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The implications of de-risking on the financial system in Latin America

In May 2018, I traveled to Asunción, Paraguay to present on the implications of de-risking on the financial sector, especially in Latin America. I highlighted what de-risking is, its impact, regional and international groups working on de-risking and some of the potential steps that the industry can take to address the thorny issue of de-risking.

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The implications of de-risking on the financial system in Latin America

  2. 2. DE-RISKING: WHAT IS IT? • A global trend where financial institutions are terminating or restricting business relationships with categories of customers that are deemed high risk. • This trend includes the withdrawal of services from countries that are under geopolitical sanctions. • “High Risk” customers are often non-governmental organizations, politically exposed persons, correspondent banks and money transfer businesses.
  3. 3. WHAT IS DRIVING DE-RISKING? • Since the financial crisis, banks in most countries have faced a combination of challenges that have changed their decision-making. • Banks have had to adapt to a surge of regulatory activity in a compressed time period and de-risking is an increasing concern. • Greater efforts to combat money laundering and terrorism financing. • While banks have more flexibility to develop their own risk assessment and response processes and procedures,
  4. 4. WHAT IS DRIVING DE-RISKING? • Financial institutions have reported that the risk of AML- and CFT-related sanctions are a growing concern. • The shifts in the AML/CFT compliance landscape may help combat money laundering and terrorism, but they also increase costs for banks in multiple ways. • Surveys of banks conducted since 2014 show a clear trend of rising spending on compliance. • With the regulatory changes highlighted above, the typically- lower-margin correspondent banking business line is more vulnerable to supply pressure.
  5. 5. IMPACT OF DE-RISKING • Data from multiple sources suggests that some correspondent banks are de-risking from certain markets and customers. • SWIFT data shows a decrease in active correspondents between 2011 and 2016, with all regions experiencing a continuous decline since 2013. • Emerging market respondent banks do not receive clear explanations for being de-risked and many find recent regulatory complexity challenging.
  6. 6. Financial Stability Board’s Correspondent Banking Data Report found that every region of the world has been affected by de-risking: Eastern Europe (-16%), Latin America (-15%), Asia (-12%) and the Africa (- 8%), being the most affected The FSB report follows the International Monetary Fund’s report “The Withdrawal of Correspondent Banking Relationships: A Case for Policy Action” which reports
  7. 7. ABSA 2016 Survey “Compliance/Regulatory Risk in Financial Activity (De- Risking) in the Americas” Greatest Impact of De- Risking in Latin America: • Remittance services 60% • Correspondent Banking 40% • Trade Finance 28%
  8. 8. REGIONAL ACTIONS TO ADDRESS DE-RISKING: CIASEFIM • An international commission formed by associations of financial services providers in Brazil, Argentina, Uruguay and Paraguay to look for solutions to the “de-risking.” • CIASEFIM has been very active meeting with heads of Central Banks, FATF-GAFI representatives in the region, local regulators, to make them aware of the critical situation their members are facing and come up with feasible solutions.
  9. 9. GLOBAL ACTIONS TO ADDRESS DE- RISKING • Concerned about de-risking the G-20 and the Financial Stability Board (FSB) requested that the World Bank study the reduction of CBRs, which was ultimately translated into an FSB action plan. • Multilateral efforts are part of a broad effort supported by the G-20 to mitigate the potentially detrimental consequences of de-risking on financial inclusion among the world’s poor. • Changes under consideration by European regulators, as well as some proposed in the United States, have the
  10. 10. GLOBAL ACTIONS TO ADDRESS DE- RISKING THE ALLIANCE FOR FINANCIAL INCLUSION (AFI) 2016 Report “Stemming the tide of De-Risking through Innovative Technologies and Partnerships” Lists Nine Practical Solutions: 1. Ensuring the most impacted countries have a voice 2. Global dialogue on constructing a supportive regulatory environment 3. Overcoming the Risk-Reward Dilemma 4. Broader understanding of how impacted countries address de-risking concerns
  11. 11. GLOBAL ACTIONS TO ADDRESS DE- RISKING THE ALLIANCE FOR FINANCIAL INCLUSION (AFI) 2016 Report : 5. Supporting innovation 6. Global policy work/ guidelines advanced to clarify cross- border regulatory expectations 7. Impacted countries to improve standards/provide risk information and reassurance 8. Guidance and policy for identifying/managing risk in correspondent banking relationships 9. Putting in place customer due diligence (CDD) requirements and KYC utilities
