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How to Grow Your Correspondent Banking Business
Five key ways to mitigate the risk of declining correspondent banking relationships and stay competitive in the global payments landscape.
In the complex landscape of global finance, the decline of correspondent banking relationships has cast a shadow over the traditional pathways of international transactions. This issue not only poses risks to anti-money laundering (AML) efforts but also prompts a closer look at how technology can be harnessed to navigate through these challenges and rebuild fractured financial networks.
In the absence of traditional correspondent banking, alternative payment systems emerge. Cryptocurrencies, fintech solutions, and peer-to-peer networks become lifelines for regions where access to international finance networks is limited. Yet, these alternatives can be risky. Lack of regulatory oversight and transparency in certain cases exposes vulnerabilities to money laundering and illicit financial activities. The AML landscape faces challenges in adapting swiftly to these evolving channels, threatening the integrity of global financial systems.
Rising volume, shrinking relationships
The volume of transactions and the relevance of the correspondent banking service are rising year to year. The value of global cross-border payments is estimated to increase from almost $150 trillion in 2017 to over $250 trillion by 2027, and a significant portion of this will be correspondent banking. According to a recent Bank for International Settlements (BIS) report, the volume of correspondent banking transactions more than doubled between 2011 and 2022.
This large business requires safe, secure, and compliant correspondent banking networks. Yet we can see a concentration of the correspondent relationships; the number of active correspondents is declining each year. The BIS report highlights that from 2011 to 2022, the number of correspondent banking relationships dropped by nearly 20%. This decline is particularly pronounced in regions where regulatory scrutiny and geopolitical tensions are high.
According to recent reports by the BIS, the decline is fueled by a convergence of factors. Heightened regulatory pressures, driven by the Financial Action Task Force (FATF) guidelines, demand rigorous compliance from financial institutions. Geopolitical shifts, marked by sanctions and changing alliances, have created an environment where risk aversion prompts financial institutions to sever longstanding correspondent ties.
The limited access to correspondent services isolates certain world regions; the number of active corridors has declined for some countries in those regions by as much as 70%, limiting economic development. The most impacted regions are:
Caribbean: Historically, Caribbean nations have relied on correspondent banking relationships to facilitate international transactions. However, due to concerns over money laundering, terrorism financing, and the small size of these economies, many global banks have withdrawn correspondent banking services, leading to a significant decline in access to the global financial system.
Africa: Several African countries, particularly those with weaker financial systems and higher perceived risks of financial crime, have faced challenges in maintaining correspondent banking relationships. This trend has been particularly visible in regions such as sub-Saharan Africa, where concerns over compliance with AML and know your customer regulations have led global banks to sever ties.
Pacific Islands: Similar to the Caribbean, Pacific Island nations are heavily reliant on correspondent banking relationships and have encountered difficulties as global banks increasingly opt to exit or reduce exposure to perceived high-risk jurisdictions. Limited financial infrastructure and vulnerabilities to financial crime exacerbate these challenges.
Latin America: While some Latin American countries have robust financial systems, others face challenges due to economic instability, political uncertainty, and high levels of corruption. Correspondent banking relationships have declined in certain parts of the region, affecting access to international financial services and hindering economic development efforts.
Middle East: Despite being home to some wealthy economies, certain countries in the Middle East, particularly those embroiled in geopolitical tensions or facing sanctions, have experienced declines in correspondent banking relationships. Concerns over compliance, regulatory risks, and exposure to illicit financial flows contribute to this trend.
Small Island Developing States (SIDS): SIDS, including those in the Pacific and Caribbean, face unique challenges due to their vulnerability to external shocks, limited diversification of economies, and susceptibility to climate change impacts.
In summary, declining correspondent banking relationships affect regions characterized by smaller economies, perceived higher risks of financial crime, regulatory challenges, and geopolitical tensions. Large correspondents are exiting relationships due to the inability to control the risk and address it in a comprehensive way. The respondents desiring to utilize the services and networks of larger correspondents lack the necessary controls themselves, rendering them unable to identify AML issues with their clients.
Regulatory bodies are caught in a conundrum
While regulations strive to combat financial crimes, the strict measures contribute to the decline. The report by BIS emphasizes the need for regulatory bodies to create a balance, ensuring robust compliance without limiting the global financial interconnectedness that correspondent banking relationships facilitate.
The FATF, recognizing the dynamic challenges faced by financial institutions, continues to evolve AML standards. However, the nature of these guidelines, although essential for combating illicit financial activities, has intensified the de-risking phenomenon, leading to the severing of correspondent banking relationships.
As the financial landscape diversifies, AML efforts face the challenge of adapting to new and unconventional payment systems. These systems often operate in the shadows, exploiting gaps in regulatory oversight. The risk of money laundering, fraud, and terrorist financing becomes more pronounced, necessitating a recalibration of AML strategies to combat emerging threats.
