INTERNATIONAL PAYMENTS Moving with the Money

INTERNATIONAL PAYMENTS Moving With the Money

MEDICI powered by LTP FinTechs’ Global Knowledge Network 02 TABLE OF CONTENTS

INTERNATIONAL PAYMENTS

MOVING WITH THE MONEY

Executive Summary 03

Introduction 05

Challenges in Wire Transfer 09

Correspondent Banking Problems 14

Introduction to InstaReM 22

• LTP has always had a great interest in exploring the opportunities and challenges in the space of international payments as it is one of the largest business segments of the global financial services industry and one which is being disrupted by the rise of FinTech.

• The international payments market is dominated by banks and MTOs (money transfer operators), with the non-cash segment being governed by the existing system of SWIFT-based wire transfers.

• The segment represents a massive market, great opportunities, and very promising players. However, there have been some recent developments in the area of correspondent banking relationships; they’re being affected by the changing regulations and increasing concerns on money laundering and terror financing.

• In this report, we discuss some of the major challenges and loopholes in the existing wire transfer process of making international payments with a focus on recent developments.

• Through our study, we address the reasons why wire transfer-based payments are gradually losing their shine among modern-day consumers. We highlight the problems faced by banks and present a solution for them to recapture their share of the market through collaboration with one of the leading FinTech startups.

• Our research has been funded by InstaReM, but the views expressed in this paper are those of Let’s Talk Payments, reflecting our independent analysis.

Introduction: INTERNATIONAL SECTION ONE PAYMENTS 05 INTERNATIONAL PAYMENTS A BRIEF OVERVIEW

• With a current market size of $28.6 trillion, international payments is one of the fastest growing segments of the modern financial services industry. • The major components of international payments are consumer remittance, cross- border e-commerce, global workforce compensations, B2B vendor/supplier 7.45% $1 Trillion payments and import/export by SMEs and large enterprises. Global average cost Cross-border • Additionally, international education ($53 billion market), international healthcare of sending e-commerce sales ($40 billion market) and international real estate also contribute significantly to the remittance per year ever-expanding scope of international payments. • The market for consumer remittance is large and growing, primarily driven by the increasing globalization of economies with the cross-border movement of people. The World Bank attributes 10% of the top 25 developing countries’ GDP to 40% $5.6 Trillion remittance inflows. of global payments’ • However, for the first time in recent history, the consumer remittance volume saw a Market size of transactional revenue SME-driven significant dip for two consecutive years (2.6% in 2015 and 1.2% in 2016). This dip is comes from cross- international largely attributed to lower oil prices, weak economic growth in GCC countries and border payments payments the Russian Federation and weakening of currencies (euro, pound, ruble, etc.) versus the US dollar. This has resulted in a stalled growth of international payments over the past two years.

Source: World Bank, LTP Research & Estimates

• Over the years, globalization and freelance economy have pushed the DRIVERS envelope of international payments. Today, there are scenarios where an Indian company is handling the digital marketing of a US-based corporate, • The rising shift from informal to formal electronic channels or a freelancer from Pakistan managing the social media for an Australian of payment. • Increasing global trade: freelancing, global workforce, company. outsourcing, cross-border supplier payments and global e- • As the market grows, the evolution of technology has resulted in an commerce. exponential rise in internet and mobile-aware customers, and has brought a • Increasing internet and mobile penetration, driving the growth of online services and MTOs. dynamic change in customer needs. • Financial inclusion of the underserved segments, driven by • The need for seamless, low-cost and transparent money transfers is being technology-led financial services. followed by an increasing demand for a superior customer experience – something the payment systems could not meet with the existing processes INHIBITORS in place. • Money laundering activities, majorly associated with cash • Banks which have been leading the money transfer market since their transactions has led to tighter AML/CFT-related regulations, especially in the ‘sending’ countries. inception have begun to realize the changes in customer needs. They are • These tighter regulations and exchange control by certain responding to the increasingly digital world in which a growing number of countries is giving rise to black market exchange premiums their customers live. and informal remittance channels. • De-risking in international correspondent banking. • However, the existing system of wire transfer is broken and the gaps are • Anti-immigration sentiments in several high-income, slowly being exposed by the rise of agile, innovation-driven FinTech startups. remittance-sending countries.

