Strategic dimensions of correspondent banking

Correspondent banking, the provision of services by one bank to another, has been a neglected area of academic research, and literature lacks a comprehensive theoretical framework to describe correspondent relationships. The bulk of previous studies have been conducted in the USA, where the regulatory environment places particular requirements on correspondent banking relationships that are difficult to generalise to countries such as Australia. This paper explores two theoretical frameworks for correspondent banking. The first sees correspondent banking in a financial contracting cost‐reduction framework, in line with theoretical models of financial intermediation. The second framework is based on Dunning’s (1979) eclectic theory of international investment. Correspondent banking is viewed as a strategic tool to be used when a banking firm does not at present possess a full range of ownership‐specific, locational and internalisation advantages. The paper reviews the traditional and modern functions of correspondent banking and the structural arrangements that can be put in place to organise these activities. Case studies of two banks, operating in Australia, are used to illustrate the different strategic and structural approaches that can be utilised in respect of correspondent banking.