Over the past six months, the G7 (G7) has used the combined strength of the dollar, euro, pound and yen to wreak havoc on the Russian economy. The backbone of this strategy is based on how the world uses the dollar as its international reserve currency and the overwhelming preferred settlement mechanism for global currency exchanges. Nearly half of world trade is done in dollars, and it accounts for about 60% of the world’s foreign exchange reserves.
But everything has a price. By imposing sanctions and freezing assets in response to Russia’s aggression in Ukraine, the G7 has rekindled a long-simmering debate about dollar alternatives. The idea of “de-dollarization,” or reducing a country’s dependence on the dollar, is gaining momentum. Overreliance on the dollar threatens the United States, from Russia to China and many non-aligned nations in between. Too much leverage.
But what are the realistic alternatives to the dollar that U.S. and allied policymakers should pay attention to?
how money moves
Let’s start with SWIFT. The Society for Worldwide Interbank Financial Telecommunications is a messaging system used by banks to conduct international transactions. Despite some misconceptions, no real financial transactions occur in SWIFT. Its value lies in the role SWIFT plays in safe, secure and efficient communication between banks. When it was founded in the 1970s, it connected 239 banks in 15 countries. Today, it connects over 11,000 financial institutions in over 200 countries and territories, making it the primary means of communication for international transactions. SWIFT is a private cooperative, owned by 2,000 entities. Headquartered in Brussels, it is supervised by a range of banks including Japanese, British and Canadian banks, as well as the US Federal Reserve (Fed), the European Central Bank and several individual banks in the European Union. Therefore, the United States and the European Union play an important role in its governance.
Since SWIFT does not maintain bank accounts, the actual clearing and settlement of funds is done using the Clearing House Interbank Payments System (CHIPS) owned by the Fed. On average, CHIPS cleared nearly $1.8 trillion in trades each day. The system has 43 direct participants who are all U.S. banks or foreign banks with U.S. branches, and 11,000 indirect participants who are banks without U.S. branches who are involved in the system through direct participant accounts. There is Through its participants, CHIPS covers over 96% of cross-border transactions denominated in dollars. CHIPS works alongside the Fed-owned Fedwire Funds Service to actually clear and settle trades.
Together, SWIFT, CHIPS and Fedwire provide broad coverage for nearly all dollar-denominated international transactions. They create network effects that are nearly impossible to counter. How do those alternatives stack up in comparison?
Challengers of the day: Russia and China
After being hit by a series of sanctions following its annexation of Crimea in 2014, Russia began developing its Financial Message Forwarding System (SPFS). It serves as an alternative to SWIFT for transmitting information across 400 banks within Russia and around 50 international institutions, mainly in Central Asia. Reports have emerged recently that central banks in India, Iran and China are connecting to his SPFS, but the system is still primarily a mode of interbank communication within Russia.
On the other hand, China’s Cross-Border Interbank Payment System (CIPS) is an alternative to the CHIPS system. It was created in 2015 to serve as a settlement and clearing mechanism for RMB transactions. Like CHIPS, it is regulated by a central bank (in this case, the People’s Bank of China), and direct participants must be within its jurisdiction. Interestingly, participants can message each other via her CIPS messaging system, but his 80% of transactions on CIPS rely on her SWIFT infrastructure. This is because we need to translate messages that are more efficiently made over the SWIFT network. CHIPS has 10x more participants than CIPS and handles 40x more transactions than CIPS.
Original trades only make up 3.2% of all trades made using SWIFT. China’s political goals to internationalize its currency, which led to the creation of CIPS, conflict with capital controls on the renminbi, making the renminbi as a currency less attractive than the dollar. This does not mean that there is no interest in expanding the role of CIPS. According to unverified reports, trading volume through CIPS is growing by 50% annually.
Both CIPS and SPFS offer imperfect alternatives to the powerful combination of SWIFT, CHIPS, and Fedwire. These challengers have a smaller network and a smaller reach, but most importantly they do not affect the prevalence of dollar-denominated international transactions.
Still, it’s important to note that both were created after tougher financial sanctions were imposed by the countries that designed these systems. There will be more incentive to expand the network of payment rails. This is an important balancing act for sanctions policymakers.
