What is SWIFT and How Can It Be Used to Sanction Russia?

The world watched in disbelief as Russian forces rolled into Ukraine in the early hours of Thursday.

There were some who had seen it coming, some who understood the cost and challenges involved in moving 150k+ infantry, artillery, equipment, weapons and support to the frontlines from hundreds and thousands of miles away. Costs that ensured that the threat of war was credible.

But there were some who had never anticipated it for one simple reason — as much as wars cost to launch, they cost even more to end. Rebellion against an existing world order warrants severe economic sanctions which, when applied with precision and coordination, could disembowel an economy.

The most formidable option (often called “the nuclear option”) among these sanctions is to cut Russia out of the SWIFT financial system. Today, we look at what this system is and what could be the implications of cutting Russia from it.

What is SWIFT?

The acronym stands for Society for Worldwide Interbank Financial Telecommunication. It was started by a Belgium-based cooperative society in 1973. Strictly speaking, it handles payment requests and messages between 11,000 banks and financial institutions across the world.

When SWIFT was launched initially, it was done with the intent of finding a way to best handle cross-border payment systems. But what is its role in today’s age when one can type in some instructions from a phone and transfer money anywhere around the world?

First of all, one needs to remember that SWIFT doesn’t actually move money but it moves the information about the money. It doesn’t hold any funds and securities nor does it manage client accounts. It simply enables banks to securely transmit instructions and information about money transfers, more or less like a messenger. Some have even likened SWIFT to the “Gmail of global banking”.

Let’s say you’re in New Delhi and you wish to pay for an online magazine subscription based in New York. As soon as you authenticate it from your credit card, your bank sends a message (via a uniquely-assigned SWIFT code) to the New York-based bank that’s used by the magazine. Once that bank receives the SWIFT message about the incoming payment, it will clear and money will be credited into the magazine’s account.

SWIFT’s predecessor was called Telex which faced one too many problems like lower speed, security concerns and a free (non-unique) messaging format that left immense room for human errors and security breaches.

Today, there are many such unique SWIFT-like messaging systems in operation like Fedwire, Ripple, CIPS etc. But SWIFT continues to retain its dominance. It has also diversified from payment instructions to a wide variety of actions — security, treasury, trade and system transactions.

How SWIFT-ly Can It Hit Russia?

Blocking Russia from the SWIFT system effectively means banning all Russia-based, -operated or -controlled banks and financial institutions from using SWIFT codes for transactions. That would be a great punishment, indeed, because such a prohibition would decidedly choke the country’s interaction with the global financial system.

But just like the world can’t rid itself of Russia’s energy dependence, it can’t rid itself of Russia’s financial inclusion without significant economic blowback to other nations, especially in Europe.

Russia is the twelfth-largest economy in the world ($1.7trn annual GDP, which is 2% of the world). Given the hobble of a three-year-long pandemic, supply chain disruptions, rising inflation and escalating East-West political tensions, now is a bad time to cut off 2% of the world economy and one of the top oil exporters from the financial order.

SWIFT is the ultimate double-edged sword. If Europe, as a continent, has a coffee-level dependence on Russian energy, then it has a coffee mug-level dependence on the Russian inclusion in SWIFT without which it cannot pay for the energy.

Next thing to worry about is the erosion of Dollar domination. Majority of SWIFT transactions are settled in US Dollars. If Russia were kicked off the SWIFT, it would move closer to common antagonists like China in developing alternative systems. This could even act as a domino that leads other nations towards digital or blockchain-based systems to reduce reliance on the US-centric international monetary system. In short, a Russian SWIFT sanction could very well incite the dedollarisation of the world economy.

FYI, plenty of SWIFT alternatives already exist. The EU (Instex), Russia (SPFS) and China (CIPS) have all created their own systems. There are also blockchain alternatives like Ripple which have emerged as SWIFT’s technological usurpers if not political.

All of the above, however, are way behind in their reach, presence and scale of adoption globally (the Russian version has only 400 users so far). But seeing as the US and the EU are visibly reluctant to impose SWIFT sanctions on Russia, it seems nobody wants to test the potential of alternative adoption yet.

For all of these reasons, cutting off Russia from the SWIFT system seems like a far-reaching gambit.

Or, Perhaps Not Far Enough?

Yes, that too. Some sanctions experts are of the belief that SWIFT has often been overhyped as a tool. Russia can still find workarounds for interacting with the global financial system.

Case in point: Iran — the only country that has been de-SWIFTED so far, not once but twice (2012 and 2018). The first ban heavily impacted Iran’s oil exports and was widely seen as the most compelling reason behind bringing Iran to the negotiating table to form the 2015 Iran nuclear deal. Iranian banks were reconnected to SWIFT thereafter.

But the second ban imposed by the Trump administration had patchy enforcement, seeing as many European countries gradually adopted alternative payment systems to trade with Iran despite heavy US criticism. Bottom line — a SWIFT sanction may not always turn out to be that severe.

Besides, the United States doesn’t control SWIFT. It can only diplomatically pressure the EU to impose such sanctions. As Europe’s energy and commodity dependence on Russia continues to border on inalienable, SWIFT could be held back as a last chance saloon sanction, if Russia’s invasion and intentions continue to become more sinister.

(Originally published February 26th 2022 in transfin.in)