• The umbrella of international payments covers four major categories, ENTERPRISE CONSUMER based on the sending and receiving entity: B2B, C2B, B2C, and C2C. PAYING PAYING • Banks have been the custodians of customer relationships in the Supplier E-Commerce financial services space by means of their vast international network and ENTERPRISE Payments Purchase RECEIVING reach. They handle the majority of international payments by leveraging (B2B) (C2B) this. • However, the non-bank market has gradually been captured by large Payroll MTOs (money transfer operators) like Western Union, MoneyGram, and Consumer CONSUMER Retirement Ria. Between them, they operate 1.1 million retail locations across 200 Remittance RECEIVING Benefits (C2C) countries. (B2C) • The past few years have seen the emergence of a number of exciting FinTech startups who have revolutionized the market with their online and mobile offerings by way of lower fees, transparent FX rates and In this report, we emphasize on better speed of delivery, thus delivering superior customer experience the opportunities and challenges in and ease of making payments. the international payments made • The FinTech innovators were initially seen as a threat to the incumbent through banks. banks. However, in recent times, the market has seen the trend shifting towards a collaborative model, promoting bank-FinTech partnerships.

THE CHALLENGES SECTION TWO 09 THE PROCESS OF… SENDING CROSS-BORDER PAYMENTS IS BROKEN

There are multiple intermediaries for sending a simple cross-border payment

SME/RETAIL CUSTOMER C) CORRESPONDENT BANK D) LOCAL CLEARING • $900; Equivalent of INR received.

• Customer must pay a • FX: $30 (3%) supplier in Indian rupee (INR) INR Transaction Fee: $40 Agency Fee: $20 • Instructs bank to send INR Lifting Fee: $10 payment to supplier • Funds their payment in USD E) BENEFICIARY BANK • Potentially many “hops” with accumulating fees $1000 • Limited transparency for all parties

A) FINANCIAL INSTITUTION B) INTERMEDIARY BANK • Delays in settlement and BENEFICIARY deposit • FI deducts payment amount FI’s Global Payment Provider from customer and using • Multi-faceted compliance SWIFT FIN, and instructs the requirements intermediary to INR send payment $/£/€ Indicates payment charging points

• Very high costs involved in • The wire transfer process is • In the case of any • Clearing of funds for low- the wire transfer process, opaque and does not allow discrepancy, most banks ask value, high-volume including processing fee, the sender to check the customers to wait for 5-7 payments may take months inward payment fee, FX status of money transfer at days after making the in some cases. markups, commissions, etc. any given time. Also, there international payment. • Late payments of invoices • These costs can get heavily isn’t much clarity on FX • Most banks are not available incur financial and compounded in the case of rates. for 24/7 support. administrative costs and can low-value, high-volume • Most of the transfer fees are negatively affect cash flow transfers. hidden. and business growth for SMEs and enterprises.

COST OF MAKING TIME TAKEN FOR MONEY LACK OF TRANSPARENCY CUSTOMER SERVICE INTERNATIONAL PAYMENT TRANSFER

Banks need to find a solution to lower the There have been cases where a payment In the age where customer experiences Modern FinTech startups are coming up costs to avoid losing their market share of $1000 got rejected due to problems in define the profit margins, banks really with innovative models, which ensure to modern FinTech startups who provide payment clearing, and the sender need to step up and provide better instant money transfer by means of local payment services at a very low cost (up received only $964 as a refund, as the customer service. bank partnerships. to 8x lower than banks). transfer fee was deducted even though the transfer failed.

• The wire transfer process • The correspondent banking • Post the global financial • The stringent AML/KYC has many intermediary system is opaque, with no crisis, the stringent regulatory changes, along banks, making the money standard process in place, regulatory norms and with the increasing risk, is transfer complex with due to the involvement of sanctions have caused an forcing large banks to multiple payment systems multiple payments systems. additional cost burden for withdraw from their and regulatory norms. • Respondent banks do not banks for AML/KYC/CFT- correspondent banking • Payment information often have a direct access to their related compliance. Some relationships (CBR). gets lost during the flow in nostro accounts with the large banks have paid heavy • The withdrawal of large such a complex process. correspondent banks, fines for violations on this banks from CBRs had a leaving a scope of delay in front. grave impact on small accounting. banks, MTOs and their retail/SME customers.

