BIS Notes Cross-Border Banking Decline Since Bitcoin's Creation
Could cryptocurrencies replace sluggish cross-border remittances?
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The Bank for International Settlements (BIS) has just released its quarterly report, describing dwindling cross-border banking relationships over the past decade.
Correspondent Banking Relationships Falling
Between 2011 and 2018, correspondent banking relationships have fallen by a staggering 20%. Correspondent banking relationships are arrangements in which banks hold deposits from each other in order to settle cross-border payments.
The network of interconnected banks allows banks in different jurisdictions to send messages to each other and settle financial obligations that form the infrastructure of cross-border payments.
This system, which had been the backbone of cross-border money transfers, is gradually retreating.
With the increasing growth in international trade and the impact of globalization on economies everywhere, the pattern of shrinking correspondent banking relationships could dampen global economic activity and threaten vulnerable jurisdictions.
The fall has been attributed to a number of factors.
Firstly, according to the Financial Stability Board, roughly 40% of banks asked in a study cited changing business strategy as a reason for ending relationships with some foreign banks. Another third from the banking community cited profitability or cost-effectiveness issues as reasons for ceasing some correspondent relationships.
Compliance complexity and costs, especially pertaining to anti-money laundering (AML) and combating the financing of terrorism (CFT), also contributed to the slowdown.
The crackdown on tax havens exacerbated these risks, with 22% of banks reporting having ceased relationships due to compliance and reputational considerations.
Technology’s Slow Spread to Cross-Border Payments
The report also explores the numerous advances in fintech, both bank and non-bank, public and private, over the past decade.
Technological developments have focused largely on retail payments. They include front-end solutions positioned on top of established banking networks, such as ApplePay, PayPal, SamsungPay, and GooglePay.
They also expand to more elaborate backend systems that replace banks as intermediaries between payers and payees.
These include Alipay and WeChat Pay in China, and Kenya’s M-Pesa. Fast (retail) Payment Systems (FPSs), which are real-time or near real-time settlement systems, have also been on the rise, especially among emerging economies.
Yet they have failed to penetrate the arena of cross-border transactions.
Growing Role for Distributed Ledgers
Technology-driven solutions for improving legacy financial infrastructure have both contributed to the fall in correspondent banking relationships. These innovations have also served to offer an alternative.
Increased competitive pressures on banks have been one driver in their exiting the lucrative cross-border transaction market, with new technologies creating a range of non-bank options for sending money abroad and across currencies.
With correspondent banking relationships succumbing to regulatory, compliance, and competitive pressures, the BIS sees a potential role for cryptocurrencies and/or central bank digital currencies.
The group argues that:
“The most transformative option for improving payments is a peer-to-peer arrangement that links payers and payees directly and minimises the number of intermediaries. Many peer-to-peer arrangements use distributed ledger technology (DLT). Whereas account-based systems record transactions in a central ledger, DLT systems record transactions in multiple places at the same time, resulting in a decentralised, synchronised ledger.”
Two Potential Crypto Answer to Slow Cross-Border Transactions
Cross-border remittances are notoriously slow and expensive and have the greatest impact on those in less developed countries.
In 2011, the G20 committed to reducing the cost of remittances to no more than 5% by 2014. However, according to the BIS report, average remittance costs are around 6.8%.
Some regions, such as Sub-Saharan Africa, suffer from average remittance costs as high as nearly 9%.
With global trade and remittances relying on cross-border transactions, the Committee on Payments and Market Infrastructures (CPMI) found them to be, “slower, more expensive and more opaque than domestic payments.” Given the reduction in ties between foreign banks, those problems are unlikely to be addressed within the traditional banking ecosystem.
According to BIS, stablecoins could offer one solution to the problems that cross-border transactions face:
“A global stablecoin for retail purposes could provide for faster and cheaper remittances, spur competition in payment services and thus lower costs, and support greater financial inclusion. In this regard, stablecoin initiatives highlight the need to step up ongoing public and private efforts to upgrade existing payment systems.”
The body also sees a potential role for CBDCs, noting that “Central banks are increasingly exploring the desirability and feasibility of establishing their own peer-to-peer systems through digital currencies.”
But are sovereign CBDCs designed for cross-border and/or cross-currency transactions?
According to the BIS, they could be:
“Once a CBDC’s configuration is clear… the question arises whether it can be used only domestically or also elsewhere. The demand for seamless and inexpensive cross-border payments has grown in parallel with growth in international e-commerce, remittances and tourism. A CBDC might come with the same wholesale interlinkage options explored in the current system. This would represent a unique opportunity to facilitate easier cross-border payments, reducing inefficiencies and rents by shortening the payment value chain.”
CBDCs and stablecoins might not be the crypto purist’s idea of an ideal progression from Bitcoin in 2009 to the 2020 landscape of DeFi and the potential emergence of CBDCs.
Yet blockchain-based digital assets are likely to enhance broader enthusiasm for cryptocurrencies in insofar as they gain greater familiarity among the general public.