banking realm.
“It’s logical that banks have reduced their numbers of correspondent banks; they simply had too many when reciprocity was a bit too easy going,” comments Marcus Hughes, Director of Business Development at Bottomline. “Now the banks recognise the need to better understand every transaction, from a KYC and money-laundering perspective, many are de-risking their network of correspondents.”
It’s a logical step that has led to murmurings as to whether certain countries have been sidelined by the global banking community, simply because it is not prepared to be involved in those jurisdictions: BIS’s concern may be well-founded.
“I wouldn’t call it industry retrenchment,” notes Karin Flinspach, European Regional Head of Transaction Banking at Standard Chartered. “But some banks have looked at the high-risk jurisdictions and asked if the business is worth all the due diligence.” Indeed, she believes that as banks with large correspondent networks re-assess the value of managing such large networks, some have chosen to focus on their core markets.
But Shahrokh Moinian, Head of Wholesale Payments – EMEA, J.P. Morgan (the world’s largest clearing bank, moving around US$6trn daily) believes that the issue has been transcended – and that the banks involved in these networks have been able to upgrade their controls and systems “to get to the next level needed by the regulators”. With large banks able to work with smaller players in countries far beyond the financial hubs, he argues that “this is not a major issue from a corporate perspective”.
By and large, most jurisdictions are still reachable via the correspondent banking network, Moinian describing today’s network as “a well-oiled engine that still allows banks to connect with each other”.
Flinspach, who similarly describes these networks as the “lubricant of international trade”, raises a valuable point in that tier one banks have an unwritten duty to help raise the standards of banking governance in the developing regions. Educational programmes can advise the smaller institutions as to how business needs to be conducted to maintain access to the international banking network, promoting models of due diligence, transparency and efficiency around payments. This, she suggests, is in the interests of all stakeholders.
In the absence of a global clearing system, correspondent banking has, for many decades, been the only option. It is now a US$200bn business in itself. But that may be about to change, the rise of technology driving rapid progress in most areas of business. Hughes points to the success of relatively recent entrants to the payments arena, such as the niche cross-border FX platforms (such as Moneycorp, Western Union and the API-based Currencycloud), some of which meet a need by focusing on transacting exotic currencies.
Another new alternative channel Hughes cites is Visa’s B2B Connect. This is intended to help financial institutions process cross-border payments globally on behalf of corporate clients. It offers no direct corporate access – transactions by businesses being sent directly from their bank to the beneficiary bank – but it does take care of KYC, settlement and FX elements in one place. “It’s early days,” he comments, “but it has potential to be an interesting alternative.” Mastercard Track is a similar platform “with great ambition and potential”.
There are also now a number of blockchain-based currency initiatives which could resolve access issues. However, the volatility of cryptocurrencies, with the furore around Bitcoin, and now Facebook’s Libra currency, still raging, has served to increase the need for proper regulation in this space, especially around money laundering. Amongst much high-level criticism, former ECB president, Mario Draghi, has said that Bitcoin and crypto “are not designed in ways that make them suitable substitutes for money”. Crypto is unlikely to be on the treasurer’s agenda anytime soon.
Overall, some of the new alternative providers (the cross-border FX platforms in particular) “have taken market share from the banks,” admits Flinspach. Arguably though, the most significant change she sees is one of ‘attitude’, and this may stoke up the market more than any single innovation.
From B2C to B2B
The change is being driven by rapid progress in B2C payments, where the sharp uptick in e-commerce has seen consumers rapidly getting used to shopping and paying on their smartphones, and tracking delivery, in almost real-time. The slickness of operation, delivered in the main by fintech disruptors, has created great expectations, notes Moinian.
“Some of these consumers go to the office in the morning and become treasurers, and they are starting to anticipate the same experience from their cross-border payments,” he says. The expectation around digital is also pushing many firms – even those in traditional sectors such as FMCG and automotive – into adding direct sales, using online channels to reach end-users. This generates a subsequent need to offer the new (and often geographically disparate) customer base many more payments options.
There is another key trend to observe, says Moinian. With increasingly stringent rules around anti-money laundering, cybercrime, fraud, sanctions and embargos, although for the authorities “it’s about controlling the flow of movement”, ultimately it means that there are increased barriers to entry into the correspondent space for banks.
With intensified regulatory pressure, and with speed-to-market of the essence for those in the new ‘challenger bank’ space, some players will be looking seriously at by-passing correspondent relationships, perhaps instead connecting with FX cross-border payment providers. It’s all indicative of the changing face of the cross-border payments landscape – but does this mean the end for correspondent banking?
In the past few years, the industry has seen the international payments space evolve. SWIFT’s gpi has arrived, giving cross-border payments more speed and considerably more transparency, both in terms of the actual whereabouts of a given transaction, and the charges and deductions that each bank levies on it.
Every day, more than US$300bn in messages is being sent via gpi (with about 2,000 active corporates on board). Currently offering bank-only direct access, gpi is now being piloted at the corporate access level, aiming to give treasury more control over payments. With error investigations and case resolution functionality being tested, and more ideas in the pipeline, Hughes declares that it is “the best thing SWIFT has done in the last 20 years”.
