Society for Worldwide Interbank Finance Telecommunications SWIFT Banking System for UPSC!

The full form of SWIFT is Society for Worldwide Interbank Finance Telecommunications. It is primarily a cooperative that functions as a carrier of payment instruction containing messages between the banking or financial organizations involved in a transaction. Recently Russia was slapped with a SWIFT ban as a part of the Western response to its war in Ukraine.

In this article, we will discuss in detail the SWIFT payment system along with its functions, significance, alternatives, and associated challenges among other issues. SWIFT is an important topic from the UPSC IAS Exam perspective and is covered under the International Relations section of the General Studies Paper-2 Syllabus of the UPSC IAS Mains exam.

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What is SWIFT?

The primary engine behind the majority of international money and security transfers is the Society for Worldwide Interbank Financial Telecommunications (SWIFT) system. SWIFT constitutes an extensive messaging network employed by financial institutions to swiftly, accurately, and securely transmit information, including instructions for money transfers.

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Society for Worldwide Interbank Financial Telecommunication(SWIFT)

History

There was a common global problem in the early 1970s on how to communicate about cross-border payments. In 1973, 239 banking institutions from 15 countries came together to solve this problem and formed the SWIFT mechanism. SWIFT replaced the Telex Technology which was earlier used for cross-border payment communication.

About SWIFT

SWIFT (Society for Worldwide Interbank Finance Telecommunications) is a secure international messaging network used by banks for making cross-border payments:

• SWIFT is used by more than 11000 banks and other financial institutions in 200 + countries and territories to send payment orders in a secure manner.
• As of 2021 more than 42 million messages bearing instructions to transfer trillions of dollars were sent every day over the SWIFT platform. The banks connected to the SWIFT platform can honor the payment instructions quickly as the messages sent over the SWIFT platform are deemed secure. This ensures the handling of high volumes or transactions by the banks on a daily basis.
• The headquarters of Swift is located in La Hulpe Belgium near Brussels.
• The central banks of G-10 countries along with the European Central Bank oversee the Swift with the Bank of Belgium as the lead overseer.

Functions of SWIFT

SWIFT is not actually a fund transfer facilitator rather it sends payment orders to be settled by the correspondent accounts in the concerned institutions.

• SWIFT works as a secure message carrier, more specifically a financial message carrier that carries messages from one bank to the other where both the sender and intended receiver should be a member of the SWIFT network.
• So basically the principal function of SWIFT is to provide a secure transmission channel for financial messaging ensuring safe and secure delivery of the message to the intended receiver and no one else could read those messages en route.

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How does SWIFT Work?

All SWIFT members receive a SWIFT code also called Business Identifier Code or Bank Identifier Code to conduct their transactions.

• To start a transaction between two banks/Institutions we need the recipient’s account number and their SWIFT code.
• The SWIFT code can be broken into the following parts:
  • The first 4 digits indicate the bank to which the code belongs.
  • The next 2 characters indicate the country in which the bank/payer resides.
  • Next two characters indicate the city in which the bank resides in.
  • The last three characters are optional but are used by organizations for assigning codes to individual branches.

SWIFT and Sanctions

Today we live in a globalized economic setup that is based on international business and transactions. This is where the importance of SWIFT is established.

• This SWIFT system forms the backbone of International Monetary transactions and therefore is pivotal to the international economy in general and the national economy in particular.
• Very recently in 2022 Russia was imposed with SWIFT sanctions from the US and UK lead Western countries that threw most of the Russian banks out of the SWIFT system causing massive economic disruptions in Russia.
• Similarly in 2018 Iran was hit by SWIFT sanctions at the behest of the USA. Consequently, Iran faced an economic collapse. This shows the vulnerability of the Swift system to West-imposed sanctions.

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Importance of SWIFT in India

India is the fourth largest economy in the world and carries out a significant volume of global trade. Indian exports are growing very fast as a result of the increasing manufacturing potential of the country.

