For the payments industry, Basel III means strengthening, and and having better oversight over liquidity positions. Alison Ebbage considers the regulatory pressure being placed on banking IT systems in Europe and asks if there are potential new revenue streams in Basel III compliance
The immediate effect of Basel III is to make credit harder to come by and more expensive. As a result the transaction banking sector will need to look hard at business models and take measures to make sure it is making most efficient use of existing liquidity to be able to monitor and trace it more accurately.
While this presents obvious challenges, the upside is that doing so will create opportunities to pass those benefits and efficiencies on to end clients, thus creating an added value service proposition and potentially an additional revenue stream.
The effects of Basel III that under new capital adequacy requirements banks will need to hold more capital reserves, thus reducing available liquidity will mean that banks will be more cautious over who they lend to and on what terms.
As things stand currently trade finance is included in the off balance sheet category, along with credit default swaps. To many in the industry, this seems illogical, since transaction banking is an area that emerged unscathed from the crisis of 2008, where the default rate is low and where the majority of transactions are for less than three months.
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In addition there are no provisions as yet for intra-day liquidity, which is crucial in transaction banking. The situation is clearer in the UK where the Financial Services Authority (FSA) has already dealt with intra-day liquidity on both a real time and a trend basis.
Gareth Lodge, senior analyst in payments at Celent says: In the UK there are 12 or so clearance banks that submit direct to transaction networks all the other banks use those 12 banks as point of access to the system. If the capital adequacy requirements go through this will be an issue, as the exposure of these correspondent banks to credit risk will be higher and the cost of raising capital to carry out business will rise."
Essentially then those correspondent banks will need to find ways to measure and use available liquidity more accurately and efficiently. Its all about making the most of the resources on offer.
Simon Newstead, head of business strategy (financial institutions) at RBS Global Transaction Services, says: Essentially this is about the cost of managing information and the provision of a heightened and more granular cash management system. If you can identify and manage available liquidity then you can make best use of it.
Indeed the positive aspect of Basel III is that by forcing banks to manage their capital more tightly it will bring about greater transparency.
Lodge talks about a glitch in Barclays systems a few years ago where the bank could see its transactions but not their value. The bank had to borrow sterling from the Bank of England in order to be certain it could meet its obligation on its own balance sheet.
Clearly that lack of transparency is not acceptable; the bank was unable to see its own exposures, albeit due to a technical glitch. But more broadly, current systems are not designed to deal with volumes of data that banks now routinely see, the systems are also old and designed around silos that do not give great transparency. Having more transparent systems with a single view of data actually takes a lot of risk out of the whole process as it allows for a holistic view of risk and available liquidity.
Banks will need to know what they have at any one time to meet all their obligations, says Simon Bailey, director of payments and transaction banking at Logica. But with big complicated banks with many business lines getting a real time picture of liquidity is very hard and things change on a millisecond basis. Getting a snapshot is much more realistic so that banks can see where their exposures are and whether they are matching what the bank thinks they ought to be its more about pattern and flow recognition.
A major factor to be overcome is mindset and getting robust management buy-in is essential. Good internal cash management can deliver real benefits. In the UK it already has to be gathered for regulatory purposes, so making it available to all the business areas in a format that makes sense to them is just taking things a couple of steps further. The key is having the right technology in place.
Bailey says: Technology-wise this is more about a layer that can sit over the top of existing silos and provide data to those various silos in a way they understand. It requires a joined-up plan about what needs to be done, when and for whose benefit and that is why ownership of the issue is so important on a bank-wide basis.
Getting technology in place
One way of achieving a clear oversight is by implementing a service-orientated architecture (SOA). SOA works by having a central data hub that receives, stores and send out data in a way that makes sense to each of the areas it needs to go to. SOA has received a lot of attention recently not just in a transaction banking sense but in a making good business sense generally context.
George Ravich, executive vice president and chief marketing officer of Fundtech comments: There has been an avalanche of interest in SOA applications because the technology is essentially a facilitator to allow for process innovation and cost efficiencies. The benefit is that although it is an integration challenge it will bring about better connectivity in terms of linkages to other systems like collateral and cash management.
Ravich cites the Bank of America solution, which is similar to Fedex parcel service clients can go online and track their payments in much the same way that people can track a parcels movements. The service is available both internally and externally. In a payments context this means that internally a bank can see what is available at any given time, bringing down the demand for intra-day liquidity and by extension reducing the cost of doing business.
By extending this new found visibility to clients and adding on additional services designed to further streamline the whole payments process, banks can create a service, rather than a function, and can charge appropriately for it.
Both retail and wholesale clients gain greater visibility over their payments to allow better control, management and ultimately reduce the need for intra-day liquidity – again bringing down the cost of transacting and adding a meaningful service proposition too.
Indeed the service proposition will be key going forward. Ebru Pakcan, head of payments, EMEA, treasury and trade solutions at Citi Treasury and Trade Solutions says: Banks will need to improve on their margin by offering additional services. This could be around simplifying and automating the payments process or allowing for greater control and efficiency – it goes beyond the actual payment into the services area.
Banks will need to rethink their service strategy and wont charge for information itself but will charge for more frequent and better presentation of data.
Another important aspect of this will be the automation of process and reducing paper-based transactions. This works again by reducing costs for the bank as less manual checking is required and it becomes a volume-based equation. And again for clients it is a value-added service.
Better use of electronic data means purchase orders, bills for transportation, invoices etc can all be sent and received in standard format, says Andre Casterman, head of cash, trade and supply chain management at SWIFT. It makes for efficient and straight through processing, which makes for better business and better service.
Clearly then Basel III will present innovation via challenges but in the end the system looks to emerge leaner and more efficient with greater transparency and better able to handle increased transaction volumes while making best use of available liquidity.
But not everyone will gain, indeed those businesses deemed more risky will inevitably end up paying more for liquidity and there is a danger that this could have a negative impact of smaller companies or deals involving emerging economies.
Liquidity will become a scare resource and banks will decide who they want to provide the most favourable terms to in terms on their own and external business lines, says Bailey. This will translate into a broader interbank rate and the cost of liquidity will be very much linked to how risky a line of business is perceived to be. Consequently, users with unpredictable counterparties or market flows will suffer.