Another welcome – and complementary – advance has been the introduction of the blockchain-based Interbank Information Network (IIN). This started as a J.P. Morgan platform for exchanging payments information with its clients; it has now been joined by more than 360 banks (Deutsche Bank being the most recent) with more than 65 now live since launching in 2018.
The associated information that goes onto the network is whatever the different parties decide to upload, says Moinian. In practice, it means, for example, that for a payment that raises a sanctions or fraud issue, where it used to take up to two weeks to resolve, it can now be fixed in minutes. With other banks free to develop their own solutions on the platform and roll them out to the wider industry, he believes it is on the way to becoming “a new standard in the correspondent sector”.
Collaboration and interoperability
With the higher cost of entry having seen some banks slow down on investment in this space, Moinian believes that the changing nature of correspondent banking has seen the spirit of collaboration extending “because banks now understand the need to encourage the network effect”.
Indeed, the more banks join and share data in projects such as IIN, the more the resolution of payments issues is expedited, and thus the more other banks will see the benefits and join. It’s something that Flinspach also observes, suggesting that “it’s now all about bringing together different partners – financial institutions, fintechs and corporates – to create and build new networks”. But alongside collaboration she says there must be the desire to offer interoperability.
Many fintechs started on the back of the B2C e-commerce explosion, and the sector is still driven by consumer demand for digital wallets and other means of making electronic transactions. But the fintechs need the banks to clear their transactions in the countries in which they operate. Between bank and fintech, it now shows every sign of being a symbiotic relationship, where once it was purely competitive. As Moinian also notes, for the whole piece to work optimally, “it’s increasingly important for us to have interoperability between the different payments rails”.
Currently, through SWIFT, traditional banking offers one rail for large B2B transactions. But as many corporates start selling directly to consumers, cross-border solutions for smaller payments will be needed. To make these viable, they need to be cheaper for the banks to run and for the end-user to use. Solutions such as J.P. Morgan’s cross-border ACH-style platform for corporates can enable, for example, a wire that starts in the US to find its way unhindered to an e-wallet in China.
This is why, in the same way that there is bank-to-bank collaboration in this space, so the fintech community is forging partnerships with banks. Both parties are now fully cognisant of what each brings to the arrangement: teaming up enables customers to use the fintech front-end of their choice, but supported by solid banking payments rails.
The advent in the payments space of bank-issued APIs – where third parties (Payments Service Providers or PSPs) are able to access basic account information – is a good demonstration of the willingness to achieve this outcome.
Banks continue to spend a lot of money publishing APIs, especially in the EU where PSD2 has forced through the concept of open banking as a means of levelling the playing field. But without proper standardisation of APIs, there is still a way to go. It might be perceived an issue that although SWIFT presents as the formal bank-to-bank arrangement on connectivity, as yet there is no such formal agreement between the bank and fintech communities.
But serious attempts have been made by a number of bodies, including the Berlin Group (almost 40 banks, associations and PSPs from across the EU which is working on ‘NextGenPSD2’) to reach a standard. And Moinian comments that connectivity so far has not been an issue. “The fintechs are very agile developers, and the lack of a standard does not seem to be a problem for them.”
Notwithstanding the positive effects of change in the correspondent banking space, as BIS notes, some banks have reduced their global reach. “It’s as good a time as any for corporates to review their bank relationships, asking questions about reach, pricing, service and delivery times,” says Hughes. “With banks having de-globalised, it may mean corporates now need more relationships to get the reach they need.”
Obviously, treasurers should clarify the service offered by their existing panel of banks, and how this might fit with corporate strategy, mindful of current market volatilities. It is also important to gather information on the latest technologies before deciding which payments partners (and it may not be a bank) fit their future planning.
With collaboration and interoperability as guiding criteria, treasurers should seek reassurance from its providers that each is investing at the right level and in the right technology. Every bank’s API offering must be investigated too: although Hughes sees their development as “a bit chaotic”, the whole process lacking standardisation (SWIFT is talking about stepping in), APIs could be the means of opening up new payments front-ends that corporate customers wish to use. In this increasingly multi-channel world, where direct sales is on the rise, the more payments tools a corporate offers its customers, the greater the chance it has of retaining their business.
Of course, banks don’t have to work with fintechs if they believe they have the solutions that their clients want. But it is worthwhile for treasury to probe the bank’s development skills and agility because this is essential for a rapid response to a changing market.
At a purely practical level, bank membership of initiatives such as IIN and gpi matter because it shows the degree by which that institution is prepared to collaborate to expedite cross-border payments and solve issues for its corporate clients.
New world order
It may once have been true that treasurers were not overly bothered by the machinations of the correspondent banking network, as long as their payments were successful. However, in a changing world of increased risk and demanding customers, treasurers need a forward-looking approach.
“It’s not just the correspondent banking network that is changing; with all the political changes that we are seeing today, there may be certain banks that treasurers will no longer be able to work with, and others that they now can,” notes Flinspach. “Treasurers must set themselves up to be a lot more agile, and a lot more inquisitive about how banks operate and how political actions such as sanctions impact them.”
With similar pressures bearing down upon them, banks and fintechs are under no illusion that they must collaborate to ensure cross-border payments interoperability. Correspondent banking may now be just one rail amongst many in this new environment, but reports of its demise are, it seems, greatly exaggerated.