Even if a bank has branches or related businesses in several jurisdictions, assets held in a foreign exchange account in a country with a corresponding account are held either with the branch, the subsidiary of that bank abroad, or with another institution. For example, HSBC obtains US dollars from its subsidiary HSBC Bank USA, while DBS Bank Singapore receives US dollars from JPMorgan Chase. While there are some similarities between correspondence banks and intermediary banks – that they act as a third party for other banks – there is a big difference between the two. While correspondence banks typically trade with multiple currencies, an intermediary bank enters into transactions with a single currency. They are particularly important for domestic banks, which may be too small to handle these types of transactions. A corresponding bank must act as an intermediary when the transfers and recipients of the banks do not have transfer agreements. International transfers are often made between banks that do not have an established financial relationship. For example, a San Francisco bank that receives instructions on the transfer of funds to a bank in Japan cannot directly reject funds without a working relationship with the receiving bank. An oil company is a customer of ING in Amsterdam and sells a cargo of 500,000 barrels of oil for $40 million to a credit Suisse trading company. ING Amsterdam holds its dollar at Bank of America and credit Suisse at the Bank of New York Mellon. When the Swiss merchant orders his bank to pay the money, Credit Suisse debits the ATM`s account and transfers dollars from his account to BNY in BofA`s Ing account. Next, ING puts the dollars in the Amsterdam oil group`s dollar account.
Correspondence banks are a central part of the financial industry, as they offer domestic banks the opportunity to operate if they cannot open branches on another site, particularly in a foreign country. For example, a small national bank with customers in different countries can work with a corresponding bank to meet the needs of its customers internationally. It also gives them access to the foreign financial market. The corresponding Bank therefore collects a fee for this service, which is usually passed on by the national bank to the customer. Correspondence banks are third-party banks. They act as intermediaries between different financial institutions. As such, they provide cash services between sending and receiving banks, especially in different countries – such as: accounts between correspondence banks and banks for which they provide services are called Nostro and Vostro accounts. An account managed by one bank for another is designated by the holding bank as a Nostro account or our account in your books. The same account is called the Vostro account by the counterparty bank – your account, but in our books.
In general, the two banks, in a correspondence relationship, hold accounts for each other to track debits and credits between the parties. For example above, the corresponding bank deducts its transfer fees, usually from US$25 to US$75, and transfers the money to the receiving bank in Japan. In the case of transactions like this, the corresponding bank adds added value in two ways. It reduces the need for the national bank to establish a physical presence abroad and avoids the work of establishing direct agreements with other financial institutions around the world.