What is International Banking? Definition, Types, Authorised Dealers

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What is International Banking?

International banking is a type of banking that takes place across international borders. It is used by both organisations and individuals seeking favourable banking conditions in a global marketplace. International banks can be characterised by the various services they offer, which are quite distinct from those offered by their domestic counterparts.

International Banking Definition

According to the Bank for International Settlements’ Committee on the Global Financial System, international banking is when a bank headquartered in one country extends credit to residents of another country; for example, when a Canadian bank lends money to Americans.

According to Eric Philip Davis, a senior researcher at the National Institute of Economic and Social Research in the UK, international banking includes domestic loans made in foreign currencies, as when an American bank issues a loan to an American resident in Euros, rather than in US dollars.

Banks go international due to various reasons such as attaining low marginal costs, gaining knowledge benefits, utilising home country information services, obtaining regulatory advantage, achieving growth, reducing risks, minimising transaction costs, etc.

Functions of International Banking

Some functions of international banking are as follows:

  • Helping in hedging the exchange rate risk

  • Helping in borrowing and lending in the Eurocurrency market

  • Helping global businesses by lending, financing projects and enabling their economic growth

  • Participating in underwriting of Eurobonds and foreign bonds issues

  • Offering advice and consultancy services on hedging strategies, interest rates, currency swap financing and global cash management

Types of International Banking Offices

Correspondent Bank

A correspondent bank is a bank that provides services on behalf of another bank. The two banks maintain a bank account with each other. This enables businesses to conduct their operations globally through a local bank or its contacts.

Representative Office

A representative office is a small service facility staffed by the personnel of the parent bank to help businesses by providing them information on credit evaluation of customers, local business practices and norms, updates on current economic market conditions, etc.

Foreign Branches

A foreign branch operates like a local bank but is actually a part of the parent bank. Foreign branches are subject to banking regulations of both the home country and the country in which they function.

Subsidiary and Affiliated Banks

A subsidiary bank is a locally affiliated bank that is completely or partially owned by a foreign parent bank. An affiliate bank, on the other hand, is one that is partially owned but not controlled by its parent bank. Both subsidiary and affiliate banks function under the banking laws of the country in which they are incorporated.

Offshore Banking Centres

An offshore banking centre is a country whose banking systems are organised to allow external accounts beyond the normal scope of the local economic activity in the country. The International Monetary Fund (IMF) has identified Bahrain, the Cayman Islands, Hong Kong, the Netherlands, Antilles, Panama and Singapore as prime offshore banking centres.

Offshore banks function as branches or subsidiaries of the parent bank, and their key role is to seek deposits and grant loans in currencies other than the currency of the host country.

These banks are unregulated institutions, that is, they have low reserve needs and no deposit insurance. In addition, they are not subject to interest rate ceilings. These banks benefit from low taxation, low margins, low overheads, little or no pressure from domestic governments, etc.

Internalisation of Banks

The last five or six decades have seen a rise in globalisation, increased trade and spread of multinationals. When companies started to relocate or expand to various parts of the world, banks also started to go global and set up their units in different regions. Companies usually maintain cordial relations with the banks they deal with regularly.

Whenever a bank’s client company diversifies its operations into a foreign country, the bank too likes to accompany the company so that it can establish its network on a wider scale and also provide services to its client company. In the process, the bank establishes several branches across the globe, which helps it to widen its customer base.

In other words, the migration of the local multinational customers of the bank paves the way for the bank to go global. Banks that go global are called multinational banks or MNBs.Through internationalisation, banks can expand their operations across the globe. They provide innovative, cost-effective products and services to gain customer loyalty.

The other benefit of internationalisation is improvement in the flow of capital. Apart from this, internationalisation helps banks create linkages with new investors and borrowers. Such linkages help banks in expanding their businesses in both home and foreign countries.

Authorised Dealers in Foreign Exchange

An authorised forex dealer is any institution that has been authorised by a significant governing body to act as a dealer involved with the trading of foreign currencies. In simple terms, any dealer authorised to deal in forex is called an authorised dealer.

As per Section 10 (1) of the FEMA, 1999, the RBI may, on an application made to it on behalf, authorise any person to be known as an authorised dealer. The person can deal in foreign exchange or in foreign securities as an authorised dealer, money changer or an off-shore banking unit or in any other manner as it deems fit. Authorised dealers ensure that the transactions are being executed in a lawful and unbiased manner.

Some functions of authorised dealers are as follows:

  • Issuing guidelines and rules for forex business

  • Conducting training of bank personnel in the areas of foreign exchange business

  • Accrediting forex or foreign exchange brokers

  • Providing advice and assistance to member banks in settling issues/matters in their dealings

  • Representing member banks on Government/RBI/other bodies

  • Announcing the daily and periodical rates to member banks

Role of Foreign Exchange Dealers

A dealer should not engage in any transaction involving any foreign exchange, which is not in conformity with the terms of the dealer’s authorisation.

The dealer should not undertake any transaction in foreign exchange on behalf of any person, which is designed for the purpose of any contravention or evasion of the policies and provisions of any rule, Act or notification. The dealer should report the matter to the RBI.

Some key roles of foreign exchange dealers are as follows:

  • The dealer helps in the exchange of foreign currencies.

  • The dealer facilitates arrangements with foreign correspondent.

  • The dealer performs buying and selling foreign currencies.

  • The dealer handles trade and service-related transactions denominated in foreign currencies and rupees and also operates Nostro accounts.

  • The dealer is involved in handling of inward and outward remittances.

  • The dealer takes care of opening of the letter of credit and settlement of payment.

  • The dealer handles investment in foreign trade.

  • The dealer aids different customers in opening and maintaining of accounts with foreign banks.

  • The dealer is involved in export documents handling.

Foreign Exchange Dealers Association of India (FEDAI)

The Foreign Exchange Dealers Association of India (FEDAI), which was set up in 1958, is an association of banks dealing in foreign exchange in India as a self-regulatory body. It is incorporated under Section 25 of The Companies Act, 1956. The major activities of FEDAI include framing of rules governing the conduct of the inter-bank foreign exchange business among banks in relation to public and liaison with the RBI for reforms and development of forex market.

Due to the continuous integration of the global financial markets and increased pace of de-regulation, the role of self-regulatory organisations such as FEDAI has also been transformed. In such an environment, FEDAI plays an important catalytic role for smooth functioning of markets through closer co-ordination with the RBI and other organisations like the Fixed Income Money Markets and Derivatives Association (FIMMDA).

FEDAI maximises the benefits derived from synergies of member banks through innovation in areas such as new customised products, benchmarking against international standards on accounting, risk management systems and market practices, etc.

FEDAI regulates the governing rules and determines the commissions and charges associated with the inter-bank foreign exchange business. It is also responsible for certifying India’s foreign exchange brokers and the exchange rates for its member banks. FEDAI regulates day-to-day rules of the forex transactions in India. Furthermore, FEDAI succours member banks by acting as an advisor and supports them with the training of personnel.

Authorised Money Changers

Authorised money changers are the entities that are authorised by RBI under Section 10 of the FEMA, 1999. They are allowed to deal in foreign exchange for specified purposes. The main objective of incorporating authorised money changers is to broaden the access of foreign exchange facilities for residents and tourists while ensuring efficient customer service through competition.

Different types of authorised money changers are as follows:

  • Authorised Dealer Category -I Banks (AD Category–I Banks)
  • Authorised Dealer Category – II (AD Category–II)
  • Full Fledged Money Changers (FFMCs)

Authorised money changers should have licence to carry out money changing business. If any person is found to be involved in money changing business without a valid licence, the person is liable to be penalised. In order to become an authorised money changer, the applicant has to be registered under the Companies Act, 1956. The minimum amount, which is also called Net Owned Funds (NOFs), required for consideration as FFMC is ₹25 lakhs for single branch FFMC and ₹50 lakhs for multiple branch FFMC.

Following are the various money changing facilities currently available in India:

  • Conversion of travellers’ cheques, currency notes, or coins designated in foreign currency into Indian Rupees and vice versa is possible through AD Category-I banks, AD Category-II and FFMCs.

  • All the AD Categories and FFMCs may appoint franchisees (also known as agents) to undertake the purchase of foreign currency.

Role of Correspondent Banking

Banking in general terms refers to local services offered by a bank to its customers, which include account servicing, payments, deposits and loans. A bank may need to have a branch or a network if it wishes to render the same services to the customers who want to travel outside the area of its bank branch.

This can be done if the bank either opens a new branch or makes an arrangement with another bank. Opening of a new branch is not a feasible option if the bank is not looking for expansion. Besides, it will call for a large investment. Entering into a banking arrangement with another bank provides a convenient solution in many banking situations globally.

The banks with which such banking arrangements are made to fulfil the banking requirements of customers are called correspondent banks. Thus, we can say that correspondent banking is an agreement between a foreign bank and a domestic bank where the foreign bank carries out the services on behalf of the domestic bank.

A correspondent bank acts like an agent for another bank. It provides services and products in the area(s) where the other bank does not operate. The customer can even have deposits with and avail loans from the correspondent bank on behalf of his/her domestic bank account.

This helps businesses of all sizes to expand in other regions or countries without having a new foreign account with another bank. Any bank or financial institution irrespective of its size can act as a correspondent bank to provide services on behalf of smaller banks with less reach.

Correspondent banking is an important part of the global payment system. This banking arrangement facilitates foreign currency exchange and payments. The correspondent bank plays a very critical role in transactions that involve international buying, selling or money transfers.

Basic services provided by correspondent banks include:

  • Foreign currency exchange
  • Foreign remittances
  • Trade documentation
  • Money transfers

Correspondent banking enables easy exchange of foreign currency that occurs commonly in the international banking business. Let us take an example to explain the process involved in correspondent banking.

Suppose Mr. A residing in India purchases some products from the US. He makes a request to his bank to pay for products purchased from the American dealer.

Following is the process for making payment through the correspondent bank:

  • Step 1: The bank initiates the necessary foreign currency exchange transaction to facilitate appropriate payment in the currency of the seller after seeking all the required information from the customer.

  • Step 2: The bank deducts the appropriate and agreed amount from the customer’s account as the fee to carry out the transaction.

  • Step 3: The bank sends complete desired information in the agreed format to its correspondent bank in the supplier’s country.

  • Step 4: The correspondent bank pays out the corresponding amount to the supplier on the basis of all the instructions punched in the format.

  • Step 5: The supplier receives the payment in its own currency from the domestic bank’s correspondent account with the foreign bank.

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