INCREASING COST OF DE-RISKING OF TOO MANY INTERMEDIARIES LACK OF VISIBILITY COMPLIANCE CORRESPONENT BANKING

The complexity of the wire transfer The lack of visibility results in The cost burden on banks is essentially The recent shifts in correspondent banking process with cost associated with each redundancy and high reconciliation carried forward to the customers, thus relationships have major impact on smaller intermediary bank often makes efforts with delay in settlement due to increasing the cost of making banks, MTOs and subsequently, the end- international payments a long, costly and the messages being transmitted across international payments through wire customers/SMEs. We will discuss this in cumbersome affair. the system once a day. transfers. detail in the other sections.

Customers and regulators are End-customers are increasingly demanding pushing for better payments service Domestic payments are going real-time

Regulatory intensity and increasing costs Banks rationalize their correspondent banking network Network rationalization

Disintermediation Small banks and MTOs are losing their nostro accounts Enhanced value proposition

Connecting the Dots: CORRESPONDENT SECTION THREE BANKING 14 CORRESPONDENT BANKING A BRIEF OVERVIEW

• Correspondent banking is a network of banks located across countries, with one foreign bank (nostro bank account) processing the payments and other Payment financial operations on behalf of another domestic (Vostro bank account) System bank, in multiple currencies. B.5 B.6 B.7 • Correspondent banking forms the core of the international bank wire transfer via SWIFT. The money flows through the network of banks and multiple BANK A BANK B BANK C payment systems across different countries. 3 A.6 • Any international payment involves multiple banking interfaces, with each 1 2 4 A.5 A.7 8 Mirror Mirror bank being in different countries, having different payment systems governed Payer’s Account Account Receiver's Account Account Account Bank A Bank C Account by different regulations. Bank B Bank B • Moving money between the banks (in the current scenario of tight vigil over the source of foreign payments) takes a good deal of time as well as increases 1. Debiting of payer’s account with Bank A costs. Thus, the wire transfer process takes time and has a high processing 2. Crediting of bank B’s mirror account with Bank A, which is kept for accounting purposes fee. 3. Payment message from Bank A to Bank B via telecommunication network 4. Debiting of bank A’s account with Bank B • However, the correspondent banking relationships across many geographies are being withdrawn. A. Use Correspondent Bank Only B. Involvement of Payment System 5. Crediting of Bank C’s account with Bank B 5. Payment message from Bank B to 6. Payment message from bank B to Bank C payment system via telecommunication network 6. Settlement via payment system 7. Debiting of Bank B’s mirror account with 7. Payment message from payment Bank C, which is kept for accounting system to Bank C purposes 8. Crediting of receiver’s account 8. Crediting of receiver’s account with bank with Bank C Source: IMF, LTP Research

• In recent years, several countries have seen the withdrawal of correspondent 75% of large global banks reported that they had withdrawn from CBRs banking relationships (commonly called as de-risking) by large global banks, which has led to restricted access to financial services access for a section of customers LOCAL BANKS (ALL REGIONS): VOSTRO ACCOUNTS and business lines. 10% Decline 10% • Large banks (e.g. HSBC, JP Morgan Chase and BNP Paribas) are spending at least Increase 5% $8 billion annually on AML/CFT compliance. Some of these firms have paid huge No Change fines in the wake of non-compliance-related violations. This has led to the 75% No Data Provided reconsideration of business models based on risk assessment, and the subsequent impact to their CBRs. 80% of banking authorities have indicated that US Dollar wire transfers have • The withdrawal of CBRs reflect banks’ business decisions based on their been affected… assessment of the profitability and the risk of the relationships. These decisions BANKING AUTHORITIES (ALL REGIONS): PRODUCT IMPACT have been shaped by the changing regulatory, supervisory, and enforcement (% of authorities reporting on impact) environment post-global financial crisis (GFC) and the resulting increases in overall International Wire Transfers compliance costs. 80 47 • The emerging markets in regions like Africa, the Caribbean, Central Asia and the Check Clearing 39 Pacific have been the worst hit by this trend. 36 Cash Management Services 34 • Some of the major factors influencing the shift in the modern CBR landscape are: 32 • Re-evaluation of risks and profitability FX Services 29 • Changes in the regulatory and enforcement landscape (AML/CFT ) 15 • Increase in compliance cost Lending 12 • Unfavorable macroeconomic conditions (i.e., low-profit margins due to falling 0 20 40 60 80 100 Source: World Bank Report interest rates, reducing incentive for remittance in low-volume countries)

