Trade Finance Global (TFG) spoke to the Trade and Supply Chain Finance Program (TSCFP) at the Asian Development Bank (ADB), who, in collaboration with Business and Finance Consulting (BFC), laid out how declining CBRs jeopardise these countries’ ability to conduct international trade and receive vital remittances, potentially exacerbating their economic vulnerabilities. 

And since cross-border trade transactions require reliable, functional, and cost-efficient CBRs to facilitate payments between exporters and importers of goods, the risk of their withdrawal represents a significant impediment to trade flows.

Source: Bank for International Settlements (BIS)

PICs have witnessed the steepest relative reduction in CBRs worldwide over the past decade, according to data from the Bank for International Settlements (BIS). Between 2011 and 2022, the number of CBRs plummeted by 62.6% in Melanesia and 54.0% in Polynesia, far outpacing declines in other regions such as Central Asia (27.9%) and Southeast Asia (27.6%).

This trend is particularly worrying for the PICs given their heavy reliance on international trade. Despite their locations, these small island economies have merchandise trade turnover ratios higher than the average for countries eligible for International Development Association (IDA) assistance. Many PICs import a large percentage of their consumption needs, with only Papua New Guinea (PNG), Fiji, and the Solomon Islands boasting notable export sectors.

The decline in CBRs is not uniform across the region. Kiribati has seen a reduction of 40.7% between 2011 and 2022, while the Cook Islands have experienced a precipitous fall of 77.5%. Perhaps most alarmingly, Nauru faces the prospect of losing its sole remaining CBR by mid-2025, when Australian bank Bendigo is set to withdraw from the island nation.

The risk posed by de-risking

This trend towards ‘de-risking’ – where international banks terminate or restrict business relationships with clients or categories of clients perceived as high risk – is driven by several factors. Stringent anti-money laundering and counter-terrorism financing (AML/CFT) regulations, coupled with the small scale and perceived riskiness of Pacific markets, have made many global banks reluctant to maintain CBRs in the region.

The consequences of this de-risking are far-reaching. Without robust CBRs, local banks in PICs struggle to offer trade finance products including letters of credit and documentary collections. Instead, most trade transactions are processed on open account or advanced payment bases, with companies and individuals relying on telegraphic transfers and expensive overdrafts to finance international trade.

Given shipping times to the region, working capital cycles are very long. Many PIC importers must pay at least an upfront portion for their goods purchased abroad due to the perceived risk of doing business with them. However, PIC exporters often have to wait for payment until their goods have reached their clients abroad.

The absence of trade finance products is not solely due to supply constraints. Demand also appears to be limited, with many exporters in the region lacking awareness of these financial instruments. A 2022 survey by Pacific Trade Invest found that manufacturing firms considered high shipping costs and export logistics to most impede exports; access to finance only ranked as the third reason.

Regional lender Bank South Pacific (BSP) and Australian/New Zealand banks such as ANZ and Westpac maintain significant market shares across various Pacific nations. These institutions, with their international networks and strong balance sheets, can potentially mitigate some of the risks faced by smaller, local banks. But these market shares are decreasing, with regional banks – particularly Westpac – pulling out from some PICs.

Source: BSP

However, reliance on these regional players comes with its own risks. BSP, the dominant bank in many PICs, has itself faced pressure on its CBRs following charges of anti-money laundering violations in PNG in 2021. Meanwhile, Australian banks have been scaling back their retail presence in the region, citing regulatory and operational risks.

While it’s unlikely that Australian banks will withdraw completely from the PICs, their footprint is decreasing almost everywhere given large overheads and digitalisation initiatives. They also generally prefer to deal with larger and more established businesses, and those with close links to their home market.

Multilateral involvement

In response to these challenges, multilateral institutions are stepping up their engagement. The ADB has launched a $2 million technical assistance project aimed at improving know-your-customer (KYC) capacity in the Pacific finance sector. The project seeks to establish identity verification databases and an electronic KYC platform to standardise workflows, potentially lowering compliance risks and costs for correspondent banks.

More ambitiously, the World Bank approved a $68 million six-year program, the ‘Pacific Strengthening Correspondent Banking Project’, in August 2024. This investment project financing initiative aims to provide a backstop for the complete loss of CBRs in key currencies for participating PICs, hiring and subsidising a private sector CBR Service Provider that can swiftly fill the gap left by withdrawing correspondent banks.

As a short-term emergency solution, the World Bank project certainly relieves pressure. But crucially, it also reserves funding for a feasibility study to comprehensively design and evaluate a longer-term sustainable solution: a regional payments aggregation mechanism.

In the meantime, alternative payment providers are emerging as a vital lifeline for PIC banks seeking to process international transactions, particularly in US dollars (USD). Companies such as Convera, Mastercard, and Visa are offering foreign currency and payment solutions that allow PIC financial institutions to send and receive money via SWIFT and other payment channels.

Source: BFC, Convera

In some cases, alternative payment providers are the only viable option for PIC to process international transactions in USD. The fact that they don’t facilitate more sophisticated trade finance transactions highlights the temporary nature of these solutions; moreover, if the payment providers’ own correspondent banks impose caps or block transactions from risky regions, PICs could find the rug pulled out from under them.

—

To find a solution to the current situation, PICs will require concerted effort from local institutions, regional banks, multilateral organisations, and innovative fintech providers. The decline in correspondent banking relationships is not merely a technical financial issue: it adds to the geographical isolation which PICs face by hampering their capability to participate fully in the global economy. 

In the post-COVID era, isolationism has grown. But maintaining global interconnectedness begins and ends with maintaining and supporting the sovereignty and resilience of these smaller nations.