In 2010, the fastest way to move money on the same day from London to New York was to catch a flight from Heathrow to JFK and deliver it yourself. The average time a cross border payment now takes is 2 hours (quicker than taking the flight at around 7 hours) but some do take much longer. The industry goal is to move towards instant payments across all cross border payment corridors, similar to domestic faster payments that are regularly settled in many countries in under 10 seconds. Speeding up cross border payments is important, but also important is reducing costs and providing access to all.
The journey to achieving greater access and faster and cheaper payments is underway, with the Financial Stability Board targets set for the end of 2027 just 4 years away and still looking ambitious. Where we are today and how we move things forward to fully meet expectations is still up for grabs though some of the pieces are falling into place. In this article, where things stand, explaining the gaps and the targets and considering whether and what kind of innovation could make a difference are all covered, with a focus on sanctions screening.
For a PDF of this article see: The Future of Cross Border Payments – Removing Friction 06:01:2023 FCNPUblished
Cross border payments growth is estimated to be significant at around 5% in the coming years with B2B payments dominating these flows, followed by C2B, B2C and then C2C in terms of value, with consensus estimates at around US$30 – 40 trillion. for 2021/2022, with some estimates even larger. See figure 1 below
Whilst the costs of making cross border payments are significantly offset against the value of the transaction for big business, the time taken to make the payment is the bigger concern, whereas for consumers both the time taken and the cost are real issuers with cost becoming a factor which can lead to financial exclusion especially for foreign workers needing to make overseas remittances.
According to HSBC in 2021, corporate clients are looking for faster and more transparent payments, “whereas treasurers previously sought certainty, transparency and efficiency, now it’s all this and more. There is demand for speedy, friction-free payments to meet evolving business needs. Payments are becoming a by- product of business operations rather than an operation in themselves”. This appears to be a common concern, with 30% of US businesses surveyed ranked delays as No. 1 among their “big five” cross-border pain points, with the other 4 being payment fraud, data security, knowledge of foreign exchange (FX) rates and fees, and knowledge of transaction and settlement. For many, whilst instant payments are the holy grail for others it’s more the lack of certainty whether a payment is stopped and not knowing when it will arrive or the availability of tracking, so improving predictability is key.
As for costs against transaction value (2017: B2B is around 0.1%; C2B is around 2.5%; B2C is around 1.5% & C2C is around 5.4% (see figure 2 in the chart above). For a breakdown of costs allocated to charges for cross border payments see figure 3 in the chart above. Average ticket size for EU cross border transactions in US$ has been falling from US$46,000 in 2012 to US$33,000 in 2016. See figure 4 above. According to the Bank of England, “in some instances, a cross-border payment can take several days and can cost up to 10 times more than a domestic payment”.
According to data from SWIFT, “the average payment processing time is 8 hours and 36 minutes, while the median is only 1 hour and 38 minutes. Of the more than 57,000 potential, unique, end-to-end payment routes that exist on SWIFT, the top 20 routes (ranked by volume) account for 15% of total payments volume and 24% of total payments value. Many of these top routes are well-established links between high-income countries, in which most payments settle within minutes or even seconds. However, on less busy routes, some payments take hours or even days to settle. Payments spend noticeably more time at the beneficiary leg than at the in-flight leg”. See figures 5 & 6 below.
As for the time taken to settle transactions:
- up to 24% of cross border payments only settle next day
- “it is not uncommon for payments to take 2-3 days to reach the end beneficiary”
- “it can still take as long as 10 days to transfer money to different jurisdictions. A payment from the UK to some countries has to go through 4 currencies and as many as 5 banks”.
According to SWIFT, “the main reasons are currency controls and regulatory requirements and market infrastructures at the beneficiary banks [being opening hours and processing hours and operations at beneficiary banks]”.
G20 & FSB Work
Improving cross-border payments was set as a priority for the G20 in 2020, providing important global momentum to solving this longstanding and complex issue. The G20 asked the Financial Stability Board (FSB), working with the Committee on Payments and Market Infrastructures (CPMI) and other standard-setting bodies to develop a roadmap to enhance cross-border payments.
The Financial Stability Board, the BIS, CPMI & FATF as well as domestic Central Banks, SWIFT and other market infrastructure players and Commercial Banks are all working to speed these payments up, working to make them cheaper and more available to all. This is not an easy task. As explained by the US FED:
“Cross-border payments are more complex than domestic payments”
- “with no end-to-end system across borders, cross-border payments typically involve higher transaction fees and longer processing times than domestic payments since the payment needs to travel across multiple intermediaries and financial institutions to perform the currency conversion and settlement of funds”
- “fees are assessed as the payment moves through intermediaries and may not be evident until the net amount is received”
“Systemic challenges are difficult to overcome”
- “compliance with anti-money laundering and anti-terrorism financing regulation is often cited as one of the most persistent challenges in cross-border payments”
- “high cost and complexity related to complying with regulatory standards for various global jurisdictions have reduced correspondent banking relationships that, as a result, erodes access to services”
- “additionally, businesses and financial institutions may face liquidity challenges with trillions of dollars of capital funds in pre-funded transactional accounts (known as nostro/vostro accounts) used to facilitate cross-border payments.”