  12. 12. CREATIVE APPROACHES TO DE-RISKING • NBFIs new use of ancient settlement mechanisms, hawala- type schemes, where funds are compensated on both sides of a transaction, without the need to move funds across borders. • Foreign Exchange companies are becoming large players providing international money transfer solutions to MTOs and other firms by providing better-than-bank rates on local currency made available in remittance-receiving markets. • Aggregators are providing services to local MTOs whose banks do not allow them to send international wire transfer
  13. 13. CREATIVE APPROACHES TO DE-RISKING • Regulators need more information on de-risking in their own jurisdictions in order to act on facts and not information they hear or read in reports or articles. • Technology developments not only for the KYC, AML & CTF sectors but also in the operational and business development sides. • Regulators and policy makers are looking at NBFIs, alternative financial service providers, especially fintech firms, Digital Financial Services Providers (DFSPs) and Mobile Money Operators (MMOs) as well as promoting partnerships with banks to support financial inclusion.
  14. 14. CREATIVE APPROACHES TO DE-RISKING This more inclusive financial world is mainly fueled by the change that mobile is bringing into the financial services landscape. • TechFin firms, notably Google, Apple, Facebook, Amazon, Microsoft, Alibaba and Tencent) companies, have begun to compete in the finance industry and offer their own FinTech solutions. • MMOs are dominating the mobile financial services landscape in Africa & Asia and starting to impact Latin America including Paraguay with several now offering transactional accounts that exceed the
  15. 15. NEXT STEPS ON A REGIONAL LEVEL Ensure active representation in all global forums in order to influence decisions that may impact the region. Committee of Central Bank Governors to be more vocal and proactive on the issue. Develop and implement a communication strategy to redefine the image of the region from that of “High Risk” to a more positive one. Collaborate within the region to create a harmonized regulatory system in order to reduce information gathering costs.
  16. 16. NEXT STEPS ON A COUNTRY LEVEL Ensure that up to date AML/CTF Legislation is in place and is continuously monitored and enforced. Support training for banks and other financial institutions. Provide close monitoring of the offshore sector to certify that high compliance standards are maintained. Provide sufficient compliance monitoring resources within the Superintendencia and ensure that proactive measures are taken to identify and address AML/CFT deficiencies.
  17. 17. NEXT STEPS ON A COUNTRY LEVEL Maintaining appropriate regulatory capital requirements for short-term, low-risk lending supported by correspondent banking and adjusting Basel liquidity standards (take into account the operational nature of correspondent banking) . Supporting the development of central registries for respondent customer data and reconsider current liability standards for those who use it. Supporting the development of national identity registries for KYC due diligence and use of legal entity identifiers (LEI). Promoting focused adoption of emerging technology-based solutions where relevant and secure including standardization of
  18. 18. USE OF NEW TECHNOLOGIES TO ADDRESS DE- RISKING •Harness new financial and regulatory technologies (fintech and regtech) to reduce compliance costs and an increase risk assessments. •Focus on customer-centric infrastructure to enhance identity verification such as •biometric technology and LEIs; •transparency (for example, Distributed Ledger Technology (DLT)); •interoperability (open-sourced, real-time global
  19. 19. USE OF NEW TECHNOLOGIES TO ADDRESS DE- RISKING •Joint KYC utilities to reduce KYC costs, improve due diligence and CFT/AML efforts. •Big data – improving the capacity for transmitting, storing and analyzing data sets. •Deployment of more advanced analytics and automatic learning capability (such as artificial intelligence). •Multilateral and national regulatory understanding of and engagement with advanced technology is also important.
  20. 20. NEXT STEPS AT AN INSTITUTIONAL LEVEL FOR BANKS ENSURE THAT Policies and Procedures are monitored and enforced Independent Compliance Unit or Officer is in place Staff are well trained and Know Your Employee (KYE) is in place Invest in a risk based automated compliance monitoring systems to facilitate AML/CTF compliance
  21. 21. NEXT STEPS AT AN INSTITUTIONAL LEVEL FOR BANKS ENSURE THAT Create a culture of compliance throughout the organization ensuring that the Board of Directors are fully involved Enterprise Risk Management Framework Ongoing client education programs URGENTLY address deficiencies in AML-CFT framework Work with regulators
  22. 22. NEXT STEPS FOR CORRESPONDENT BANKS Implement measures to mitigate risk rather than de- risk Work with clients to enhance greater collaboration, trust and transparency Provide timely communication of compliance gaps enabling the client to address issues Consider the position of the independent international authorities in their risk-rating assessments Monitor ongoing global policy standards & developments
  23. 23. Gracias! John V Owens Follow me on Twitter @jvowens