Let me warn you that this post will get technical. If reading about what goes on in the machinery of a bank doesn’t actually interest you, this particular article is not for you.
This post is inspired by a couple of suggestions in comments and on the forums. To a lot (most) people, banks are black-boxes where money goes in one end and comes out the other. What happens in between is akin to witchcraft.
Today, I will go through three big points:
- Core Banking
- Internet Banking
- Wire Transfers
This is a system which is the most fundamental piece to a bank. This system tracks balances on accounts, transfers, transactions. In some cases, this system provides the customer-facing internet banking and even website, but larger banks often segregate core banking away from online banking.
Their services are either hosted in the so-called cloud, which means virtual servers in multiple jurisdictions, or – because cloud hosting may not be congruent with banking laws – be hosted locally with the bank.
One thing to note about especially smaller banks in the Caribbean and Pacific is that they host their core banking servers in the US, New Zealand, or Australia. This may be incongruent with the level of privacy some international investors may seek.
Many banks use their own core banking systems or a combination of own-made and outsourced.
The core banking system is in turn connected or integrated to SWIFT for international transfers or other payment schemes, direct debit networks, clearing houses/networks asuch as FPS, BACS, CHAPS, ACH, SCT, SDD, and so on. It can also have an interface to card schemes networks, such as Visa and MasterCard.
Core banking also touches on compliance systems, which we will return to later in this article.
Similar to core banking, internet banking is often wholly or partially outsourced. Major vendors include the aforementioned and for example Avaloq and Misys.
User interface is often highly customized but if you use enough banks (especially smaller ones), you start seeing striking similarities in features. This is because a lot of banks have purchased the same system and just changes the look and feel.
Security is another thing that sets some banks apart. A surprising number of banks (around 50% globally) still rely on just username or password for logging and making transactions.
Fortunately, two-factor authentication is becoming cheaper to implement and more and more banks are implementing it. Examples of two-factor authentication includes token generator (for example mobile application or digipass), SMS, token card (TAN), and so on.
These systems used to be very difficult and time-consuming to implement but competition has driven the costs down significantly in the last few years.
Why do wire transfers generally take longer with smaller banks than bigger banks?
What it comes down to is how much of the process is automatic and how the bank handles risk.
A common complaint about small banks (mainly Caribbean) is that transactions take long to process on average, and that processing times vary greatly. On the flip side, wiring funds from for example UBS in Switzerland to HSBC in Hong Kong or from Lloyds in UK to Standard Chartered in UAE is practically always going to take the same amount of time (one to three working days).
Large banks like the ones mentioned have built, configured, and integrated their core banking system in such a way that SWIFT messages (or other international payment schemes) are processed automatically and credited to or debited from the recipient’s account without any manual intervention, unless the transaction is automatically flagged for manual review by a fraud or compliance system, for example by significantly deviating from typical transactions to and from that account, triggering a sanctions list check, or coming from/going to a high-risk country.
A small bank will not have this luxury and instead process transactions manually. There are still banks out there in the international financial services sector which require customers to send wire instructions as PDF or Word files, signed by hand. A handful of banks require these documents be sent by fax.
Once a transaction is sent or received, it will very often pass through a correspondent account with an intermediary bank. For example, virtually none of the Caribbean banks hold their own USD despite transacting almost exclusively in that currency. Instead, the funds are held on behalf of clients with the bank’s own bank accounts in the US, often with Bank of America, Wells Fargo, and Chase Bank.
This bank will in turn have its own core banking system and transactions can be held for review here as well. Dealing with a large bank that is licensed to hold the relevant currencies directly will remove this additional step.
This also puts smaller banks at risk of having their correspondent accounts revoked. This is fairly common. Although rarely revoked without notice, small banks often have to work hard to find new correspondent accounts.
Because of this risk, smaller banks will look much closer at transactions. This slows down transaction times since your wire transfer is only going to go out after someone has looked at it. Smaller banks also tend to ask for a lot more supporting documentation since they cannot avail themselves the luxury of automated risk reviews of transactions.
Bigger banks are often more sophisticated because they have more money to spend to infrastructure, whereas smaller banks need to rely on other factors to drive in clients.
Correspondent banking is a risky business for all parties involved. To the account holder, important wire transfers can take unduly long to arrive. To the bank, transactions need to be monitored closely. To the correspondent bank, small banks pose a problem in that they often operate from poorly regulated jurisdictions and transactions typically pose a much higher risk of fraud, money laundering, or other illegal or unwanted activities than direct transactions.
I will return to this topic in the future to discuss application process and other details based on feedback.