Nostro, Vostro, Loro and Mirror Accounts
The Foreign Exchange (FX) market is the most lucrative liquid market involving large-volume trading of foreign currencies. Central banks, investment banks and commercial banks are some of the major players that are involved in the currencies traded in the Over-theCounter (OTC) market.
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The market gets a huge boost with cross-border trade activities relating to tourism, mergers and acquisitions (M&A), etc. Banks dealing in foreign currency or the FX market may open branches in foreign countries and transact in their currencies. However, it is not really feasible to open a bank branch in each and every country where the bank is having an FX market.
To overcome the issue, the best and easiest way for the bank would be to maintain some trading accounts with other banks globally. These accounts are termed ‘Nostro’ and ‘Vostro’ accounts based on the Italian words for ‘our’ and ‘your’ respectively. Nostro accounts are generally held by a foreign bank in a foreign country where the domestic bank does not have its own bank branch.
For example, an account maintained by an Indian bank with a foreign bank. In simple words, it is a cash account held under our name with you. Nostro accounts are held usually in the currency of the foreign country, and this helps in an easy and effective cash management as currency doesn’t need to be converted.
- SBI account with HSBC in the UK
- SBI India opening an account in UBS Switzerland
The currency of a Nostro account depends on the country’s currency where the account is maintained.
Vostro accounts can be defined as “Your account with us”. In this, a domestic bank acts as a custodian of the account of its foreign counterpart. Vostro accounts are maintained in the domestic currency of the domestic bank by the foreign bank. For example, a Vostro account is maintained in Indian Rupee (INR) if India is the domestic country.
- UK-based RBS bank holding an account with PNB in India
- UBS of Switzerland opening an account in SBI in India
Example of Nostro and Vostro accounts:
Let us consider two banks:
- Bank of America (BOA), New York
- State Bank of India (SBI), Mumbai
For SBI, Mumbai, its account in BOA, New York, will be termed a Nostro account, while BOA’s account with SBI will be termed a Vostro account. A Nostro account is opened by a bank with another bank on the underlying statement “My account with you”. In contrast, a Vostro account is maintained by a bank with another bank on the concept “Your account with me” or “My account of your money maintained by me”.
The Loro account derives its name from an Italian word ‘loro’ that means ‘theirs,’ and it is defined as “Their account with them”. Such an account is generally held by a third-party bank other than the account-maintaining bank or with whom the account is maintained.
A Loro account is an account held by a foreign bank in a foreign currency with one domestic bank on behalf of another domestic bank.For example, SBI maintains an account with HSBC bank in UK. Bank of India (BOI) doesn’t have any account with HSBC, UK. The SBI account with HSBC when used by BOI for transactions in the UK is known as a Loro account.
International accounting transactions between local banks and overseas banks are serviced through Nostro and Vostro accounts. This system helps an effective account reconciliation that clearly determines whether the money leaving an account matches the amount spent, ensuring that the two values are balanced at the end of the recording period.
Further, this type of account reconciliation makes it possible to determine whether money is being fraudulently withdrawn from an account. The main advantage of keeping these accounts is that there is no chance of exchange rate fluctuations influencing the transactions. Apart from Nostro and Vostro accounts, there are Mirror accounts.
Every bank maintains a replica of its Nostro account with a foreign bank in its own bank. Such an account is maintained for the bank’s own books and for operational purposes in the local currency. The term ‘mirror’ indicates the purpose of a Mirror account. It maintains complete accounting of all inflows and outflows of forex taking place in a Nostro account of the bank.
The only difference between a Nostro account and its Mirror account is the currency: While a Nostro account is maintained in a foreign currency, the mirror account is maintained in the domestic currency of the bank. For example, if a Nostro account shows the actual credits and debits leading to the funds position in USD, its Mirror account is maintained in INR if the local bank happens to be in India.
Mirror accounts help to know the actual account position. The Mirror account pools funds in the local currency from different Nostro accounts maintained in different currencies with different foreign banks at different locations. The pooling of funds helps the customer earn higher interest returns or minimise the use of operating bank credit lines through inter-entity lending.
Society for Worldwide Interbank Financial Telecommunication (SWIFT)
SWIFT is based in Brussels and is the most commonly used term in international banking transactions. It is basically exchange of standardised financial messages between financial institutions and corporations through a telecommunication platform to facilitate foreign transactions in banking industries. Established by major financial institutions, SWIFT is the messaging standard used in many payment and settlement systems.
It is not itself a payment or a settlement system. SWIFT messaging standards are used by banks, brokers, dealers, corporates, investment managers, etc., to transmit desired information underlying foreign transactions. SWIFT is the banking language that is widely accepted and understood globally in the banking industry. SWIFT messages typically result in monetary transactions between institutions.
With a view to securing appropriate governance and improving risk management, the central banks of the Group-of-Ten (G10) countries have been cooperating internationally in the oversight of SWIFT. The SWIFT Oversight Forum was established in 2012 to share information on SWIFT oversight activities among G10 and ten other central banks.
In addition to strengthening the operational management as mentioned above, it is important for SWIFT, as a provider of international messaging services for financial transactions, to continue to enhance its cyber-security management in a proper and steady manner against the background of growing sophistication and complexity of cyber-attacks in recent years.
Clearing House Interbank Payments System (CHIPS)
CHIPS is a computerised telecommunications network provided by the New York Clearing House Association. It is a large-value wire transfer payment system and acts like an automated clearing house for interbank fund transfers. It is owned by the world’s largest commercial banks.
It works on the principle of real-time final settlement of payments. These payments are termed to be complete or final only after settlement. CHIPS manages a large volume of US dollar cross-border payments. It also widely directs an increasing volume of US domestic payments.
Clearing House Automated Payment System (CHAPS)
CHAPS was introduced in London in 1984. It is an interbank payment system for large-value sterling payments based in the UK. It is operated by UK-based Clearing Company Limited. The working of CHAPS is highly dependent on Real-Time Gross Settlement (RTGS) for its normal operations. It gets its IT infrastructure support from the Bank of England (BOE). It is the same day automated payment system, which is used for high-value payments.
Operated by the Federal Reserve, the Fedwire Funds Service, often termed Fedwire in international banking, enables financial institutions to electronically transfer funds among its more than 9000 participants. Fedwire is US-based and monitors large-value or time-critical domestic and international payments. It is designed to be highly resilient and redundant. It charges small fees to recoup costs from both the participants in a given transaction.
It is not managed for profit. Fedwire includes an overdraft system for participants with approved accounts. It is also known as a national securities book entry system as it conducts real-time transfers of securities and related funds on individual and gross bases.
Its main tasks include issuance, transfer and settlement for all marketable treasury securities for many federal government agencies and GSE securities, as well as for certain international organisations’ securities. It also offers electronic storage of securities holding records in custody accounts. This is known as the safekeeping function of Fedwire.