A region vulnerable to money laundering attacks, tighter EU regulations and new technology may be enough to protect the banking sector in the Baltics.
Banks in the Baltic States are taking numerous steps to target money laundering scandals. (Credit: dimbar76/Shutterstock.com)
Banks in the Baltic States have had a difficult few years, following several serious money laundering scandals. Yet recent challenges also offer Baltic banks a golden opportunity. Apart from prompting the tightening up of EU regulations, they have seen a significant investment in new technology, with welcome consequences for customers.
Abi Millar talks to Ilja Nogicevs, head of digital banking Latvia at SEB Banka, and Mindaugas Mikalajunas, CEO of smeFinance, about how the region’s dynamic banking sector might yet make a positive mark on the continent at large.
Two years ago, the Baltic banking system was in the grips of a money-laundering crisis. Once ruled by the Soviet Union, the three Baltic States – Latvia, Lithuania and Estonia – had long been susceptible to international criminals intent on scrubbing dirty money. And between 2018 and 2020, a wave of interrelated scandals came to light in quick succession.
By far the worst offender was Danske Bank. Starting in 2007, the Danish lender had been used as a conduit for tainted Russian funds with over €200bn of suspicious transactions funnelling through its Estonian subsidiary.
Around the same time, it emerged that Swedish lender Swedbank – the biggest bank in Estonia – had its own issues with money laundering. Erik Thedeen, director general of Sweden’s financial watchdog FSA, announced that “Swedbank has had serious, systematic shortcomings in its work to prevent money laundering in the Baltics”.
Swedbank was hit with a SKr4bn ($386m) fine over its failure to impose proper controls in its Baltic subsidiary. Meanwhile the Latvian bank ABLV was raided as part of a €50m money laundering investigation, prompting its liquidation, and Latvia’s Central Bank chairman, Ilmars Rimsevics, was accused of breaking money laundering rules.
A moment of reckoning
Since these scandals broke, the European banking sector has had a moment of reckoning. Notably, the bloc moved to centralise its AML and counterterrorist financing rules, which were previously imposed on a country-by-country basis.
The Baltic States themselves, keen to restore their reputation as safe havens for foreign investments, have stepped up their campaigns against financial crime. Together with the Nordic countries, they have engaged the International Monetary Fund (IMF) to analyse the cross-border risks in the region.
There are also various regional initiatives under way, including Lithuania’s new Centre of Excellence in Anti-Money Laundering, which seeks to rebrand the region as a leader in the field. (It should be noted that Lithuania did not play a major role in the scandals.
Latvia’s prime minister Krisjanis Karins has pledged to rid the banking sector of money laundering “rats”, while Estonia’s parliament has updated its Money Laundering and Terrorist Financing Prevention Act.
The Bank of Estonia has also developed a new mathematical model designed to more closely review payments and react more quickly when risks emerge.
As Ilja Nogicevs, head of digital banking Latvia at SEB Banka, explains, the region has made a “significant and comprehensive improvement”.
“Currently, we’re ensuring the highest standards in countering money laundering and terrorism financing, and we’re also facilitating the sustainable development of the banking sector,” he says.
“At present, each country has its own approach for what exactly happens with customer data. We would like to see the Baltic banking industry introduce a shared know your customer (KYC) utility, which would enable us to share information between the market players that are looking to fight financial crime.”
SEB Banka was not exempt from the money laundering scandal, having been fined SEK1bn (€96m) in June 2020 for doing too little and too late.
Since then, the Stockholm-based lender says it has worked to improve its corporate governance and internal controls. It is also treating AML as a spur for technological innovation.
“We are putting a lot of effort into understanding how we can automate things, putting control mechanisms or alert mechanisms in place to quickly catch discrepancies in the payments,” says Nogicevs.
“My team’s first responsibility is how we can use customer data wisely – not only from the reporting and regulatory side, but also in terms of the business processes we’ll be offering.”
“Currently, we’re ensuring the highest standards in countering money laundering and terrorism financing, and we’re also facilitating the sustainable development of the banking sector.”
The path to becoming fintech leaders
Quite aside from their vulnerability to financial crime, the Baltic States are well known for their impressive digital infrastructure. Playing host to companies like TransferWise (now Wise), Monese and Mintos, they have worked hard to create a favourable regulatory framework for fintech startups.