The CPMI has taken the lead and developed a set of 19 building blocks to improve the current global cross-border payment arrangements.. These building blocks were grouped into five focus areas: (i) commit to a joint public and private sector vision to enhance cross-border payments; (ii) coordinate on regulatory, supervisory and oversight frameworks; (iii) improve existing payment infrastructures and arrangements to support the requirements of the cross-border payments market; (iv) increase data quality and straight through processing by enhancing data and market practices; and (v) explore the potential role of new payment infrastructures and arrangements. See figure 7 in the chart below. According to the FSB, “the first four focus areas seek to enhance the existing payments ecosystem. The fifth is more exploratory and covers emerging payment infrastructures and arrangements” [including Central Bank Digital Currencies (CBDCs)].
In 2021 a number of targets were published covering 4 challenges and 3 market segments, with the end of 2027 for most targets to be reached set, with one also set for 2030. To see the targets and the current state and the gap that still needs to be closed with only 4 years to go see figure 8 below
FSB & Agencies Current Focus – Improving the current system
In October 2022, The FSB, the CPMI & partner bodies have published an update to their work and highlighted 3 overall, interconnected, themes as their focus for the next phase of the Roadmap which are: Payment system interoperability and extension; Legal, regulatory and supervisory frameworks & Cross-border data exchange and message standards. Whilst work to improve the system continues through these and other actions, a lot of effort is being put into looking at a radical potential alternative – Central Bank Digital Currencies.
Central Bank Digital Currencies (“CBDC’s)
According to the BIS, 9 out of 10 central banks surveyed by the Bank for International Settlements (BIS) said that they are at least exploring a central bank digital currency (CBDC), and half are actively developing a digital version of their fiat money. Those banks represent 90% of the world’s economy, according to the BIS. It also follows a broader survey by PwC that found 80% of all central banks are at least considering a CBDC. With cash usage in much of the world being replaced by digital payments and in response to the growth and popularity of privately issued digital assets, or cryptocurrencies such as stable coins, which could compete with governments and central banks, their is merit in looking closely at CBDC’s.
Whilst there are possible use cases for CBDC’s could one of them be for cross border payments?
A number of pilots have been attempted and shown to have potential as an alternative to making payments without using correspondent banks or private sector vehicles to move funds cross border. One recent pilot led by BIS and between China, Hong Kong, Thailand & UAE is known as “mBridge”. In this pilot, 20 banks in Hong Kong, Thailand, mainland China & the UAE used the mBridge platform to conduct 164 payment & FX transactions totalling over US$22 million. A platform based on a new blockchain – the mBridge Ledger – was built by central banks to support real-time, peer-to-peer, cross-border payments and FX transactions using CBDCs. For a graphic representation of current correspondent banking networks and how move money cross border see figure 6 below and for the alternative pilot using mBridge see figures 9, 10 & 11 below.
Figure 10 Figure 11
This pilot has reported that “a common multi-CBDC platform can improve cross-border payment speed and efficiency, reduce settlement risks and support the use of local currencies in international payments”. Another study on CBDC’s suggests costs can be reduced by as much as 80%.
AML/CTF/Sanctions & Use of CBDC’s
From an AML/CTF/Sanctions perspective, mBridge provides the following clarity on roles and responsibilities in this regard as follows: “Each commercial bank participant on the mBridge platform is obliged to comply with applicable laws and regulations in relation to AML/CTF/sanctions. To ensure the commercial participant has taken the necessary steps, the platform enables transaction-specific certification. This certification is provided after an off-bridge process, the result of which is translated into a pass/fail output and attached to the transaction itself.”
This is insufficient and needs much more thought. Whilst participant banks will be able to sign off on their own customers as they do today, both from an AML/CTF/Sanctions perspective, the fundamental change in the nature of the relationships where today commercial banks have bilateral relations to those in the future in mbridge where the central bank is the one with commercial relationships has profound consequences and serious implications.
