Victor Orlovski’s Opinion on the Era of Globalization and the Trends in Contemporary Banking

The material focuses on the difficulties faced by the contemporary financial system and the factors driving the shift away from the Dollar-based economy. Opinion of a venture investor and entrepreneur Orlovski Victor Mikhailovich.

Victor Orlovski: the problem of compliance. What’s in it for the banks?

Today, banks bear an exceptionally heavy burden shifted onto them by the state – the burden of compliance. A banker I know who works at a major US financial institution recently told me that his organization hired 30,000 employees this year for its compliance division alone. Another entrepreneur, an owner of a small bank in France, said that he now had more government supervisors than employees in the international payments department. And by law, the bank has to pay for all these inspectors. Governments have effectively failed in fulfilling their own compliance and anti-money laundering functions and have dumped the responsibilities that they had botched up onto commercial banks, killing businesses and forcing them to refrain from servicing customers.

Thus, the banking system has become a kind of proxy state. In response, the banks have started looking for additional non-market means of support. And this vicious circle, which erodes the essence of the banking business (global redistribution of funds, capital management, transactional function), has been expanding in recent times. The states have not only failed to ensure control of the compliance standards that they themselves had introduced, but have also done nothing to help banks return to market regulation. It seems that everyone – both the states and the banks – are satisfied with the current status quo. But is that really so? I think this state of affairs is detrimental to customers – both private and corporate. The destruction of the international banking system as a trusted environment for the redistribution of funds and payments has turned into a liability for individuals and companies engaged in international business.

What we have is the following scheme of bank operation. Imagine yourself in a country where every store asks you to show your ID and license to purchase a product, and then checks the origin of the funds you use to pay. You come for groceries and are asked to show your ID, your bags are checked, and then scanned in a frame at every entrance and exit. There is no trusted environment. And the stores have to pay for all these additional control measures. How much do you think the products will cost as a result and will you enjoy such a shopping experience? But the problems of modern banking are even more dramatic.

What do banks get in return for their loyalty to the state (what choice do they have)? According to Orlovski Victor Mikhailovich, first, banks get the opportunity to conduct licensed activities. Second, they get access to leverage. Until recently, banks had access to funds given by the state, which were handed out almost toll-free. The banks could borrow $1 from the state and hand out $10 as loans to clients. Ironically, they most often handed out those loans back to the state in the form of public debt financing. Decent compensation for the additional burden of compliance, right?

The obvious problem of modern banking is that of international payments. Today, a customer in Brazil can only pay, say, a supplier in Vietnam in US Dollars. Not because of the infamous Bretton-Wood agreements, but only because there is not enough trade turnover balance between Brazil and Vietnam, as is the case between most countries, or because that balance is highly skewed. As such, banks simply do not have enough liquidity to cater to large volumes of regular payments.

The modern financial system is built in such a way that, for example, a bank in Brazil that conducts international activities must keep a significant deposit on the balance sheet of a bank of the receiving country. As shown in the example provided earlier, the client’s bank in Brazil must have a partner bank in Vietnam with an open nostro account containing a sufficient balance to support the payments of bank customers from Brazil for the transfer and exchange of Brazilian currency for its Vietnamese counterpart. If such payments are few in number, it is not advisable to keep any funds in reserve at all.

The United States, as the world’s largest economy, has trade relations with almost every country. That means customers and suppliers from America sell and buy products worldwide. Accordingly, the banks in these countries have domestic clients that either transfer funds from the US or receive them from there. Thus, the US and the Dollar act as a kind of hub. It therefore makes sense for foreign banks to hold deposits in the US. Conversely, major US financial institutions find it beneficial to keep deposits in foreign banks for maintaining trade operations.

This system can be considered a large international airport hub. There is no point in building a huge airport if there are no passengers passing through it, since they are using it only as a transit route. Both US banks and the Dollar are such a ‘transit’ hub.

Now let us combine these two factors – the increase in compliance and the banks’ mistrust towards each other due to state oppression and the lack of solutions to internal problems in countries worldwide. Let’s not forget about the economy, which is built on the transit of money through the United States, since there is simply no other way to organize those flows.

What we have now is that you are simply not allowed into the airport at the point of transit. And this involves not just you, as a passenger, but the entire airline, since the airport refuses to accept travelers coming from one or more local or regional banks. The result is that your payments stop working and the supply chains of services and goods are disrupted. And this is happening on a global scale.

How do we solve these problems?

According to Victor Orlovski, the problems of compliance and international payments can be remedied using technologies (like Web3.0, or the transition to a decentralized system of international settlements), by creating global currencies as alternatives to the Dollar (such a currency could be introduced, for example, by the member states of BRICS), the opening of new banking systems, and the simplification of interbank exchange. Or, possibly, the pooling of excess liquidity by the authorities, thus guaranteeing the uninterrupted flow of payments.

However, such mechanisms require interstate agreements and will not be easy to achieve. As such, there is no point in waiting for any swift solutions in this regard. Most likely, such agreements will be possible with the further deterioration of the international infrastructure of payments and the complication of the exchange between third countries using US Dollars.

Of course, one would like to believe that the authorities in America will also draw certain conclusions and will try to simplify the exchange of payments through the use of the Dollar between third countries. This form of exchange has been convenient for decades and is certainly useful for the United States. A rational look at this issue would bolster the stability of the global payment system and redeem some trust in the market.

It is also obvious that we live in an era of deglobalization. Starting from the late 1970s up to the early 2000s, globalization had been gaining momentum, as it was becoming easier to do global business with every passing year. After September 11, 2001, the process of globalization started faltering, as the financial crisis grew, and the trend gradually turned negative. Globalization has reversed since the early 2010s, and COVID-19 only reinforced that trend.

Deglobalization is the biggest trend of the last decade, which, according to Victor Orlovski, will continue for another 10-15 years. It will be replaced by globalization again, but it is not yet clear what form that will take. In the meantime, international business, payments and the movement of capital – both human and financial – will become increasingly difficult. We are witnessing both economic and political aspects of such a movement with Brexit, the closure of correspondent relations, the introduction of various local regulations for global companies, and many other manifestations. Compliance is only a consequence of the declining trust between countries, regions, and economic entities. And the winner, as always, will be the one who will be able to quickly adapt and build up the necessary competencies to develop and support international business.