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Drop in CBRs Expected to Hurt Global Trade

Correspondent banking acts as “the cornerstone of the global payment system, designed to serve the settlement of financial transactions across country borders,” wrote Henry Balani of technology provider Accuity in a Jan. 3 article.

Balani explains that cross-border correspondent banking relationships (CBRs) assist with “trade finance where goods or services transferred across borders need to be settled, [and] in international infrastructure and aid projects where funds need to be disbursed to vendors and contractors involved.”

Data compiled by Accuity show CBRs have declined globally, going from 360,785 to 223,247 between 2013 and 2016. “That sharp fall in global correspondent banking relationships is especially significant when contrasted with the increase in the number of banks in the same period,” Balani points out. North America and Western Europe experienced the largest drop, 46% and 39%, respectively.

From a banker’s perspective, de-risking negatively impacts consumers’ ability to do business internationally, said Craig Schurr, retired international banker and instructor of FCIB’s International Credit & Risk Management (ICRM) online course. De-risking has increased the cost of doing business and leads customers—corporate or otherwise—to either walk away from doing business internationally or pass on their additional costs in the form of higher prices. Schurr noted that he always makes a point of sharing with ICRM participants how de-risking can impact business. [Click here for more information about the next ICRM session, which starts Jan. 16.]

“Our experience is that the decline in correspondent banking relationships is negatively affecting business worldwide to do business (i.e. payments) in a very fast, efficient manner,” said Lawrence O’Brien, ICCE, and George Curylo, ICCE, of Potash Corp., in a joint comment to FCIB. “Decline in corresponding banking relationships increases cost of wires and abilities of companies to send wires.

“Recently, one of our customers was affected by it and asked for advice on how to send money to us in light of one of their banks not being able [or] willing to send USD wire. While one can understand what banks are trying to do vis-à-vis regulations, it is perhaps regulators that need to hear voices of what that action is causing to doing business [or] payments efficiently. The Dodd Frank legislation has done a great deal of harm to business, and the recent payment slowdown due to lack of bank participation is just another casualty.”

Balani credits regulations, emerging illicit payment corridors and changing payment models for the decline.

“Money laundering, corruption, tax avoidance, human trafficking, arms dealing and financing of terrorism are key regulatory issues being addressed in a coordinated fashion by bank regulators worldwide,” said Luis Noriega, CICP, ICCE, of Wells Fargo. “Sound management of these risks will likely require that financial institutions clearly define the primary markets that they will operate in globally and de-risk and deleverage their balance sheets away from secondary markets where their capabilities may be less robust from a risk management perspective.”

Banks worldwide are reducing their CBRs with a focus on perceived higher-risk countries, including the UAE, according to coverage on www.swift.com of the first Business Forum UAE, sponsored by SWIFT. As a result, more banks have lost access to international financial networks and products, it notes.

“While regulators in mature markets encourage banks to look at risk management at the level of the financial institutions, correspondent banks are applying de-risking to an entire country or even region,” said keynote speaker Osama Al Rahma, CEO of Alfardan Exchange and chairman of Foreign Exchange and Remittance Group. “The impact of de-risking from a whole country in the way it is done at the moment will negatively affect global trade.”

Global Economic Growth

Chris Kuehl, Ph.D.

The consensus view is that the global economy will experience growth in 2017—even growth close to 3%. This means the remarkable string of growth years will continue as it has since the 1950s. Thus far, the world has managed to avoid the catastrophes that brought growth to a halt in previous decades. There have been no great depressions, or world wars on par with World War I and World War II. Prior to 1947, global growth dipped every five years.

There are many reasons for the current growth pattern, including active management of the monetary system and a willingness to spend during recession, as well as the general willingness to spend on the part of government. Continued innovation in developed economies and the process of catching up in less-developed states are other reasons.

What factors could slow down global growth, and are they likely to manifest in the coming year? Generally speaking, three categories of shock are capable of shutting down global growth.

There could be a significant war that paralyses trade on a global scale, which we have not had since World War II. There is the threat of truly global inflation that could thrust price expansion into double digits—something else that has not been seen in decades. It would take a massive shortage of commodities and raw materials to drive inflation that high.

