When The Banker called his Mexico City office at the end of August, Ricardo Velazquez was getting ready to fly to New York to join a private meeting of bankers from around the world. As the head of international banking and trade at Banorte, Mexico’s largest locally owned lender, he was going to discuss possible solutions to the fast-spreading, unintentional effects of ‘de-risking’ on his business line.
Many others in Mexico and Latin America are concerned about this issue. “The problem has become more and more intense this year,” says Luis Niño de Rivera, vice-chairman of Banco Azteca, also in Mexico. “We don’t have precise numbers as yet but I can tell you that many countries are suffering in Latin America because of this de-risking concept. It [means] basically shutting the door, it is saying: ‘I won’t deal with the risk and won’t allow money to flow.’ That’s not a very smart response to a global problem.”
De-risking has become a buzzword associated with banking regulators’ emphasis – particularly in the US – on policies to combat money laundering and terrorist financing, as well as with banks’ reaction to the resulting environment: cutting relations with clients or exiting whole markets that are deemed too ‘risky’.
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“Today there’s great difficulty in getting legitimate remittances in Panama, El Salvador, Honduras, Guatemala and Peru because many international banks are not willing to work with [money services businesses],” says Mr Niño de Rivera. “Mexico is already suffering. Imagine having difficulties in bringing over the $24bn [the value of remittances from the US every year] that help families in this country. Imagine not being able to pay for goods you’re importing.”
Knowledge economy
Inter-American Development Bank head of financial markets Gema Sacristan is indeed seeing the problem spreading from smaller, riskier economies to larger ones. “This is mainly affecting smaller countries and smaller banks in the region. But it can also affect medium-sized and larger banks as US banks continue to implement de-risking policies,” she says. “When international banks exit relations, [even] basic services such as wire transfers and trade finance can no longer be offered.”
Requirements have become ever more granular, with banks expected to know their customers and their customers’ customers and whether any part of a transaction is in any way connected to illicit activities. Rule-breakers have been slapped with exemplar fines. This has helped others decide whether or not to serve a potentially risky client or market: banks might charge several dollars for a transaction, but it could cost them several million or even billion in fines.
Last year, BNP Paribas paid a record $8.9bn over transactions for clients in Cuba, Iran and Sudan that were in breach of US rules. HSBC reached a $1.9bn settlement with US authorities for ignoring the money laundering risks associated with serving certain Mexican customers. Regulatory pressure and a $140m fine led Citi to close the US branches of its Mexican business, Banamex. Between 2013 and 2014, Standard Chartered closed 70,000 small and medium-sized business accounts and ended hundreds of relationships with banks in Latin America and central Europe, according to Lanier Saperstein and Geoffrey Sant, partner and special counsel, respectively, at law firm Dorsey & Whitney. They laid out their concerns on the unintended consequences of de-risking in an article published in the Wall Street Journal in August.
This environment of fear has spread to dealings between Latin American banks too, according to Banorte’s Mr Velazquez. He says: “We have closed a couple of relationships [in the region] as well. If your main trade, your main operations are with the US, then you have to comply with them. Do I really want to do business with Venezuela, for example? [Its profile may] pose a risk to my bank and to my relations with correspondent banks in the US.”
Filling the vacuum
There are also growing concerns that the vacuum left by large and experienced providers will be filled by newcomers that, either because of their size or jurisdiction, may be less responsive to regulatory pressure. Their compliance departments may not be ready to deal with such transactions.
“[A small European bank] offered to export dollars for us to the US,” says one Latin American banker. He says this could easily be the case for smaller US banks that are not yet in the national regulator’s spotlight. “The same could happen for a regional bank in Utah or Wisconsin. This can increase risk on the transaction side [if the bank is new to the business and doesn’t have the necessary controls]. Banks that are not prepared can enter or are already entering the business,” he adds.
Paul Taylor, director of compliance Services at Swift, notes industry concerns that “wholesale de-risking activities could move [correspondent banking] flows to less well-regulated entities or payment facilities”.
David Schwartz, CEO of the Florida International Bankers Association and the organiser of Felaban, an annual Latin American banking event, says he has been spending increasing amounts of time and air miles on discussing de-risking, either in Washington, lobbying authorities to consider the destructive effects of the policy on Latin America, or in the region itself, explaining the policy to individual markets. Surprise has often been the reaction to the latter activities, while the former often fell on deaf ears, he says.