• Globally, the number of correspondent banking relationships has declined by 25% in the period of 2009-2016. CBR TREND ACROSS MAJOR GEOGRAPHIES • Large banks and FIs in developed countries are increasingly reluctant to pursue

business in high-risk geographies. As a result, they are losing their service Global decline in China 2246 revenue to local, smaller banks in those geographies. CBRs: 25% • Global bank locations in developing economies have increased by 31% since The growth of CBRs in developing 2014, largely due to growth in China and APAC. APAC countries (especially China) 3355% • While USD continues to be the currency of choice, the rate of decline in the has slightly compensated for the huge decline in the US (31%) and number of USD relationships further accelerated with a drop of 13% between 65 2015 and 2016 from a decline of 2% between 2014 and 2015. EU (44%) region. 2009 2016 • The decline in US CBRs hints at a higher concentration of USD relationships among fewer correspondent banks. This, however, also hints at a decline in USD US 126502 EU dominance. 106050 31% • There have been some unexpected trends in the eastern developing countries in 44% 72619 APAC where the correspondent banking relationships have grown significantly. 70292 This is due to the rapid expansion of the banking infrastructure in these countries post the global depression in 2008. • China has seen a huge growth in the number of CBRs, from 65 in 2009 to 2,246

in 2016. This has enabled the banking establishment to support the local 2009 2016 2011 2016 businesses and grow together, contributing significantly towards the GDP Source: Accuity Research, LTP Estimates growth.

• Smaller banks and MTOs have lost their nostro accounts and are finding it Local banks have reported that money or value transfer services and small difficult to run a sustainable business in the changing payment landscape. The problems faced by them include delays of wire transfers, increased fees, and medium-sized exporters have been most affected… account closures, and refusal to open accounts. • Loss of CBRs could have an impact on the availability of banks’ funding from LOCAL BANKS (ALL REGIONS): CLIENT IMPACT foreign sources and their ability to provide foreign currency loans for trade (percent of local/regional banks reporting on impact) finance and/or service their foreign currency denominated debt, compounding existing bank vulnerabilities. MVTS and Other Remittance Companies 55 • Alternative arrangements are being made by banks and MTOs for moving Small and Medium Exporters 31 money across countries, which puts an additional burden of cost on them. These costs are carried forward to the customer, resulting in high transfer fee, Small and Medium Domestic Banks 16

thus making international payments costly for the end-customers. Money Exchange Houses 3 • The pressure on CBRs is accentuating financial fragilities in affected countries by Financial Institutions 1 concentrating cross-border flows, which may pose financial stability risks undermining growth and development prospects. Politically Exposed Persons 1 • MTOs, small and medium-sized exporters, and small and medium-sized Importers 1

domestic banks are the most affected business lines from the withdrawal Corporate Clients 1 of CBRs. 0 20 40 60

Source: The World Bank (2015a)

Apart from the banks that are on the verge of losing correspondent banking relationships, the banks with these relationships in place are also facing a number of challenges due to some of the flaws in the way the system works.

SLOW HIGH INCREASING SIGHTING LACK MOVING, RECONCILIA- COSTS OF OF LEGACY TION OF FUNDS VISIBILITY SYSTEMS EFFORTS CBR

The payment instructions The age-old problem of Respondent banks do not High account & transaction In the wake of the current and messages between the legacy banking have direct access to their volumes, process trends in de-risking, respondent and infrastructure creates a nostro account with the complexity, a multitude of respondent banks have to correspondent banks are hindrance for the correspondent bank. The data sources, lack of bear an extra cost of sent once a day, which establishment of an agile account information is common message standards covering risks for their creates a hurdle in process of making obtained on a request basis, and ever-changing correspondents in order to settlement and international payments. which makes the process regulatory requirements maintain the relationship. reconciliation of the nostro opaque. create the need for This cost eventually results accounts with these banks. increased reconciliation in the increasing cost of efforts for international remittance. payments.

© LetLet’s’s Talk Payments, LLC | Copying or distribution without written permission from Let’sLet’s Talk Payments is prohibited 19 INTERNATIONAL PAYMENTS PAVING THE WAY AHEAD FOR BANKS THROUGH COLLABORATION

Banks must leverage the superior technological capabilities of these New-age FinTech FinTechs and combine it startups are disrupting with their reach and the market with their Increasingly, various customer relationships innovative offerings, players are realizing to deliver a next- solving the biggest In the current landscape, that collaboration generation financial problems the banking smaller banks and MTOs and partnerships experience to their community faces, be it have a mountain to climb between banks and customers. tighter regulations, as they find their way FinTech players is the flawed payment forward towards a much- way forward. systems, needed increase in profit reconciliation, etc. margin in their international payments business.