Lastly, there is a financial sector collapse, which is something much more likely. There was enough of a crisis to create the Great Recession in 2008–09; and if there were another and a deeper one, the impact would be as bad or worse. It can be argued that banks are somewhat more secure now than in the past, but be aware that most of the reform efforts were geared to ensure that banks would not have to be bailed out by the taxpayer and relatively little has been done to make them generally stronger. In fact, these restrictions may have weakened banks considerably and left them more vulnerable than before. This is especially the case if the banks engage in any sort of risky behavior. To be secure, they must remain conservative, but this is not the tactic that would be preferred if growth is the aim. Risk-averse banks do not provide the capital that business needs to expand and innovate. The cure for financial sector risk is nearly as bad as the disease itself and may be contributing to the slow growth in global productivity.

India’s Demonetization Policy May Have Worked Too Well—or Not at All

Dr. Hans Belcsák

India is another country where a bumbling regime thought it could take care of a complex problem with a single stroke, only to find out that the collateral damage caused by the move far outweighs any benefits. The consequences from simply voiding large-denomination bank notes in India are not quite as dramatic as they have been in Venezuela’s case, but they are quite disruptive and serious nonetheless.

It all began when Prime Minister Narendra Modi told the country on Nov. 8 that the two largest existing banknotes, the Rs 500 and Rs 1,000 bills, would immediately stop being legal tender and that holders would have 50 days to convert the old notes into new ones. The purpose, assertedly, was to punish “antisocial and antinational elements,” meaning corrupt officials, tax evaders, counterfeiters and the like, as the measure would make their hidden stash of illicit money “just worthless pieces of paper.”

The problem, however, is that Prime Minister Narendra Modi’s step effectively voided roughly 86% of the country’s paper currency–hardly a negligible thing for an economy in which cash represents 98% of all transactions by volume. Additionally, the Reserve Bank of India (RBI) was woefully ill-prepared and has been unable to print replacement bank notes anywhere near fast enough. The regime calls the measure part of a “grand cultural revolution” in a still mostly cash-based society, aiming for a dramatically stepped-up use of modern, cashless payment methods, such as debit cards and what are known as “digital wallets.”

Granted, such a transition would make it much easier for officials to track (and tax) transactions. But India does not have the infrastructure needed to cope with a radical, overnight change of this sort. Its 1.3 billion people hold only about 700 million debit and credit cards, and these have been used mostly to withdraw cash.

Predictably, given all of this, the economy has been hit hard. The RBI issued limited amounts of 2,000-rupee notes, and these have proven to be rather illiquid because the lack of Rs 1,000 and Rs 500 notes makes them extremely difficult to break for change. Many of India’s hundreds of smaller rural cooperative banks are still starved for cash, as are the country’s 93,000 agricultural unions. With this, produce prices have been plummeting.

In some rural areas, Indians have been resorting to barter. Small manufacturers unable to come up with the cash to pay their workers have instead given them supermarket gift certificates. But many of these enterprises ultimately wound up having to close their doors at least temporarily. Much of the country’s real estate business, which used to be conducted on a cash basis, ground to a halt. Sales of big-ticket items such as cars also dried up. In other words, the short-term results of this unprecedented economic experiment have been harsh. It will probably take months to fully restore the nation’s cash circulation, and there is reason to expect that in the end one or two percentage points have been knocked off annual GDP growth this year.

The last day on which people could still convert money was Dec. 31. An initial assessment suggests that more than 14 trillion rupees in old bank notes have been returned out of the Rs 15.5 trillion that were demonetized, which is a lot more than the Rs 10 trillion the Modi administration had expected. To put it differently, the government had thought, thanks to stringent checks for untaxed income, that trillions of rupees would not come back and that those liabilities could then be written off—at the same time mountains of illicit cash would turn into rubbish. It did not turn out that way. Either officials vastly overestimated the amounts of illicit cash in the system or, more to the point, new ways to launder “black” money have been discovered.

This is not to say that the powers that be are at the end of their rope. They have made a number of moves to cushion some of the impact of their measures on poorer workers, given that the ruling Bharatiya Janata Party will have to face several regional elections this year. These include offering higher interest rates to senior citizens, adopting rural housing schemes and providing cheap loans to farmers.

