International trade involves places in different countries. It is not possible for a bank to have branches in all centers of the world. The difficulty is obviated by banks entering into correspondent banking relationships. Under this arrangement one bank acts as agent of the other in places where possible. Thus, for example, Commonwealth Bank of Australia (CBA) may enter into correspondent banking relationship with an American bank, say, Chase Manhattan Bank.
The Commonwealth Bank of Australia (CBA) will utilize the services of Chase Manhattan Bank for all its transactions in America and also for all transactions designated in US dollars. The following are the services generally covered by correspondent banking relationship / arrangement:
(a) Collection of bills, cheques, etc.,
(b) Issue of demand drafts, mail transfers, telegraphic transfers and travelers cheques;
(c) Arrangement for reimbursement on letters of credit;
(d) Advising/confirming and amending letters of credit;
(e) Sale and purchase of foreign currencies,
(f) Issue and confirming of guarantees:
(g) Granting/ guaranteeing loans and overdrafts. and
(h) Furnishing of credit information such as report on business house, market reports, etc.
The correspondent banking relationship also known as agency arrangement, provides for other details like the schedule of charges. The arrangement is reciprocal. For facilitating the functioning of the arrangement it is desirable that the bank establishes account relationship also.
Certain services like remittance facilities require an account relationship between the banks. For other services also it would be beneficial if bank opens an account with the other bank. The decision to open a bank account would depend upon the volume of transactions and the directions of its flow. Where the transactions are few, opening of a bank account may not be warranted. The maintenance of bank account abroad involves maintaining some balance in the account.
Further, the account would be opened with bank in the currency of whose country the transactions take place. As between the bank in Australia and the American bank, the Australian bank, here, Commonwealth Bank of Australia (CBA) would open a dollar account with the latter, i.e. Chase Manhattan Bank, since most of the transactions involved are designated in dollars.