5 ways to grow correspondent banking
Enhanced collaboration: Foster collaboration between financial institutions, regulatory bodies, and technology providers. Establishing a unified front ensures the exchange of critical intelligence and facilitates collective efforts in combating AML risks associated with declining correspondent banking relationships.
Regulatory innovation: Advocate for regulatory frameworks that align with technological advancements. Innovations such as artificial intelligence (AI) require adaptive regulations to effectively integrate them into the AML landscape, promoting transparency and accountability.
Education and training. Invest in education and training programs to enhance the AML proficiency of financial professionals. Equipping them with the skills to navigate the evolving financial landscape is crucial in mitigating risks associated with alternative payment systems.
Global standardization: Promote global standardization of AML practices to ensure consistency across borders. Collaboration with international organizations, such as the BIS and FATF, is essential in tackling AML challenges related to declining correspondent banking relationships.
Innovative technologies: Embrace innovative technologies such as decision intelligence to fortify AML capabilities. These AI-driven technologies not only enhance the precision of risk identification but also provide the agility needed to adapt to the evolving geopolitical landscape.
The correspondent banking community faces a challenge in identifying non-customers utilizing their services. One plausible solution involves a system that can connect all the relevant dots, filling in missing pieces of information about non-customer entities.
How technology can help correspondent banking AML
Network generation
As correspondent banking relationships decline, the importance of network AML becomes more relevant. Large correspondents and small respondent banks wishing to cooperate need to build trusted AML procedures enhanced by applicable powerful AML technology. Looking at the problem as part of a network of relationships will help us understand the complex dependencies and hidden risk.
Quantexa's network generation is an award-winning capability used across global banks to detect and minimize the risk associated with their exposure to money laundering and risk as a whole. Global banks working with Quantexa can see the bigger picture and strategically analyze their exposure to risk in time for mitigating action. Hidden networks of connections of non-customer entities are showcased and scored to identify patterns and context, revealing risks that otherwise would have been hidden away from the bank. Network-generating capabilities are a paramount piece of the puzzle, enhancing AML in the correspondent banking world.
Entity resolution (ER) and AI capabilities
In the realm of correspondent banking AML, harnessing the power of AI is especially important. Advanced analytics and machine learning algorithms play a crucial role in identifying patterns and anomalies within large-volume transactions. Additionally, ER technologies enhance the precision of AML efforts and ensure the underlying data that is used by the detection models is high-value. These tools not only facilitate compliance with FATF guidelines but also offer a dynamic approach to combating financial crimes, adapting to the changing geopolitical landscape.
Quantexa's AML solutions provide regulatory-proven capabilities in the ER space. Quantexa's Entity Resolution creates a single customer and non-customer (external entity) view. It includes not only the transactional data and overall exposure of the bank to a given non-customer but also brings into view external and internal data sources, creating a perfect view prepared for further scoring and investigations within correspondent banking. Results across all AML use cases prove that entity resolution rates are as accurate as 99%.
Quantexa's Entity Resolution is enhanced by a powerful suite of various machine learning (ML) models targeted to identify risk within AML (e.g., shell company AI models or mule detection models). ML models are also used to prepare the data and create higher-quality output. One of the most relevant models is dealing with the data quality of SWIFT transactions. It is proven to enhance country detection and entity-type detection from the SWIFT transaction, even when transaction details are incomplete.
The interplay of entity resolution and advanced analytics is the backbone of the correct, targeted risk identification in the correspondent banking world. Implementation and presence of those components will enable banks to grow their businesses, identify the real threats, and expand their footprint even in riskier countries, as the understanding of the exposure to the external party risk will be comprehensively covered.
Conclusion
In the face of declining correspondent banking relationships, the connection between technology and strategic approaches emerges as a light in the tunnel. By understanding the complexity of the problem, addressing AML risks, and implementing proactive strategies, financial institutions can not only mitigate risks but also rebuild relationships. The global finance and correspondent banking system may face challenges, but with strategic innovation, we have the possibility to secure it, making it stronger and more resilient than before.
The decline of correspondent banking relationships impacts underdeveloped economies and creates even greater disproportions in wealth distribution in the world. Addressing the issue will not only raise the profits of the banks but also foster growth for developing countries, creating better living conditions across countries in need. Connecting remote jurisdictions has a great impact on the whole global economy, social inclusion, and support of human rights related to access to food, water, and minimal income.
Technology will play a crucial role in supporting banks in the AML regulatory requirements and reaching those countries with the global financial system, safely and timely.
To achieve this, banks need to turn to solutions like Quantexa's, which look at the risk holistically, employing entity resolution, network generation, advanced analytics, and machine learning to understand data in context and uncover risky patterns. These cutting-edge tools allow banks to stay ahead of the curve, meeting the expectations set by international bodies like the FATF, while adapting to the dynamic nature of global financial geopolitics.