In replacing the correspondent banking network, with a network of central banks, the central banks will need to take responsibility not only for their domestic banks but responsibility for connecting those foreign central banks and the commercial banks of that foreign country, in the same way that correspondent banks are expected to take responsibility for the foreign respondent banks today which drives a significant amount of compliance costs in the industry today and leads to numerous forms of friction. Whilst a central bank may be in a position to monitor its domestic banks and receive certificates of compliance for transactions, their is an inherent conflict of interest involved which would incentivise central banks to approve transactions from their domestic banks, even when they have information for example about AML/CTF/Sanctions weaknesses at a particular Bank. Further, large money centre central banks will be expected to police the system and become actively involved in third countries central bank, regulatory and commercial bank compliance.
Whilst speed cost and transparency may be compelling using mbridge, if you factor in the costs from the commercial banks and transfer these to mbridge, the benefits become much less compelling AND are in any event unlikely to be accepted. Having transferred AML/CTF/Sanctions risk largely to the private sector, its unthinkable the public sector will want this back.
Focus on improving the Current System
Unless these fundamental challenges are addressed we need to continue to focus our efforts on fixing the current system as best we can. One area where real friction exists and is growing is sanctions, with no actions yet identified and tagged to FSBs 19 building blocks.
Friction from Sanctions
All Banks involved in the payment chain from the ordering customer’s bank through intermediary correspondent banks to the receiving bank are all required and or expected to carry out sanctions compliance checks before the payment can be credited to the account. This is an additional compliance requirement that doesn’t apply to domestic payments. Whilst there are good reasons for doing this, it is largely a preventative control that is highly inefficient, not least due to the nature of how payments are made through sequential banks who all have to carry out the same pre checks. Each Bank is required to screen cross border message data against prescribed lists which are different for each country albeit there are also common names often included. Increasingly large Correspondent Banks are encouraged to screen not only against required mandated lists of names but against lists globally issued by the home country as well as others, including UN, USA, EU, UK, Canada & Australia. Banks are also expected to identify for themselves related companies and persons to those listed and add them as well as other names to so called additional and private lists for sanction screening purposes.
Whilst a necessary preventative control the use of sanctions as a tool is becoming ever more popular and complex for in particular but not only for correspondent banks. Prior to the Russian invasion of Ukraine in 2022 list inflation was already rising at 15% a year and cross border payments volume at 5-6% a year. Thousands of additional names have been added to major lists which have increased the level of sanctions screening across the industry. With stop and check rates depending upon the market corridors between 5-15% and false positive rates after checking above 99.5% this process that was already generating significant friction in terms of cost and speed is not getting better but rather deteriorating. Whilst the answer isn’t going to be to stop using and supporting sanctions, where this is appropriate, action does need to be taken to address the concerns and the serious unintended consequences.
Sanctions Screening must be improved through redesign & industry collaboration
More than 40 Banks and other industry players have identified an opportunity to help co create a new platform, (GSS) where high standards for carrying out sanctions screening & other related activities have been agreed. This breakthrough enables participating banks to avoid duplication inherent in the current system, and by using proven state of the art technologies on alert generation, automating much of the alert disposition process and by embracing information sharing with safeguards GSS can significantly improve both the overall effectiveness and efficiency of sanctions screening. This innovative approach to be delivered through a platform is being made available to all FIs which should attack the friction in terms of costs and speed generated by sanctions screening carried out individually and this will translate positively into helping achieve FSB targets on cross border payments. No legal or regulatory changes are needed in order to achieve these goals, though regulatory and other support is welcome as changes in core compliance activities and those involving cross border payment markets are of course highly sensitive and must be risk managed to a very high degree. With the introduction of ISO20022 message data standards these will in time also play their part.
A lot is already invested in improving cross border payments, from both the public and private sectors with key targets on speed, cost, access and transparency just 4 years away. There is much to gain from getting it right and meeting these targets, but at the same time much to lose if we don’t identity the necessary actions and implement these successfully. With this current state assessment, it’s not clear whether the measures identified, supported and in train to date and included in the FSB roadmap will be sufficient to meet the targets set. Targets set for speed appear most advanced and the gap has already been reduced, but the same confidence cannot be claimed for costs and access. Transparency is less important if we can meet the other 3 targets. Whilst hope that CBDCs may be the answer have been touted, legal and regulatory challenges look insurmountable at present. At least with GSS their is innovation that is likely to make a difference from this year and increasingly in the years to come.
6th January, 2023
Financial Crime News
Note: John Cusack is a co founder of GSS and Chair of the GSS Development Board. The author is one of those that started a conversation in 2018 (after being raised by Hans Peter Bauer) between leading FI FCC Heads and industry leaders about finding a collaborative industry solution to sanctions screening in order to address friction arising from the unintended consequences of a preventative sanctions screening control. John Cusack with others (see below and with many others that followed) recognised the complexities and challenges of existing compliance checks and encouraged broader participation and support to the idea to establish an industry solution through a detailed blueprint and then developing a viable solution which has now become GSS and is in pre production, going live in 2023.