Venture capital firm Index Ventures recently ranked the Baltic States as the three most start-up-friendly countries in Europe. Meanwhile, the Financial Times’ FDI Intelligence division listed Vilnius as the number one start-up city for tech on earth.
In other words, the Baltic States have both the incentive and the know-how to be fintech leaders. While stamping out financial crime is one piece of the puzzle, these small countries often serve as ‘test’ markets for other types of banking innovation.
“There is scope to trial quite a large number of technologies in this market, and then scale them up in other markets,” says Nogicevs. “I would say that our customers’ adaptability and the possibility to scale up technologies is the thing about us that’s quite interesting for others.”
He points out that Latvia was the first Eurozone country to introduce instant payments infrastructure. The region has also been ahead of the curve in terms of electronic signatures, automated authentication solutions and open banking. To cite just one example, Latvian fintech Nordigen is the first free open banking API in Europe.
“The biggest banks in our market are very open in terms of how we can share the data and how we can cooperate with other financial technology companies, other banks and other partners,” says Nogicevs. “Open banking is at quite a high level right now.”
Lithuanian start-up smeFinance was founded in 2016 and launched a neobank for small business clients, smeBank, earlier this year. Its CEO, Mindaugas Mikalajunas, says the region is often described as the ‘new Nordics’, with more and more venture capital (VC) and debt funding pouring into the market.
“With smeFinance fintech and smeBank neobank, we are making a unique ecosystem where we can scale our business and services across the whole of Europe,” Mikalajunas explains.
“The Baltic region is our first step for expansion, and it’s here that we’re launching services, preparing tech solutions, attracting investors, raising capital, hiring talent and preparing group governance.”
Mikalajunas believes the challenges of the past few years have created a fertile environment for innovation, including the emergence of neobanks like smeBank.
“The top banks in the Baltics are focusing on large clients and projects with a low risk profile, so smaller businesses, with a higher risk, are out of their scope,” he says.
“We see a major underdevelopment of small and medium companies financing, and especially newly established business, which is actually the most eager to receive financing.”
The company recently closed a €120m debt financing round, and is now ready for VC investment, with a view to speeding up expansion. Mikalajunas says the long-term goal is to become the fastest and most agile bank in the region – not to mention the “largest financial ecosystem in Europe”.
“We already see that our business model works – we have more than 100 people in our ecosystem, our investors have trusted us with more than €200m of funds, we are doubling our revenues each year and we are still profitable,” he says.
“We are happy to announce that our ecosystem has a notable portion of customers not only from Lithuania but also Latvia, Estonia and Germany.”
Accelerating innovation
It would be remiss, too, not to mention the ways the pandemic has sped up digital change in the region. Nogicevs remarks that while client video meetings were already a fixture at SEB Banka, Covid-19 made them far more relevant. During the first two months of the pandemic, the bank moved almost all its services to remote channels.
“In 2017, we implemented the possibility of meeting the customer via video – we can authenticate the customer and conclude all agreements on the go,” he says.
“Although in some cases customers like to meet us physically, we can do almost all our usual activities remotely. Before the pandemic, the ratio of video meetings to physical was about 20:80, whereas today more than 85% of our customer meetings are happening remotely.”
SEB Banka has also been investing heavily in AI-based technologies, including a chatbot that can solve customer queries.
“We’re trying to understand the best way we can serve customers, rather than pushing certain things through specific channels,” says Nogicevs.
“Our plan is to have everything digitally available, and then help educate customers in how they can take advantage of the possibilities we can provide to them in this area.”
Although the money laundering scandal is still fresh in the minds of many, it seems clear that the Baltic banking system is well on the way to recovery. The region has taken responsibility for its mistakes and has redoubled its commitment to transparency.
What’s more, these three tiny nations punch far above their weight in terms of entrepreneurialism and innovation. Could Estonia, Latvia or Lithuania be incubating the next big thing in banking? To anyone keeping an eye on the region’s burgeoning fintech scene, it wouldn’t be altogether surprising.
This article originally appeared in Future Banking winter 2021.