• This automatically makes SWIFT very important for the cross-border financial transactions associated with India’s foreign trade.
• As discussed earlier SWIFT provides financial services in more than 200 countries and territories involving 11000 banking institutions and therefore provides an excellent platform to India for conducting cross-border transactions.

Concerns for India

India are substantially impacted by the SWIFT ban on Russia that resulted in the cancellation of supply orders from both sides impacting the bilateral trade between India and Russia.

• India mainly imports fertilizers, diamonds, and other precious, stones, crude oil, and petroleum products from Russia.
• To address the issue India and Russia are presently working on a Rupee-Rouble trade mechanism and in recent developments, the VTB (second largest bank of Russia) has launched direct payment in rupees.

Alternatives of SWIFT

Although SWIFT is the most preferred mode of cross-border transactions today it is not the only option. The following are the alternative to the SWIFT system.

• In 2014 Russia faced threats of SWIFT a SWIFT ban after annexing Crimea from Ukraine. Against this backdrop, Russia developed an alternative to SWIFT.

• This alternative is called the System for Transfer of Financial Messages (SPFS).
  • In the same way, the Bank of Russia developed a Financial Messaging System (FMS) also known as this SWIFT-analogue.
  • However, the FMS can only guarantee the uninterrupted transmission of financial messages within Russia.
• The Chinese alternative to the SWIFT system is called the Cross-border InterBank Payment System (CIPS) which was launched in 2015 with the primary aim to make Yuan an international currency.
• CIPS allows global banks to directly clear cross-border transactions involving Yuan.
• Even though CIPS is capable of establishing its own Independent communication line among International financial institutions, it still largely relies on the SWIFT system for cross-border financial messaging. Around 1300 financial organizations from more than 100 countries and territories are linked with CIPS which processed a total of more than 12 trillion dollars in 2021.
• Other than this Airwallex, Nium, and Wise Platform are the other alternatives to the SWIFT platform.

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Significance of SWIFT

SWIFT is the most significant component of the international financial transaction framework. All the messages sent by SWIFT customers are authenticated by using its specialized identification and security technology. Additional benefits of the SWIFT system include:

• Accountability- SWIFT allows easy tracking of payments from one bank to the other so that both parties exactly know the time of sending and receiving of payments. Thus, fixing two-way accountability.
• Accessibility- SWIFT made global payments more accessible than ever before. It Breaks all communication barriers in the path of global financial settlements and makes cross-border communication between financial institutions as seamless as possible.
• Transparency- SWIFT has a transparent working mechanism and it tells you the exact fees for your transaction with no hidden charges.
• Popularity- SWIFT is the most popular and most used financial communication platform globally. it works with more than 11000 banks across 200 + countries and territories worldwide.

Challenges

Primary challenges associated with the Swift system are:

• Transaction volume and associated cost- As of today more than 42 million transactions are conducted on the SWIFT platform in a single day. As a result, it becomes practically impossible for the banks to enter manually the instructions for each transaction. For this problem, SWIFT provides Software Solutions to automate the process but the cost is significantly high.
• Competition- Swift replaced Telex in 1973 to become the preferred mode of cross-border transactions globally. Now Swift faces similar competition from the Blockchain Technology invented in 2008. Cryptocurrency based on this technology presents a viable alternative to the SWIFT system.

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Conclusion

It is well established that the SWIFT system is the backbone of cross-border financial transactions in today’s world. It is also true that the SWIFT platform is primarily controlled by the US lead West which is a cause of great concern as the geo-political equations always remain volatile however, the possibility of a SWIFT ban on India seems very unlikely at present but the same cannot be completely ruled out in future.

Therefore, the need of the hour is that India should promote bilateral trade in national currencies, and in the long term there is a need to devise an Indian alternative to SWIFT on which India can fall-back upon in emergency situations and provide insulation to the economy from disruptions. Moreover, India can explore alternative financial mechanisms in regional forums like BRICS and BIMSTEC to address other concerns related to weight. SWIFT

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