SWIFT is a vast and secure messaging system that allows banks and other financial institutions from all around the world to send and receive encrypted information, namely cross-border money transfer instructions.
Based in Brussels, Belgium, the Society for Worldwide Interbank Financial Telecommunications, or SWIFT for short, was founded in 1973 by 239 banks from 15 countries as a cooperative in order to create a secure financial messaging system. Today, SWIFT covers 11,000 banks and financial institutions in over 200 countries and territories, with almost 38 million encrypted transactions passing through the system daily.
How Does One Actually Transfer Money?
Have you ever wondered how money moves from one place to another between banks and other financial institutions? Well, the answer may be quite different from what you would expect.
In reality, the money doesn’t really move from one place to another. Rather, if you send money, it actually is a series of agreements from the paying bank adjusting their records to indicate that they owe you less than before the transfer, while the receiving bank adjusting their records to indicate that they owe the recipient of the funds more than it did previously. The money doesn’t actually need to be moved – just ledgers being updated.
This works seamlessly if you “move money” domestically, as most countries have a clearing system or intermediary that facilitates transfers within a country, most often controlled by the central bank or other government monetary body. The central clearing agency might typically also settle cheques and bank drafts between banks as well.
It gets a bit more interesting when you want to transfer money to someone in another country.
As most international transfers involve different currencies, most banks might find it difficult to hold and manage every single currency that their customers might want to transact in. It might also face restrictions on holding certain currencies. Instead, they rely on other banks to help them hold certain currencies by setting up accounts at various banks in other countries – called their correspondent banks. While banks may hold tiny amounts of foreign currency to deal with the physical cash needs of their customers, smaller banks use larger correspondent banks to keep their foreign currency on their behalf.
So any time that a bank customer wants to wire money denominated in a foreign currency to a foreign bank, their local bank will need to notify the bank’s correspondent banks to move the money to the destination bank.
Prior to 1973, when SWIFT was established, cross-border transfers were a largely manual process conducted over Telex machines, an early two-way text-based messaging system. Payment instructions were transmitted over dedicated Telex networks and were authenticated by identity codes – and this is where the term “wire transfer” came from.
So the local bank would need to contact, instruct and authorize their correspondent bank to adjust their ledger and, if not the end receiving bank, contact, instruct and authorize the end receiving bank to update the balance of the intended recipient bank in the intended currency in favor of the intended receiving party. Prior to SWIFT, all of this needed to be done manually via Telex.
When the SWIFT network was finally launched in 1977, it included a messaging platform, a computer system to validate and route messages, as well as codified messaging standards. For banks that are on the SWIFT platform, this meant banks and their correspondents could more efficiently facilitate cross-border and cross-currency interbank transactions.
Additionally, being on the SWIFT platform means that banks can reach more counterparties and lends instant credibility. Now, while SWIFT and its platform is the largest and most well-known method of cross-border interbank transfer instructions, it is not the only one. China, for instance, has its own system, called CIPS (Cross-Border Interbank Payment System), and the Russian Central Bank has developed its own system, called SPFS. The US has its own domestic system, called Fedwire. Also, cryptocurrencies such as Bitcoin were developed to facilitate decentralized value transfer in a trustless environment, circumventing banks and the legacy financial system.
How Does SWIFT Work?
It is important to remember that SWIFT doesn’t actually transfer money but rather transfers information containing detailed instructions from the paying bank to the receiving bank on what to do. Hence, it is extremely important that the network is secure, reliable, and fast. The SWIFT messaging system is called “SWIFTNet,” and members can access SWIFTNet via permanent leased lines, over the internet, or via the Cloud.
To begin with, each member on the SWIFT network is assigned a unique code that is either 8 or 11 alphanumeric characters long. This code is formally known as the Business Identifier Code (BIC) but colloquially referred to as the SWIFT code or SWIFT ID. The first four characters represent the name of the financial institution, the next two characters represent the country code, and the last two characters, the business party suffix.
The branch identifier is a 3-character optional element that can be added to the 8-character BIC, which is used to identify specific locations, departments, services, or units of the party.
Let’s look at an example of the BIC by looking at the Toronto-Dominion Bank in Toronto, Canada – also known as the TD Bank – their BIC is TDOMCATT, where:
The first four characters represent the name of the financial institution:TDOM
The next two characters are the country code (Canada):CA
The last two characters can be chosen by the bank, in this case, Toronto:TT
The way that the secured message is sent and received is over SWIFTNet’s FIN encrypted secure messaging system. Messages are in a specific format in order to increase efficiency and avoid mistakes. This format is called MT103 and contains all the required information about the sender, receiver, and transaction details.
Once a sender’s funds are properly connected with the recipient’s account, a series of instructions is then initiated between the sending bank, any intermediary correspondent banks along the way, and the final destination bank. This process is largely automated in order to reduce the possibility of human error – in 2020, SWIFTNet processed almost 10 billion FIN messages.
If things go according to plan, a SWIFT transfer takes about 24-48 hours to reach its destination but can take as long as five days, especially if the transfer is cross-border and may require a payment chain that spans three to four banks.
There are obviously costs when making a SWIFT transfer. The bank or financial institution must pay an annual fee to SWIFT in order to access SWIFTNet, but there is also a small fixed nominal fee for each FIN message sent.
However, your bank will charge you a fee for each SWIFT transfer, which is a lot more than the fee that SWIFT charges them. Correspondent banks and the final destination bank will, more likely than not, also charge a flat fee to process your wire transfer. If you are conducting a foreign exchange transaction in your transfer, your bank will also charge you a commission over the market foreign exchange rate, and that can be quite significant, especially if you are transferring larger amounts.
Who Uses SWIFT?
While our discussion so far has focused on banks using SWIFT, the system has evolved from 239 banks in 1973 to over 11,000 members now. These members also include financial institutions such as:
Each of the over 11,000 member financial institutions is a part shareholder of SWIFT as it is a member-owned cooperative. In order to join, a qualifying financial institution pays a one-time joining fee plus annual fees that vary based on the class of shares owned.
As such, any profits made by SWIFT are paid back to the membership, which amounted to some EUR36 million in 2020.
Although SWIFT has its own independent professional management team and is overseen by the G10 central banks, they can be far from neutral. In March 2022, at the behest of the US, the UK, the EU, and Canadian governments, SWIFT disconnected seven Russian banks from the SWIFT network in response to Russia’s invasion of Ukraine. This action would effectively cut off those banks from the network of international payments.
However, it is not the first time that this has happened. In 2012, the EU enacted SWIFT sanctions against Iran by disconnecting certain Iranian Banks.
What this has led to is the development of competing networks by Russia and China in order to take away the dominance of SWIFT’s network of inter-financial institution encrypted messaging. Additionally, proponents of decentralized finance (DeFi) have also suggested cryptocurrencies as a censorship-free alternative to the legacy financial system of which SWIFT is a part.
Thank you for reading CFI’s guide to the SWIFT system. To keep learning and developing your knowledge base, please explore the additional relevant resources below: