FOR MIGRANT workers, sending money home is an expensive chore. They send plenty: remittances to developing countries are set to reach $550bn this year, beating foreign direct investment, the World Bank said on April 8th. Total cross-border transfers to and from individuals and small businesses come to $10trn a year. But a hefty chunk is taken in fees along the way.
American high-street banks can charge over 5% for smallish transfers between major currencies. MoneyGram, an established money-transfer giant, levies 5% for the hop from Britain (sterling) to Ireland (euros). Fees for minor currencies are swingeing. Wiring $200 from South Africa to Nigeria can take days, and costs over 25%. Cash transfers are even worse value.
Now some fintechs are trying to disrupt the cosy status quo. In a world made smaller by Skype and instant messaging, “why does money still go on a donkey?” asks Taavet Hinrikus of TransferWise, a London-based fintech that typically charges a tenth as much as British banks. As yet the newcomers have merely nibbled around the edges. But as incumbents abandon tricky markets, technology improves and financial regulators take aim at unclear pricing, they look set to take a bigger bite.
To send money across borders, banks use “correspondent” accounts they open with each other. When Anna at Bank A wants to wire $10 to Boris at Bank B, Bank A takes $10 from Anna’s account. It then sends a message through SWIFT—a system used by 11,000 banks to communicate—telling Bank B to wire $10 from its correspondent account into Boris’s. The matter is then settled. Money transfers become about moving data, not money.
There is a wrinkle that will be familiar to air travellers. When two banks have no direct connection, the chain of requests has to involve stopovers. Each “airport” levies a fee and makes the transfer go through security, creating delays. That is happening more often. Afraid of falling foul of tightening anti-money-laundering rules, banks are increasing their oversight by shrinking their sprawling networks. The number of active correspondent relationships fell by 16% in the six years to 2018.
That leaves space for fintechs willing to do the due diligence needed to forge their own correspondent relationships. Their costs are lower, too. They generally seek to reduce the “float”—the currency they must hold offshore to match users’ requests. Many of them save by aggregating transfers to net them out against payments going the other way. And, unencumbered by high-street banks’ outdated computer systems, they can be more technologically nimble.
Some use machine learning to predict demand. Small World, a firm based in London, found that migrants send more money home when it is raining where they are living, says Nick Day, its boss. According to FXC Intelligence, a data provider, the best fintechs keep fees below 2%, and much less on popular routes. They are generally faster, too. London-based Azimo does near-instant transfers to over 80 countries.
Remitly, based in Seattle, processes transfers of $6bn a year. But so far, rather than gobbling up market share, remittance-focused start-ups are taking slices of an expanding pie. Most stick to specific corridors and digital channels. That leaves many destinations, and customers holding cash, to decades-old giants like MoneyGram and Western Union, which runs a global network of 550,000 agents.
Western Union is everywhere except in Iran and North Korea, says Hikmet Ersek, its chief executive. The firm, which handles $88bn of consumer-to-consumer transfers a year, is on average 15% dearer than competitors, he admits. But he does not see pressure on pricing, “because no one is in the last mile”.
Challengers have taken a bigger share of transfers between developed countries. TransferWise, which processes $46bn a year, says it accounts for 15% of British consumers’ outbound transfers, beating banks. The banks seem unconcerned: their pricing has not budged since 2015. “The brand equity of big banks still allows them to charge more,” says Daniel Webber of FXC Intelligence.
Opaque pricing makes that easier. Unlike loans, the cost of which is neatly captured in the interest rate, cross-border transfers attract two sorts of charges, a fixed commission and a margin on the mid-market exchange rate. And, like plane fares, fees can rise or fall depending on the timing and amount of the transfer.
Regulators are turning their sights on what they see as a malfunctioning market. Last December the European Commission passed a law that will force banks and firms to disclose markups from 2020. Australia’s regulator is considering a similar move.
Startups should benefit. A study in 2018 found that when fees were clear, the share of consumers who chose the cheapest provider of transfers rose by a quarter. But in the longer term the result may be to change the way incumbents work. In Europe mobile-only banks such as N26 and Monzo already use TransferWise to handle transfers. Their bricks-and-mortar peers should seek similar deals, says Martin Griffiths, head of fintech at Barclays, a British bank, if they do not want to see the market disrupted around them.