Following months of diplomatic threats and military maneuvers that left world leaders and commentators wondering whether President Putin was aggressively bluffing to alter the future growth of the North Atlantic Treaty Organization (NATO) or if Putin was simply engineering a pretext for an invasion of Ukraine, Russian forces entered Ukraine last week.
Tremendous uncertainty characterizes the immediate aftermath of Russia’s invasion of Ukraine. This uncertainty is especially prevalent regarding the fate of sovereign Ukraine, the short-term and long-term goals of Putin, and the extent of international involvement both in alleviating the immediate suffering of those in what is now a war zone and in creating forms of deterrence to limit or reverse Russian advances.
Uncertainty also characterizes related outcomes of the invasion, such as how these events will impact U.S. financial institutions, businesses, and the broader U.S. economy. The extent of the impact will partially depend on newly announced and proposed sanctions on Russia from the U.S. and other countries. What follows is a summary of some of the debate regarding the Society for Worldwide Interbank Financial Telecommunication (SWIFT) and how new and proposed sanctions might impact various sectors related to financial institutions (FIs).
Continuing SWIFT Debate
SWIFT is at the center of many newly launched and proposed sanctions; it is essentially a network used by member banks to send secure messages about money transfers and other transactions in the form of payment orders that are then settled by accounts banks have with one another. Headquartered in Belgium and cooperatively owned by FI shareholders, this financial telecommunication system connects over 11,000 FIs throughout the world and transmits millions of messages per day.
In 2016, Iranian banks were briefly disconnected from SWIFT. In 2014, when Russian forces intervened in part of Ukraine, some commentators called for cutting off Russian banks from SWIFT. Prior to the 2022 invasion, there was already some interest in using SWIFT as a deterrent to Russian aggression. As of the time of this writing, the U.S. has shown reluctance to use SWIFT as part of its sanctions, and the U.S. is unable to unilaterally remove Russia from SWIFT access. However, on February 26th the U.S. and its European allies announced several large Russian banks would be removed from SWIFT networks, with the exception of energy-related transactions.
There are mixed opinions on the efficacy of using SWIFT to deter or reverse Russian actions. After threats of cutting off SWIFT in Russia in 2014, the Bank of Russia began devising its own System for Transfer of Financial Messages, or SPFS, which now handles roughly a fifth of domestic payments and connects 400 Russian FIs. However, SPFS has significant limitations, especially regarding international transactions.
Meanwhile, 300 Russian FIs rely on SWIFT to settle more than 80% of international settlements. Cutting Russia from SWIFT could result in Russian banks no longer transacting with foreign FIs, which could affect nearly 50% of Russia’s GDP based on 2021 figures. At a micro-level, SWIFT could have deleterious effects on average Russians far more than changing the regime’s behavior or foreign policy decisions. As a major exporter of oil and natural gas, this could have severe repercussions at a macro level on both the Russian economy and international energy prices, yet as mentioned above, energy-related transactions have yet to come under the umbrella of enacted sanctions.
High energy prices from limiting foreign transactions with Russia, in practice resulting in a prohibition on energy imports from Russia, could have significant economic repercussions in Europe. Possible economic disruptions, along with concerns that cutting SWIFT and further economic marginalization may draw Russia and China into having closer diplomatic and economic relations, which may have caused the reluctance many policymakers have shown toward using SWIFT as part of broader sanction efforts.
Following the invasion, the U.S., the European Union, Japan, and other countries have imposed new sanctions on Russia that built on preexisting sanctions and other economic- and trade-related bargaining chips, including Germany’s recent cancelation of Nord-Stream 2, a large-scale gas pipeline project from Russia.
President Biden announced that any institution in Russia’s financial services sector could be a target for further sanctions, comprising banks, Russian state-owned banks, and beyond institutions, wealthy Russians in positions of leadership. All of this includes freezing assets in U.S. jurisdictions. Broadly, U.S.-based sanction efforts seek to target 80% of all banking assets in Russia.
U.S. sanctions are unlikely to pose major risk to U.S. FIs. Since 2014, U.S. banks have reduced exposure to Russia’s economy. As Erika Baumann, Director of Aite-Novarica Group’s Commercial Banking and Payments practice has observed, “For the majority of the 11,000 FIs in the U.S., they and their clients largely do little to no business or transactions directly with Russia. Their clients are not sending money to Russia, and their investment portfolios do not include Russian securities.” The greatest areas of impact could be restrictions on currency conversion; further devaluing of Russian currency; and, if SWIFT access were to further change, bans on individuals and businesses financially transacting with Russia outside of the Russian banks already under the current sanctions.
While the current events in Ukraine are still unfolding, many around the world are watching with sympathy and uncertainty regarding what comes next. Though perhaps not of much comfort, many policymakers and FI decision-makers have been wary of Russian aggression since 2014, if not longer.
As a result, FIs have reduced exposure in the near term to significant impact related to sanctions or this conflict in general. While broader economic disruptions stemming from instability in energy markets may certainly be felt by many Americans in the coming days and weeks, broader implications to the financial services industry may be an avoided outcome of this tragedy.