On 26 February 2022, the European Union, UK, Canada and the USA published a Joint Statement on further restrictive measures in light of Russian’s invasion of Ukraine. These nations committed to ensuring “selected Russian banks” are removed from the Society for Worldwide Interbank Financial Telecommunication (SWIFT) messaging system.
SWIFT is a Belgian-based financial messaging services cooperative which supports 11,000 banking and securities organizations, market infrastructures and corporate customers in more than 200 countries. As a result of the ban, these selected Russian banks will be unable to initiate payment instructions in eligible payment systems nor receive inbound payments in those same systems.
Companies owed money by Russia would have to find alternative ways to get paid. Russian banks may route payments via countries that have not imposed sanctions, such as China, which has its own payments system called the Cross-Border Interbank Payment System. Russia has a SWIFT alternative known as the SPFS which may also be used as may cryptoasset payments platforms.
The selected Russian banks may seek to use alternatives to SWIFT but all such alternatives have critical interoperability, cost, security and speed constraints.
Banned Russian Banks
On 2 March 2022, the European Union published a selected list of Russian banks that are subject to the SWIFT ban in the official journal of the European Union.1
These banks are: VTB Bank (being Russia’s second largest bank), Vnesheconombank (VEB), Rossiya Bank, Sovcombank, Bank Otkritie, Novikombank and Promsvyazbank.
The ban will take effect as of 12 March 2022. This 10 day delay is designed to give SWIFT and other operators a brief transition period to implement the measure.
The official journal also applies the measure to “any legal person, entity or body, established in Russia whose proprietary rights are directly or indirectly owned for more than 50 %” by these Russian banks.
This list does not name Sberbank, Russia’s biggest lender by assets, nor Gazprombank, which is heavily involved in its energy sector. According to the EU press release, the European Commission “is prepared to add further Russian banks [to the list] at short notice”.
Alexei Kudrin, Russia's former finance minister, suggested all Russian financial institutions being cut off from SWIFT could shrink Russia's economy by 5%.
What is SWIFT?
SWIFT acts as the carrier of messages containing payment instructions between financial institutions involved a transaction.
The SWIFT organisation itself does not manage accounts for institutions, holds no institution funds and does not perform clearing or settlement functions. After a payment has been initiated using a SWIFT message, it must be settled through a payment system such as the Trans-European Automated Real-time Gross Settlement Express Transfer System (TARGET2).
SWIFT sends more than 40 million messages a day – 1% of which involve Russian payments.
SWIFT is jointly owned by 2,000 banks and financial institutions. SWIFT's Board of Directors is comprised of 25 independent Directors appointed by its shareholders. According to Article 17 of the SWIFT By-laws, nations with more member institutions of SWIFT have additional rights to appoint directors.
SWIFT is overseen by the National Bank of Belgium, in partnership with major central banks around the world - including the US Federal Reserve and the Bank of England.
On 1 March 2022, SWIFT published a press release noting the Joint Statement and stating that SWIFT is engaging with these authorities to understand which entities will be subject to these new measures. SWIFT states that it will disconnect them once it has received a legal instruction to do so.
How are members removed from SWIFT?
Article 16(c) of the SWIFT By-laws state that:
c. The Board of Directors may suspend or expel a Shareholder from the Company if it establishes in its opinion that such Shareholder: –– does not observe the By-laws of the Company and/or the Corporate Rules or any undertaking towards the Company; –– makes any arrangement or composition with or concerning its creditors; –– is subject to regulations impacting its shareholding in the Company; –– commits an act of negligence which may be prejudicial to the interest of the Company provided that the Board of Directors informs the Shareholder in writing of the reasons underlying its decision and that the relevant mandatory provisions under Belgian law are complied with.
Part 3 of the SWIFT Corporate Rules also provides that the Board of Directors should be provided a written report from SWIFT management for the termination of an existing shareholder. Termination (expulsion) is subject to section 7.3 on dispute resolution in the SWIFT Corporate Rules.
We expect the Board of Directors will expel the selected Russian banks based on the European Commission Decisions using the ground that these selected Russian banks are subject to regulations impacting their shareholding in the Company (SWIFT).
All relations between SWIFT and each member, as well as the SWIFT by-laws and SWIFT Corporate Rules are governed by the laws of Belgium.
Alternatives to SWIFT
As part of the Crimea related sanctions of 2014, Russia was threatened with expulsion from SWIFT. Western countries did not proceed with this action but this did prompt Russia to begin the development of its own cross-border transfer system, SPFS.
At the end of 2020, there are 23 foreign banks connected to the SPFS from Armenia, Belarus, Germany, Kazakhstan, Kyrgyzstan and Switzerland. There are also plans to link SPFS to payment systems in China, India and Iran. These plans may be accelerated to the extent that a significant number of Russian banks are banned from SWIFT.
SPFS is not seen as a viable alternative to SWIFT given that the system currently only works within Russia and is subject to high transaction costs.
Russian banks may choose to deal directly with non-Russian banks in order to process payments. This would likely add delays and additional costs to the payments process which may be passed on to the payer/payee.
It may also lead to payments business transferring from Russian banks subject to sanctions to Russian banks not subject to sanctions but subject to SWIFT expulsion.
The Cross-Border Interbank Payment System (CIPS) is a payment system which offers clearing and settlement services for its participants in cross-border RMB payments. It is a significant payment infrastructure in China.
Last week in advocating for Russia not to be banned from SWIFT, Austrian Chancellor Karl Nehammer said "that the suspension of SWIFT would affect the Russian Federation less than the European Union," and argued that Russia could use its "own payment system, and secondly, it would immediately switch to Chinese payment systems."
While the identity of participants is not in the public domain, according to the CIPS Participants Announcement No 73, in January 2022 CIPS has 75 direct participants and 1205 indirect participants. Russian banks likely will be both direct and indirect participants of CIPS.
Cryptoasset Payment Networks
Banning Russian banks from SWIFT may result in Russian payment being processed in decentralised networks such as Bitcoin.
According to Banco Santander, Russia’s import/export flows total around USD570 billion annually, a volume that could be accommodated on the Bitcoin network. Bitcoin processes USD20 billion in on-chain transactions per day, or more than USD7 trillion per year.
Impact of the ban
Until the ban is put in place on 12 March 2022 , it is difficult to assess the breadth of the impact of the SWIFT ban.
For counterparties to contractual relations, the removal of Russian institutions from SWIFT due to European Commission Decisions may provide grounds for recission due to illegality.
DLA Piper expect such ground to be relied upon, including as an event of default, in a variety of commercial and financial arrangements.
There remains considerable uncertainty as to the status of in-flight transactions at the time that SWIFT access is banned. These payments will be subject to their respective payment systems’ contingency, liquidity management and resolution mechanisms.