|• Clear & present danger|
• Banks search for dollar alternatives
BNP Paribas’ record $8.97 billion fine to settle allegations it had breached US sanctions on Cuba, Iran and Sudan is the latest and largest in a series of fines that banks have been forced to pay to US authorities.
The seemingly limitless size of potential fines, and the ferocity with which the US monitors banks for processing dollar denominated transactions, are provoking discussions at the highest levels of European banks about the need for, and value of, clearing operations in New York.
Such discussions were already underway after the Federal Reserve published its enhanced prudential standards under the Dodd-Frank rule, which essentially require US subsidiaries of foreign banks to be locally capitalized and subject to local regulation. The net impact is to increase the cost of operating in the US for foreign banks.
“If you’re a bank in New York and you commit an error regarding anti-money laundering or the Office of Foreign Assets Control regulations, you’re subject to a potential substantial double penalty at the state and the federal level,” says Ernie Patrikis, partner in law firm White & Case’s bank and insurance regulatory practice in New York. “This then raises the question of whether it is actually worthwhile having a full branch banking presence in New York or whether it may be better off having banking operations wholly or partially someplace else.”
For most, if not all, major international banks, having a fully operational banking presence in the US, and specifically New York, is not just worthwhile but critical. What may be less important however, is the basic service of clearing US dollar transactions directly through New York-based banking operations.
Foreign banks do not have to have banking operations in the US to clear dollar transactions, but whichever bank they use to do so must be a customer of either the private sector-owned Clearing House Interbank Payment System or the Federal Reserve’s Fedwire Funds Service.
The role of being a direct dollar clearer has historically carried prestige and symbolized a bank’s commitment to the US market. But, as a senior banking executive of a large US bank in London points out, that role now comes at a “very, very hefty price”.
The size of the fines that banks have received from US regulators reflects just how hefty that price can be. Consequently, the senior banking executive says a number of European banks are likely to be contemplating whether or not the strategic and commercial benefits of clearing dollar transactions directly outweighs the risk of being fined severely for lapses in controls.
“There may be 10 to 15 institutions in Europe that would look at the risk reward of being a US dollar clearing bank and may be thinking that given the risk or the cost of this, is this really a business we want to or need to be in directly,” says the banking executive.
“There are a number of institutions that have been fined in association with US dollar clearing, and therefore they may be thinking is there an opportunity to replace a big fixed cost – we have a large New York office supporting this dollar clearing business – with a variable cost of using another bank,” he says. “I would presume there are senior people within those institutions that are asking whether that, strategically, make sense.”
Other French banks such as Société Générale and Crédit Agricole are also discussing US sanctions breaches with US authorities, according to Kian Abouhossein, bank equity analyst at JPMorgan. However, he says that any potential fines are likely to be materially lower, not least because the size of BNPP’s penalty was the consequence “of the large amounts of transactions involved, and significant misconduct from BNP Paribas”. Questions over the strategic importance of clearing US dollars directly are understandable, but as no European or other foreign bank is known to have withdrawn from this business so far, it may be unlikely that any will. Beyond questioning the value of this business, a more pertinent debate is whether European banks think they could set up US dollar clearing infrastructure closer to home, says Patrikis.
“If I were a major European bank, I might be asking whether it is actually possible and practical to establish US dollar clearing in Europe,” he says. “That would be a major undertaking by European banks and would be a major blow to New York as a financial centre. However, considering the costs and penalties related to the payments business, I would be weighing the costs and benefits of clearing in New York.”
Tokyo, Hong Kong, Singapore and Manila are the only official offshore US dollar clearing centres, and the Federal Reserve only allowed them to be set up because of the time difference between Asia and the US.
The time difference between Europe and the US is far less of a hurdle, so justifying a US dollar clearing system on that basis would be tricky.
“I’m not entirely sure what actual need or problem a US dollar clearing system in Europe would address,” says the senior banking executive. “The underlying transactions would still have to be settled in New York. And if you’re looking to Europe because a transaction that wouldn’t necessarily be allowed in New York might pass through here more easily, then I’m not so sure that’s going to pass muster with the Fed.”