It’s no secret that correspondent banking levels have fallen away in recent years, but new research shows that since 2009, Chinese banks have bucked the trend, growing their correspondent banking relationships by 3,355%.
The practice, which became popular in the 1970s and 80s as a way of moving capital around geographically disparate banking entities, has been in terminal decline in trade finance since the time of the financial crisis.
Amid fears of heavy penalties for breaching anti-money laundering (AML) regulations and the rising costs of conducting the requisite due diligence on their prospective correspondent banks, US and European banks have largely given it up.
Chinese banks, it would seem, have no such qualms and have used it as a way to finance business in other parts of Asia, Africa and Latin America, predominantly.
Research from AML software provider Accuity, seen by GTR, shows that in 2009, Chinese banks had just 65 correspondent banking relationships. This grew to 2,246 in 2016. Over the same period, the global trend was a 25% decline.
European banks, for instance, had 123,056 correspondent banking relationships in 2009, when the full enormity of the financial crisis was being realised. This fell away to 70,292 last year.
In trade finance, the general decline is old news. At industry forums, people rarely discuss correspondent banking any longer. It is often viewed as archaic and a relic of the past.
However, banks in emerging regions, such as Southeast Asia and Latin America, talk of the very real impact it has had on trade. Without capital from the west, many local banks cannot afford to finance the levels of international trade they once could. Choking such regions of capital is a logical precursor to a decline in real trade volumes.
In September 2015, the International Chamber of Commerce (ICC) Banking Commission released its trade survey which found that “nearly 46% of the banks surveyed terminated correspondent relationships due to the cost or complexity of compliance, while 70% of respondents reported declining transactions due to AML/KYC requirements”.
In January, Deutsche Bank was fined a total of £500mn by the financial authorities in the UK and US for breaching AML rules. Other banks to have faced heavy fines include Credit Suisse, Standard Chartered, Santander, BNP Paribas and HSBC.
A representative of one western bank in Asia told GTR last week that while its strategy of retrenchment would be branded as “sharpening and refocusing”, fears of financial punishment has seriously hampered its appetite for transactions in the continent.
Chinese banks, on the other hand, do not face the same regulatory pressures to carry out know your customer (KYC) checks, nor do they live in fear of heavy financial penalties imposed by the US regulators. They have often stepped in to fill the void left by previously dominant western banks.
“The Chinese banks look at it a bit differently. Certainly they follow international regulations as much as they can from a money laundering perspective, but their risk tolerance is higher than western banks. Not many Chinese banks have incurred significant AML penalties – in the west they have,” Henry Balani, the global head of strategic affairs at Accuity, tells GTR.
Arguably the only high-profile instance of a Chinese bank being fined by an overseas regulator for such breaches is that of the Agricultural Bank of China (ABC), which was fined US$215mn by New York State’s department of financial services (DFS) last year for trying to obscure the dollar-trail of transactions.
Previously, the China Construction Bank had been ordered to improve its AML provisions by the US Federal Reserve, but no financial penalty was issued.
Balani says that despite the surprising level of the model out of China, correspondent banking levels of the country’s banks have likely peaked already. China’s correspondent banking network was powered by exponential export-led trade growth, which in turn propelled GDP growth that averaged between 8% and 9% until the last couple of years.
New fintech developments, however, have eradicated the need for physical banking nodes in many parts of the world and this will only accelerate in the years to come. Money still needs to be transferred, but in future its route will be less circuitous, avoiding the established network of banks, and so the model may eventually be completely redundant.
“Correspondent banking is network banking. If you have to transfer money from Hong Kong to Buenos Aires, for example, there are probably a few correspondent banks involved in that transaction. But in the future it will be a point-to-point transaction, there will be no intermediaries and that’s where this technology will come into play,” Balani explains.
He adds: “Blockchain will help us come up with this new way, so to speak: we’ll avoid using Swift. Ultimately it’s Swift we’re talking about here and this is a way of bypassing the Swift network. It comes down to the fact that there will be a need to transfer money across regions. But the traditional correspondent banking network will not be the one being used.”
The decline in correspondent banking coincided with the decline in banks financing perceived risky regions directly – again, as a result of falling risk appetite. The latest data from Dealogic, an aggregator of transactions, shows that of the top 20 infrastructure financing banks in Asia, only one (Crédit Agricole) was western.
The rest of the list is dominated by Chinese banks, which are a crucial cog in the government’s expansive infrastructure plans for Asia and beyond. China Development Bank topped the list, with seven Chinese banks in the top 10.