CORRESPONDENT banking enables banks to access products and services which might otherwise be unavailable. By enabling cross-border transactions and access to overseas products, correspondent banking plays an important role in the global payments landscape.
Increasingly, however, banks around the world are reviewing and rationalising their correspondent banking relationships. This trend, known as derisking, is being driven primarily by concern about the regulatory pressures to fight money laundering and terrorist financing.
Another factor is the cost of maintaining multiple relationships.
The impact of this trend is being felt in a number of regions, including Africa.
Research published by the World Bank in November 2015 — in its report, Withdrawal from Correspondent Banking — found more than half of the banks surveyed reported a moderate or significant decline in their correspondent banking relationships in Africa.
Meanwhile, data from global financial messaging co-operative SWIFT show many countries in Africa have experienced a reduction in their foreign counterparties – in other words, the foreign banks with which African banks transact overseas.
SA, for example, lost more than 10% of its foreign counterparties between 2013 and 2015. In Angola the decline was even steeper, with the number of foreign counterparties dropping by 37% in two years.
Interestingly, even while Nigeria’s international banking network has had limited derisking, its local banks have at the same time been cutting their own relationships with other African banks, financial services providers or counterparties perceived to be more risky.
Derisking can have significant consequences for the affected countries.
Cross-border trade may be significantly impeded if countries are cut off from the global financial system.
Products and services such as international wire transfers, cash management services and trade finance may become difficult to access.
For individual banks, the prospect of being derisked presents a number of challenges.
While some banks may be able to find alternative banking partners, others may find themselves cut off entirely.
Securing new relationships takes time and money — and banks may find that any new arrangements are based on less favourable terms and conditions.
Banking customers may also be adversely affected. Without access to correspondent banking services, businesses and individuals may be unable to import goods from overseas.
In turn, problems with the supply chain could push some businesses into distress and lead to greater levels of unemployment. In some cases, consumers may be unable to send remittances to family members overseas.
Reduced access to traditional banking channels may force people to find other ways of making and receiving payments, such as using informal money services or physically transporting cash across borders.
However, these unregulated channels may bring additional risks and leave people more vulnerable to criminal activity.
A shift away from traditional channels could even create additional opportunities for money laundering and terrorist financing activities to thrive.
Derisking could also have a negative impact on financial inclusion rates. Typically it is the smaller, local banks that are derisked. Therefore derisking could adversely affect the services available to the poorest in society.
In a continent where huge proportions of the population are unbanked, and authorities are doing all they can to increase access to formal financial services, it could be the poorest members of society who will suffer most.
There could be further unintended consequences. A recent paper from the Committee on Payments and Market Infrastructures demonstrates that while the number of active correspondents is shrinking, the volume of transactions is still rising, showing that as one part of the banking network becomes unavailable, payments find another route.
Taken together, the decrease in the number of active correspondents and the increase in volumes suggest heightened concentration of banking relationships, a trend that may have implications for the financial industry’s systemic health.
At the industry level, different approaches are being explored to overcome these issues. Greater levels of collaboration and information sharing between banks, regulators and law enforcement may help, with bodies such as the Committee of Chief Compliance Officers of Banks in Nigeria helping to foster co-operation.
For individual banks, meanwhile, there are a number of steps that can be taken to reduce the likelihood of being derisked, or to mitigate the impact of derisking if such an outcome is inevitable.
First of all, banks should understand why they may be derisked. Factors such as the political and economic landscape in specific African countries will certainly be part of this equation.
However, it is also becoming clear that banks are more likely to be affected if they provide insufficient transparency over their activities, business lines and behaviour, or if they provide such information in an inconsistent way.
The more difficult it is for correspondents to access KYC (Know Your Customer) or AML (anti-money laundering) information, the greater the cost of doing business with a specific bank becomes.
In order to address this issue, banks can put measures in place to improve both their transparency and the consistency of their information. For example, a specific individual or department can be tasked with creating a standard data set, the so-called “golden copy”. This data set can then be sliced and diced before being shared with the market in different ways.
Compliance controls such as transaction screening can be used effectively, while steps can be taken to reduce the due diligence costs incurred by correspondents. Any strategies adopted should also be communicated effectively to correspondent banks.
Such strategies are not guaranteed to succeed. In some cases, a bank will not be able to avoid being derisked, regardless of which processes and strategies are put in place.
However, by becoming more transparent about their activities and compliance measures, banks may be able to reduce the likelihood of such an outcome — or, indeed, increase their chances of securing alternative arrangements if they are derisked.
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