New Digital Business Model Opportunity for Remittances as Banks Close MTO Accounts?

The majority of these remittances—funds sent by migrant workers to family members in their home country—offer a lifeline to many of the world’s poorest citizens and bolster the economies of many developing countries. Today, the network that supports these transfers is shrinking, even as the need expands.

To explore how this situation developed, what can be done to alleviate it, and how the industry might improve transparency and promote financial inclusion, we sat down with Leon Isaacs, CEO of Developing Markets Associates, Ltd. A 21-year veteran of the industry, his past experience includes working at MoneyGram and Travelex, and serving as Managing Director of the International Association of Money Transfer networks.

Perceived Risk Drives Exit from Remittance Market

Money transfers have been part of the global economy for centuries, in various forms, from letters of credit and correspondent banking relationships to remittances. The current contraction in the industry is the result of two interlocking trends. First is the increased enforcement of anti-money laundering regulations—specifically in the “send” countries, where the money transfers originate. “The $1.9 billion fine levied against HSBC by the United States Department of Justice in 2012 sent a shudder through the global banking community,” said Isaacs. “This has prompted many financial institutions to review the accounts of any client whose activities could potentially give concern that there might be a remote possibility of money laundering. As a result, many accounts have been closed. Cash-based transactions—like many of those conducted by money transfer operators—are of particular concern to banks.”

The second trend driving the industry contraction grew out of the 2008 global financial crisis. “Banks are keen to improve profitability and mitigate risk. Thus, they are scrutinizing their products, services, and clients more closely,” Isaacs said. Here too, cash-based businesses and agent networks—characteristics shared by many MTOs—are of particular concern. Barclays, Wells Fargo, Bank of America, and other financial institutions have curtailed their own money transfer services and have closed accounts held by MTOs. Simply put, according to Isaacs, the small amount of revenue banks make from the MTOs is not enough to overcome the risk to their reputation and bottom line should they be accused of a breach.

Consequences Include Less Access, Higher Cost

The consequences of a constrained remittance environment are already being felt. The smallest MTOs are most at risk of being left without banking facilities because they are the least likely to be able to show—or document—their compliance with existing regulations, according to Isaacs. Removing these operators from the payments ecosystem reduces competition and is likely to increase the cost of remittances for people using these services. The existing cost gap between banks and MTOs can be as high as 27 percent, according to the Australia and New Zealand government-funded remittance cost-comparison website, sendmoneypacific.org.

This likely outcome of MTO closures is coming as the World Bank, in an effort that received strong support from the G8 in 2009 and was endorsed by the G20 in 2010, is pursuing its 5X5 objective to drive down the cost of remittances by five percentage points in five years through “enhanced information, transparency, competition, and cooperation among partners.” If achieved, this could put millions of dollars back into the hands of the needy. The efforts are paying off: In the second quarter of 2014, the global-weighted average cost of remittances was 5.85 percent. Isaacs explained “higher costs are likely to drive people to even more informal, cash-only networks that are less convenient, carry more risk, and provide no consumer protection.” The G20 can continue to play a role in ensuring broader access to remittance services, and financial services of all kinds, as detailed in a June 2014 blog post by the Bill & Melinda Gates Foundation and the Better Than Cash Alliance.

Opportunity for New Business Model

While MTO closure is a great challenge, it also presents opportunities. “In the short-term, it is imperative that industry stakeholders begin to discuss and develop common standards for complying with the Financial Action Task Force’s framework for anti-money laundering and countering the financing of terrorism (AML/CFT),” Isaacs said. “It is also imperative that money transfer operators all work together and speak up for the industry about their desire to comply with AML/CFT regulations, rather than let others speak for them. These actions by both the stakeholders and the MTOs would go a long way toward creating a foundation for more reliability, transparency, and confidence in the system.” He suggested the upcoming Global Partnership for Financial Inclusion (GPFI) Forum in Perth as an opportunity for government representatives, financial service providers, and development organizations to get the ball rolling on the stakeholder effort.

In the longer term, this coordinated approach could be a platform to digitize what remains, by and large, a cash-based system. In the remittancepricesworldwide.org database compiled by the World Bank, for example, 41 percent of remittances are now cash-based, although online and account-to-account services have made inroads and now represent 23 percent and 16 percent, respectively.

Today, the level of technology or automation used by MTOs varies greatly; some are highly sophisticated, others still use paper and pencil. “Right now, many MTOs lack the infrastructure to collect digital payments—card-based, wire transfer, or mobile. Indeed, mobile network operators could be a viable alternative, if regulatory barriers and deeper penetration in rural areas can be overcome,” said Isaacs. “Encouraging MTOs to move away from cash toward digital holds the promise of fostering greater transparency, financial inclusion, access to credit, and financial literacy for people who typically live on the precarious edge of subsistence.”

What is happening in the remittance market is another indication of the need for cross-sector collaboration, and could fuel the increasing momentum for adoption of digital financial services around the world.