The anticorruption drive will be continued. Its next target will likely be property bought with illicit money and not registered in the name of the true owner. Work will also continue on a plan to replace India’s hodgepodge of local and state taxes with a single goods and services tax (GST), ending the currently widespread problem of goods being held up at state boundaries and turning India into a true single market for the first time. Thought is being given to abolish income tax and replace it with a banking transaction tax, which could go a long way in curbing pervasive tax evasion. For now, though, the economy will have to overcome the nasty effects of an ill-considered and badly implemented currency demonetization.

Global Roundup

Spurt in oil and gas insolvencies as price slump bites. Oil and gas companies are facing hard times with 16 firms collapsing last year, according to accountancy firm Moore Stephens. The firm’s research shows that 16 U.K. oil and gas firms became insolvent in 2016 compared with a total of nine during the preceding four years. This pattern has occurred, the firm said, as “the oil price slump bites.” Oil prices have dropped from $120 (£98) to just under $50 (£40) per barrel for most of 2016. (Insolvency News)

Mexico gasoline protests: Four dead and hundreds arrested during mass looting. Protests and looting fueled by anger over gasoline price rises in Mexico have led to four deaths, the ransacking of at least 300 stores and the arrests of more than 700 people, officials said. Mexicans were enraged by the 20% fuel price rise announced last weekend. While acknowledging the anger, President Enrique Peña Nieto said on Thursday he would forge ahead with the deregulated price scheme, which would do away with fuel subsidies and allow prevailing international prices to determine gasoline prices. (The Guardian)

U.K., China, South Africa downgrade calls loom for Moody's. Moody's is likely to make key rating calls on Britain, China and South Africa among others this year as rising political risk and debt levels push the number of countries on a downgrade warning back to a record high. From Europe's Brexit strains and looming elections to the battles of China, South Africa and Brazil to reorient their economies—not to mention Donald Trump's first months as U.S. president—the rating agency faces a daunting list of decisions. (Reuters)

Emerging market credit risk concerns. The forthcoming environment of subdued and weak profitability against a stronger U.S. dollar and higher hedging costs are likely to pose challenges for borrowers. The good news is that the pace of credit rating downgrades in emerging markets (EMs) eased in the second half of 2016. Yet, the credit worthiness of EM borrowers is likely to remain a source of concern in 2017, points out a report by the Institute of International Finance. (LiveMint)

Global growth likely to support synchronized recovery among Nordic countries in 2017. Global economic Indicators are pointing to higher growth in all major regions at the same time, which is likely to support open economies such as the Nordics. Recovery among major economies is likely to see employment rise and, in most cases, unemployment decline. Recovery in business investment is likely, which has been mostly absent since the crisis years. This should help raise productivity growth both in the Nordics and globally and lead to more demand for Nordic investment goods. (EconoTimes)

2017 Preview: Europe’s security and political risk outlook. For the European Union and the wider European region, 2016 has been a year of intense political, social and economic tensions. The continent continues to be subject to the negative impact of crises affecting neighboring states, as well as growing political rifts within EU member countries. With 2017 fast approaching, European institutions, national governments, private companies and general public are likely to continue to be exposed to a range of security, financial and political risks. (Global Risk Insights)

Tokyo targets EU trade deal by end of 2017. The Japanese government plans to accelerate talks with the EU, aiming to sign a free trade deal with the bloc this year, according to Japanese news outlet NHK. Prime Minister Shinzo Abe’s government had placed great hope on the Trans-Pacific Partnership, a free trade agreement designed to cover 40% of world GDP and one-third of global trade. However, the election of Donald Trump in the United States has endangered the future of the deal, and Tokyo is now seeking to accelerate negotiations with Brussels. (EurActiv)

The African economies to watch in 2017. With the consequences of Brexit and an increasingly inward-looking United States still unfolding, 2017 is likely to be an economically tumultuous year. Some African countries, however, could see sustainable growth beyond the usual narrative of Africa alternatively “rising” and “reeling.” Those “countries that will be successful in 2017—whatever will happen in the global economy—are the countries which are diversifying their economies,” said Richard Attias, a consultant and former producer of the World Economic Forum in Davos. (Quartz)


Week in Review Editorial Team:
Diana Mota, Associate Editor and David Anderson, Member Relations