© LetLet’s’s Talk Payments, LLC | Copying or distribution without written permission from Let’sLet’s Talk Payments is prohibited 2069 KEY USE CASES MULTI CURRENCY WALLETS A number of FinTech players now offer multi-currency wallets which can be seamlessly integrated with a customer’s existing banking interface and prepaid account through APIs. This enables the bank’s customers to pay in local currencies while abroad via their existing debit or prepaid card. Money can be seamlessly converted and transferred between these wallets across currencies.

TWO WAY MONEY TRANSFER The major cost and delay in the process of international payment is attributed to the cross-border money movement. This, however, can be avoided if the money never leaves the domestic country: by finding a reverse payment processed from country B to A, for every payment made from country A to country B, and settling the accounts mutually. This saves the FX conversion costs, clearing cost and a lot of time.

REMOTE FINANCIAL ACCESS Some players offer remote payments processing and other banking services, along with services like taxation handling through remote residency. This is mainly aimed at location-independent entrepreneurs such as software developers and writers. This enables customers to make payments and bank locally in a foreign country. This model will involve digital monitoring of financial footprints of its users, and a high focus on AML/CFT regulatory norms.

Introducing SECTION FIVE INSTAREM 2269 INSTAREM OVERVIEW

InstaReM is one of the LARGEST DIGITAL CROSS-BORDER payments providers

GLOBAL HQ EMPLOYEES OFFICES COVERAGE GLOBAL CUSTOMERS

9 Offices in Singapore 100 + 10 Countries 50 Countries 20k +

1 2 3 4 All credit transfers are Bank can log into the portal A unique account number is Bank can withdraw the funds directly credited to the to get a status of each of the allocated to the bank in their chosen currency account transactions

InstaReM front end system Overseas and local payments Sends to Bank AUD for Bank Nostro can be made by making payment instructions through AU MERCHANT 1 Bank the platform NOSTRO Account Balance and transaction summary

HOUSE Download reports in chosen Sends to Bank AUD CLEARING Credit Received via: formats Nostro AU MERCHANT # 1 AU MERCHANT 2 AU MERCHANT # 2 AU MERCHANT # 3 Connect to bank’s system through API Guarantee of exact amount to LOCAL PAYMENT NETWORK PAYMENT LOCAL Funds are held in an approved Instant notification of receipt Sends to Bank AUD beneficiary deposit-taking institution of payments Nostro AU MERCHANT 3

© LetLet’s’s Talk Payments, LLC | Copying or distribution without written permission from Let’sLet’s Talk Payments is prohibited 2469 COMPARING INSTAREM TO THE TRADITIONAL CORRESPONDENT BANKING NETWORK

Traditional Correspondent InstaReM Banking

VISIBILITY Get complete visibility of all the Daily reports on the funds received in inward payments 24/7 the account

Dependent on the correspondent bank SPEED Full access and control of the funds for movement of funds and reporting

State-of-the-art tech platform with API EASE Low-tech involvement connectivity

Rapid movement of funds, same day TRANSPARENCY Leverages existing payment rails or within 24 hours

$ $ € ₤

AUTHOR DIWAKAR MANDAL Senior Industry Analyst Lets Talk Payments, Bangalore (India) Phone: +91 8297218444 [email protected] www.gomedici.com

For any other enquiries about LTP, Please contact

SUBHAGINI CHAUDHARY NICOLO PETRONE PATRICK RIVENBARK Business Development & Partnerships (SE ASIA) Business Development & Partnerships (EMEA) Strategic Partnerships Let’s Talk Payments, Singapore Let’s Talk Payments, Milan (Italy) Let’s Talk Payments, Charlotte (U.S.)

Phone: +65 91353252 Phone: +39 3391457094 Phone: +1 7049045671 [email protected] [email protected] [email protected] www.gomedici.com www.gomedici.com www.gomedici.com

ADITYA KHURJEKAR CEO & Co-Founder at LTP [email protected]

AMIT GOEL MD & Co-Founder at LTP [email protected]