Transactions Between Banking Units: Onshore and Offshore

 

 Offshore banking regulations of the country would permit banks to use onshore fund in foreign currency for offshore business. Very recently central bank restricted to transfer fund from onshore, commonly known as domestic banking unit, to offshore banking operations. The notification asked banks to adjust the fund placed with offshore by turns and to complete by end December of this year. Banking services within country are in operation of two types - onshore and offshore. There comes a question why such operations are necessary.

During eighties of last century, export processing zones started operations wherein exports oriented industries were set up. There are three types of companies working in zones - locally owned, joint venture, and fully foreign owned. Financing facilities are not available for fully foreign owned companies operating in zones. To cater the financing need of these companies, offshore banking unit concept became operative on establishment of zones in last century. Offshore banking units could borrow fund, and take deposits from external sources. They could extend loans to fully foreign owned companies in zones, and companies operating outside of the country.

Necessary modifications in regulations are made in 2019 of offshore banking operations. The modifications allowed offshore banking units to use onshore fund which would be 30 percent of regulatory capital of respective banks. As per the regulations, offshore banking can accept deposits and borrow fund from external sources. They are allowed to extend short term loans and take deposits in foreign currency from fully foreign owned companies operating in different zones such as export processing zones, economic zones, hi-tech parks. They are allowed to provide trade financing for other types of companies operating in zones, and non-zone companies. With the permission from central bank, offshore banking can extend term loans in foreign currency to any type of zone companies, and non-zone companies. Extending lending facilities to external parties is subject to permission from central bank. Very recently, offshore banking is permitted to take interest bearing term deposit from persons resident outside Bangladesh. Resident persons and companies can maintain foreign currency accounts with offshore banking provided that they have relations with remitters abroad.

It is clear that offshore banking is basically involved with short term financing supports to fully foreign owned zone companies and trade financing in foreign currency for exports and imports in the form of bill discounting. Other transactions regarding term financing and lending to external parties are subject to prior permission from central bank. Trade finance is basically extended up to a maximum period of one year. It is not clear why fully foreign owned companies are treated differently including financing facilities. Foreign owned companies in non-zone areas can avail short term working capital loan in local currency and transactional facilities for trade. Both are registered under the law of the country. It is said that sales of goods in foreign currency from non-zones to zone areas are treated as exports. But it is a question if such sales should be export unless the items cross borders from zones. Offshore concept would merely be required if fully foreign owned zone companies could be treated as same as non-zone ones. Maybe many things could happen. But the beauty of offshore banking transactions is that they can freely borrow fund from external sources.

Sourcing fund from external sources is not so easy though regulations allow. It is to be mentioned that Bangladesh’s trade is price taker in both cases - import and export. Regulations permit to import raw materials for industrial uses under supplier’s credit. Such credit import is possible but it requires higher cost. It is observed in case of comparison to imports under sight payment terms. Import cost under supplier’s credit is much higher. It indicates that interest cost is embedded with prices. Business insiders say the cost is higher compared to market rate of financing cost. With the authorization of bill discounting facilities by offshore banking units, new dimension in trade sector was evolved. Offshore banking started bill discounting at a prescribed rate lower than trade finance in Taka. The transactions adopted by offshore banking are known as usance payment at sight (UPAS). It means that banks establish usance letters of credit (LCs) with condition that suppliers will be paid at sight. Under the arrangement, offshore banking units make payments to suppliers abroad against documents accepted by LC opening banks. In true sense, UPAS LCs work as buyer’s credit since importers need to bear interest cost against sight payments. Alternatively, it can be said, offshore banking discounts import bills at the cost of importers. On the other hand, usance export bills are discounted by offshore banking in foreign currency at the same model with cost to exporters. 

Trade finance, whatever the term is attributed on it, is a traditional business. Despite, it is one of the major businesses of financial hubs like Singapore, Hong Kong, Dubai and many more locations. Based on documents against confirmed LCs accepted by banks in Bangladesh can be financed by banks operating in financial hubs. In this case, payments need to be settled on maturity along with interest cost, in addition to confirmation charges. What will happen if same business is to be done by offshore banking in Bangladesh against trade settlement? This is a simple question. It can save foreign currency of the country since interest income will be retained by offshore banking. This is the income of the country as a whole. Hence, trade finance by offshore banking is an income wing of a bank. Considering this aspect, offshore banking can be said as foreign currency savers.

Now funding for offshore banking is a question. In terms of regulatory views as noted earlier, offshore can arrange fund. But it is not easy by them, banks arrange fund from external sources for use by offshore banking units. It is cost bearing. In this context, it can be said that banks buy fund in foreign currency at a rate and sell the same as trade finance at higher rate. On payments to original lenders, margin becomes thin. Regulatory authorization to use onshore fund is a panacea provided that fund are available. Onshore fund is readily available since offshore operations are not capable enough due to their dependency only on fully owned foreign companies operating in different zones.

It is to be mentioned that regulatory relaxation widens the scope of offshore business. Import by non-zone entities becomes core business for offshore banking. Based on onshore acceptance, offshore is to make payments to suppliers. Interesting issue is that onshore fund is used to make payments. How the position is to be washed out is a question. This is nothing but some internal transactions. Importers will pay in Taka to onshore banking, which is to be paid in foreign current to offshore for repayment of UPAS LCs settled earlier. Offshore in return will refund the fund to onshore which they took earlier. Settlements at end legs may face challenges. Importers make payments with interest to onshore. In usual process, onshore banks will arrange foreign currency. In absence of liquidity in foreign currency, the transactions will remain inoperative. The same can happen in case of extension of time for settlement of payments by importers.

Whatever the situation is that onshore and offshore are in operation under the same umbrella. No changes are found in balance sheet of a particular bank by settlement of UPAS payments to offshore and realization of the same as placed earlier. On the other hand, it needs to wait to adjust the onshore fund which was lent to resident companies under approval route by offshore banking. In this situation, compliance of the notification is subject to market liquidity in foreign currency.

It becomes an issue if offshore banking is in a position to pay off their liabilities to onshore banking. As said earlier, it depends on market liquidity. Otherwise, offshore needs to look for external borrowing. As a price taker, offshore needs to face higher cost for immediate arrangements of fund. Insider information indicates lenders abroad will utilize the situation. Hence, the proposition articulated in the notification warrants revisits.


Mehdi Rahman works in the
development sector.