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PODCAST: Correspondent banking in the Caribbean: the impact of ‘derisking’ on the real economy

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Correspondent banking in the Caribbean: the impact of ‘derisking’ on the real economy

Recent years, however, have witnessed a steep reduction and cutting of correspondent bank relationships. 

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Following on from the BAFT Annual Meeting in Washington, Trade Finance Global (TFG) sat down with Dalton Lee, chairman of the Caribbean Association of Banks (CAB), to discuss the status of the correspondent banking world, and what cutting such relationships means to Caribbean economies.

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The role correspondent banking plays in the Caribbean economy 

The term correspondent banking is used to describe the relationship that exists between two banks.

Typically, the correspondent bank is the larger bank, usually domiciled in one of the money centres of the world: London, New York, Toronto, Tokyo, and increasingly, Shanghai or Singapore.

Correspondent banks facilitate the transference of funds from their respondent bank to the receiving bank. 

Lee emphasised that the respondent bank did not necessarily have to be a smaller or third-world-country bank. The only qualifier for this respondent party was its being outside of the larger banks’ domicile.

To get a clearer understanding of how this might play out in a real situation Lee provided an example of the process. 

If a buyer wished to purchase an automobile from Japan, they would send a figure of money from their local bank to the recipient’s bank in Japan. This would be achieved through the SWIFT system––an international system for the transference of funds. 

The local buyer’s bank would send instructions to the correspondent bank, in this instance, perhaps one in London, which would then forward the aforementioned instructions to the bank in Japan. Finally, the funds would reach the seller in Japan. 

Without such a middleman, smaller or less developed countries would find it difficult. 

Thus, correspondent banks create networking, enabling the easy, effective, and safe movement of money across the globe, critical to any economic stability. 

Despite the important role that correspondent banking relationships play in the ecosystem of trade, these recent years have seen a steady decline in banking relationships.

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Derisking dilemmas

This phenomenon of ‘derisking’ has spread far and wide, coming to affect the banking ecosystem in the Caribbean. Why? Simply put, high risk, low reward. 

With America being the number one trade partner for most for Caribbean banks, all eyes have turned to gauge the possibility of being rebanked.  

Dalton Lee added, “It is about the profitability of the relationship between the correspondent bank and the respondent bank. 

“And so if it’s about profit, then we will never be able to be onboarded by any of those large banks in the United States.” 

The higher the risk, the higher the price: the effect on the Caribbean economy 

This poses huge problems for Caribbean economies and by extension, the Caribbean people, face higher costs when engaging in international transactions. 

The fees that banks are required to pay to the correspondent bank with whom they do business have increased exponentially over the five or six years. 

Those who choose to do business with CAB, price the service based on the risk profile of the bank.  

Business analysis and pricing will always be based on the risk profile, ergo the higher the risk, the higher the price. 

This has other peripheral repercussions. Looking specifically at the United States, banks that cannot establish a correspondent banking relationship with the US are rerouted through to other countries. 

Depending on the geographical location of such countries, this could mean significant time differences, thereby delaying the funds from reaching the end recipient. 

The slowing down of trade has far-reaching consequences. 

Pharmacists, for example, that receive their stock from suppliers in the United States will seek to wire money from a domestic bank to an American bank to pay for this service. 

However, if the process of transferring money takes 3 days, further factoring in the fulfilment of the order, shipping, and payment of shippers, there is a significant lag in the economy. 

Though nothing grinds to a halt, there is an underlying issue by which domestic citizens then have their medical access squeezed by lengthy procedures. 

This is but one example, with others spanning familial support systems such as college or school fees. And though the delay may seem minute for some, the doubt that is created (within a field that is fundamentally based on trust) negatively impacts customer relationships.

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Other opportunities 

Though it may seem a difficult road to establish good correspondent banking relationships with American banks, it is at least heartening to know that there are other options. 

Other markets, such as those in Pakistan or Turkey look favourable. 

Lee said, “CAB has just begun very preliminary discussions with an African development bank. 

“This bank now acts as the central clearing bank for all, if not most, of the transfers out of Africa. And they’re not coming through the United States.” 

This relationship could be a significant opportunity for CAB, as there could be scope to learn from the model that Afreximbank has developed and implemented. It is possible that this model can be a suitable solution for CAB.

Many avenues have been explored, in the meantime, with some exploring options with banks in Russia. Given the current trade finance landscape amid the Russia-Ukraine conflict, such pursuits have yielded no success. 

It seems, therefore, that solutions are few and far between.  

This is not to say that CAB has not found a silver lining; their recent partnership with BAFT will help to facilitate meetings with smaller and regional banks in the US, widening the trade pool. 

Longer-term solutions will take on a more legislative slant, through ensuring all members are in good standing with banks on a global level. 

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Published 23 November 2022