While policy-makers in the US as well as Europe have become more attuned to the issue, so far they are offering few solutions that would discourage lenders to shut down whole areas of risky businesses. In April 2015, the UK’s Financial Conduct Authority noted that banks had stopped offering services to whole categories of customers.
“We are clear that effective money laundering risk management need not result in wholesale de-risking,” it said in a statement, adding that it expected banks to recognise that “the risk associated with different individual business relationships within a single broad category varies, and to manage that risk appropriately”. The statement echoes the views of the US Federal Deposit Insurance Corporation which, in January, encouraged financial institutions to consider customer relationships on a case-by-case basis and urged them to take a risk-based approach in assessing individual customer relationships, rather than cutting services to whole segments of customers. So far, the industry seems unconvinced.
A newer model
For those still in the business, costs have inevitably gone up because of investments in compliance staff, systems and controls. “If you [don’t] close relationships, you’re increasing the price of the product,” says Mr Velazquez. “We’ve seen increases of 30%, 40%, 50% over the past couple of years on payments [to or from the US], depending on the country you’re sending the transaction to. It’s a chain, everybody has to increase it and who pays? The end client.”
However, Wells Fargo's group head of global financial institutions, Charles Silverman, believes that this is simply part of a process necessary to address earlier weaknesses. He also believes that there is a more fundamental issue with the correspondent banking relationship model lenders have adopted so far. It is not just fears of allowing illicit activities through their networks that has damaged the product: banks the world over, but particularly in the US and Europe, need to enforce more stringent rules on capital and liquidity. Inevitably, with or without anti-money laundering concerns, they need to focus on higher margin products.
“Costs have gone up, but costs should go up because we can do a better job with our risk management area,” says Mr Silverman. “But that’s also putting some pressure on the relationship model [based on correspondent banking] because if you’re investing more money on that, your holistic relationship with clients has to produce a bit more to cover the costs.”
But another effect of the de-risking policy is that lenders needing access to correspondent banking relations have come together, as an industry, to propose solutions. Mr Velazquez’s New York gathering is one example.
He mentions a potential international certification as “asort of ISO certification” that would give US counterparties, for example, greater confidence in the compliance systems of local banks, or an intermediate national body that would act as a clearing house and would sit between a Latin American bank and its overseas correspondent relation. Managed by a country’s central bank, it would be tasked with making sure clients and transactions comply with international requirements. The hope is that a US bank might feel more comfortable in dealing with such an official organisation rather than a lender in Mexico with which it had not done business before.
Software’s role
Technology will also continue to help. “The past 10 years have seen the birth of many new solutions in the financial security space, starting with screening technology to prevent terrorist financing, followed by anti-money laundering platforms and software, and more recently the rise of know-your-customer industry platforms. There is tangible interest from banks to collaborate with one another to take on [these] challenges,” says Swift’s Mr Taylor. He believes innovative compliance solutions will be created to reduce cost and add an additional layer of intelligence, using data that goes beyond banking and finance and exploits social networks, for example.
If these solutions keep banks in the business, the initial investments they require will be substantial, hence the concerns voiced about under-the-radar newcomers. But this may also provide healthy growth opportunities for smaller lenders in a position to make the necessary investment, in the US and Europe as well as Latin America.
“I think the banking industry is dividing itself: those who want to continue in the business of international banking and correspondent banking that are interested in investing in human resources, technology and all the controls and the systems, and those who don’t want to do that and will end up out of the realm of moving money internationally,” says Mr Niño de Rivera. He adds that Banco Azteca is very much interested in entering this space. “Our systems are already very precise [for domestic transactions] but we need to make them precise for all products [such as] foreign transactions, money remittances and international payments. We’ve been, for the past few months, assessing how much more we should invest.”
More than any foreign policy on international transfers, big banks’ commitment to Latin American clients will be driven by the economic outlook for those clients’ businesses and home markets. Low commodities prices have shaken the region and badly affected many of its largest and most stable markets.
“Right now, the big commodities decline is hurting Latin America a lot: Chile with copper, Colombia and Mexico with oil, agriculture in Brazil,” says Wells Fargo’s Mr Silverman. “You have to be willing to go with the ups and downs. Our decisions with clients are long term. We’re still pretty bullish on Latin America. We have more resources now than we had five years ago – our [human] resources covering the region have grown by at least 20%.” Hopefully, this was also the prevalent view at Mr Velazquez’s New York meeting.
