29 January 2014

Moving with caution

Correspondent banking is dead. Long live correspondent banking.

This news was first published on Dialogue Online

We know that all the old-style, relatively informal (almost risk-free) approaches to banking on behalf of complete strangers in remote markets are no longer viable. We know that KYC applies to every party to every transaction or event; we also know about money laundering, sanctions regimes and very big fines. We prefer de-risking to managing risk on that scale

But we also know that there is legitimate business to be had in developing markets, and that the global flow of trade requires banks to co-operate with each other. “Correspondent banking is an attractive business,” says SWIFT’s end-2011 white paper, Correspondent Banking 3.0. That doesn’t change. When J P Morgan Chase closed to new correspondent business in August 2013, the bank let it be known that this was a “pause”, and that correspondent banking would remain a “core strength”.

To pause, these days, is to display a wholly understandable degree of caution. The regulatory “perfect storm” (to borrow one banker’s expression for it) of recent years has not yet abated; the post-2008 “new world” (to do so again) has not yet reached its final steady state. And yet it is already clear that correspondent-banking relationships will be crucial to achieving a sustainable future. Peter Jameson, head, EMEA FI product and network strategy, Bank of America Merrill Lynch, says: “If you take current trends to their logical conclusion, it’s not inconceivable that certain markets may effectively lose access to clearing services in major currencies.”

Current trends rarely travel all the way to their logical conclusions, of course, but Jameson also cites a from-the-floor comment made by a Middle East-based banker at a recent conference: that banker’s point was that clearing is a “social good” as well as a public utility. Such an argument might seem a touch too abstract to fit into any bottom-line calculation, but there is also a pragmatic consideration: money doesn’t just stop moving because the big clearers refuse to handle it. To “kill” correspondent banking by over-regulation is to incentivise innovation in the shadow economy.

We know this, and there are signs that it’s understood on the regulatory side of the table as well. When Barclays announced its withdrawal from Somalia in mid-2013, the response included not only an injunction from the Somali money-transfer firm Dahabshiil, but also protests from charities and academics, plus – most significantly – the announcement of a UK government initiative, in conjunction with the World Bank, to maintain a UK/Somalia “safe corridor” for remittances. Take a step back, and you find the UK committing its year-long (2013) G8 presidency to a policy of “encourag[ing] international financial institutions to re-engage in Somalia to support long-term stability and growth”.

Governments step in where bankers fear to tread, right? The UK/Somalia example also serves as a useful reminder that governments, and regulators, are supposed to be encouraging business, not blocking it. The (new?) idea is, crudely, to include all the good guys rather than just to exclude the bad guys. What does that tell us about the way forward? Jameson says:“Banks need to engage with industry bodies and regulators to achieve an effective dialogue.” Exactly. If that “safe corridor” is a tangible expression of one government’s (and one World Bank’s) willingness to put its muscle behind the “social good” of connecting Somalia to the global economy, we may guess that the door will be open and the coffee will be hot for any clearing bank wanting to “achieve an effective dialogue” about returning to correspondent banking.

But if this is a turning point, the route back into correspondent banking is still not clear. The world has changed, and these days, any relationship-building initiative is fraught with risk. What do we do? Jameson says: “Banks will be looking to go deeper rather than broader. It won’t be just a single-product, transaction-services relationship with a client, but a multi-product relationship across the corporate and investment banking suite. A deeper relationship gives deeper returns, but multiple touch points between client and provider also strengthen compliance and ensure deeper knowledge of the client.”

This isn’t likely to be easy. It will require investment and a very effective ongoing dialogue with regulators. Hans-Peter Bauer, board member of the Basel Institute of Governance, says: “The more risky a relationship, the higher its principal cost. Then the monitoring is also costly.” Cost and compliance pressures may well result in fewer clearing providers, who may specialise in whole markets to leverage market-wide “touch points” for risk monitoring.

Difficult. Expensive. Risky. But likely to receive governmental, possibly even regulatory, encouragement. And even without that, think of the potential rewards. So many banks have closed so many accounts in so many markets by now that – just think about all that business.