Correspondent banking is gathering a lot of attention these days. It is surprising to see so many changes going on considering that until a few years ago it was lying quietly within the bank’s back-office department without receiving pressures from the external world. Many saw this coming, as the current banking market is driven by innovation and customers keep seeking new experiences.
The traditional model, based on strategic agreements spread globally, started to decline beginning of 2011 as a consequence of the financial crisis (especially in the EU and US that together comprise 1/3 of the number of correspondent accounts) and ‘’de-risking’’ measures adopted for minor currencies in markets that are less regulated. Banks offering cross-border payments as core service reduced the number of their correspondent partners by focusing in selected geographies where to operate, mostly to avoid direct competitors or reputational concerns. The Financial Stability Board, in its report on ‘’the decline in correspondent banking’’, analysed SWIFT data of cross-border payments between 2011 and 2016. The highlights of the report show how the reduction of correspondent agreements increased the number of payment messages due to the involvement of more intermediaries.
In other words, within a short timeframe the correspondent-banking model went from rationalising the global coverage to a less efficient means of communication. The lack of modernisation of the infrastructure for cross-border payments created opportunities for new players, the fintechs companies that are currently revolutionizing the payment systems.
The progress made in exploring new alternatives to the current payment corridors lead to the introduction of PSD2, a concrete regulation that aims to intervene in favour of end-users (corporate, merchants, millennials) who seek instant and global solutions that were not delivered by the banking system stuck for too long in a slow chain of bilateral clearing procedures. The introduction of PSD2 is indeed bringing a disruption in the transaction-banking world. The new scenario is opening up the views about banks collaborating with fintechs, fintechs becoming banks, and banks that absorb fintechs. We do see opportunities on both sides: fintechs bringing the technological agility and capabilities, banks leveraging their experience and conveying the necessary level of trust. Concrete synergies between the two will enable fintechs to get customer reach and access to bank accounts through APIs, whilst banks will leverage on a modern technology allowing them to reach global coverage in no time. Banks hold customer relationships and are regulated organisations that ensure AML/KYC processes. On the other hand, clearing and settlement processes are costly whilst fintechs could offer global payments coverage with virtual currencies and distributed ledger technology at significant reduced cost and improved efficiency. Cryptocurrencies have made their way in the market very quickly but they do not deliver transparency on compliance and most of all, the majority of central banks have a wait-and-see attitude towards them, resulting in regulated commercial banks being reluctant to invest in this type of innovation. The transition mechanism through a virtual currency can eliminate the clearing and settlement needs, but the market is creating volatility on the trading side that may affect the cross-border payments activities.
Besides exploring the new possibilities by collaborating with fintechs, the banking community as a whole reacted in the last few years quite significantly, introducing the SWIFT gpi. This initiative, live already for one year comprising approximately 145 leading banks, presented its initial and remarkable results a few months ago at Sibos. As expected, GPI was welcomed by end users and is becoming the new standard eco-system for cross-border inter-bank payments. Banks claimed enthusiastically that not only the number of investigations significantly decreased, as customers are now able to track their payments and receive cross-border funds on same good value, but also that they have eliminated intermediaries banking fees.
The treasurer perspective
TAS as a technological partner for leading banks, a few years ago aimed to integrate the correspondent banking activities within its cash management suite of services. According to our clients’ experience, the management of Nostro account positions is a top priority on treasury side. There was a clear interest at the time to understand how to retrieve correspondent banking data in order to comply with the BCBS248 requirements that brought up the need of monitoring Nostro accounts positions on an intra-day basis. Some of these gaps have been mitigated by refining the bilateral agreements between counterparts, but there is still room for improvements. When it came to re-negotiate the terms between parties, we noticed some challenges in delivering the data required. Some banks were reluctant in issuing debit/credit confirmations on a real-time basis especially for cross-border transactions. This process, often costly and poorly standardised, is still under discussion. Whilst with gpi a huge effort has been performed to improve the end-users’ experience now able to self-trace their cross-border payments, banks are still seeking ultimate improvements to reconcile their Nostro positions. Despite the rationalisation of correspondent banking relationships, banks still maintain Nostro accounts with selected partners who need to comply with regulatory standards that with the advent of PSD2 will become stricter. To that extent, treasurers forecast an increase of uncommitted credit lines that may lead to the reduction of intra-day liquidity buffers and to potential reputational risk. The aim is to be able to monitor multiple Nostro accounts’ positions avoiding imbalances, negative interest applied on liquidity surpluses and expensive cross-currency funding/defunding processes. In other words, there should be a standard in place to optimise intra-bank transfers, especially when Treasurers deal with unexpected payment flows in proximity to cut-off times.
In this scenario, the PoC initiative promoted by SWIFT with DLT technology providers aims to reconcile Nostro accounts positions in real-time, allowing banks to get control over their currency exposures. However, the limited number of counterparties that participate in the initiative could affect the operational scheme. Banks would maintain two solutions and manage different positions. Another concern is on how to integrate DLT to banks’ internal systems also for accounting purposes. The expectation on DLT is to minimise integration costs with legacy back office applications.
From a technology vendor perspective, we aim to facilitate banks to deliver the desired level of experience and innovation to their customers by supporting format conversions, APIs connectivity, speeding up internal Nostro reconciliation re-producing booking confirmations internally, supporting currency-conversion, virtual currency positions and tracking all transaction activity.
The re-shaping of correspondent banking is still in full swing, contributions keep coming and we will see more changes in how we re-write the story of payments.
TAS Group is hosting a webinar titled Correspondent Banking Innovation: The improved offer delivered by banks and fintechs to discuss this topic. Registration for the webinar is open now.