The idea of avoiding the dollar is not limited to US adversaries like Russia or competitors like China. Countries such as India, Indonesia, Brazil and South Africa are all exploring the possibility of changing how they handle cross-border payments and reducing their reliance on the SWIFT system.
playing a new card
These payment networks incorporate credit and debit card schemes that connect consumers to merchants around the world. Visa, Mastercard and American Express are the three major companies that enable domestic payments across borders. Visa and Mastercard each reach his nearly 53 million global merchants in over 200 countries. Chinese bank launched his alternative payment network in 2002. UnionPay dominated China’s domestic market until 2020, when China began allowing international card schemes. Currently, UnionPay has connected her 55 million merchants in 180 countries, of which 37 million are outside China.
Since Visa and Mastercard suspended their services in Russia, UnionPay has emerged as one of the only options for cross-border transactions for Russians. Another of these options is Mir, a card scheme unique to Russia. Developed during the 2014 sanctions against Russia, Mir has become popular because it is used domestically for pensions and public sector payments, and is also available to Russians living abroad. Over 100 million Mir cards have been issued and several countries, including Turkey and Iran, have expressed interest in joining the Mir network. Additionally, Russian banks have been doing business with UnionPay for several years, and given UnionPay’s large network, Mir could partner with UnionPay to expand its reach with marketing and co-branded cards. increase.
Focus on fintech
Fintech alternatives to traditional payments are increasingly emerging, primarily in the form of wallets and platforms that enable retail payments. AliPay and WeChat Pay, operated by Chinese fintech companies, are his two most popular digital wallets in the world. AliPay and WeChat Pay each have over 1 billion users, while their closest competitors (ApplePay and GooglePay) each have around 400 million to he 500 million users. Reports vary, but some sources say AliPay is used in up to 110 countries and WeChat Pay in up to 50 countries. Digital wallets are primarily used for domestic payments, and transactions are specified in the local currency of the country.
Central bank digital currencies (CBDC) have gained popularity among countries looking for alternatives to dollar-based financial systems as they are faster, cheaper and more efficient than existing cross-border payment rails. I’m here. His CBDC experiments across 12 borders are currently underway, according to an Atlantic Council investigation. One of the projects, Multiple CBDC Bridge (mBridge), will connect Thailand, Hong Kong, China, and the United Arab Emirates in a multi-currency exchange bridge. system. Wholesale CBDC, aimed at inter-institutional transfers between banks, is a new way for countries to solve their payment architecture problems while creating a new payment transfer network. These systems are not yet ready for full launch, but could help countries bypass his SWIFT and develop alternative financial architectures.
Over time, these innovations could undermine how the dollar’s global dominance is used to make sanctions more effective. The People’s Bank of China has his 300 staff dedicated to his CBDC, according to the International Monetary Fund (IMF). This is more than the entire staff of central banks in most other countries.
How to keep the dollar on top
De-dollarization is not a new idea, but both fintech innovations and the weaponization of the dollar through sanctions have breathed new life into old debates. Given China’s capital controls and lack of liquidity on yuan transactions, the dollar still reigns as the stable and easily convertible currency of choice for international payments. Transactions made on credit cards and fintech solutions still make up a small portion of global foreign exchange flows and are not the primary target of sanctions. The dollar has also surged in value following the Fed rate hike.
But the threat to the dollar looms far. The renminbi’s share of global payments has risen this year, and given the energy crisis, countries may be persuaded to offer ruble or renminbi swap lines to increase the share of these currencies in their own currencies. there is. Balance sheet. Over time, if the United States does not lead its allies in its own innovation, many countries will look for alternatives. There have been some early steps in this direction: Last week, the Biden administration released a number of reports on digital asset regulation. Some of these reports detail possible designs for his dollar-based CBDC. But that could take years, so the Fed plans to test his Fednow service in 2023 and build a faster payments system within the United States.
The dollar isn’t going anywhere anytime soon, but it could make unexpected allies in the international financial system sooner rather than later.
what do i need to do? US leaders must work to curb the increasing fragmentation of the global payments landscape. This can be achieved by clarifying national regulations. Especially when it comes to his Fed authority in issuing digital dollars and the role of dollar-backed stablecoins. The United States cannot lead without models. This will require spurring innovation in the form of more efficient private sector payment options, not just CBDCs. Finally, the United States has a key role to play in setting global standards and she needs to be more active in the G20 (G20) and IMF on these issues. This serves two purposes. One is to ensure that innovations in the payments environment do not lead to further fragmentation. It also helps clarify which countries are interested in cooperating and which truly want to blaze a different path.
Ananya Kumar is the Assistant Director of Digital Currencies at the Atlantic Council’s GeoEconomics Center.
Josh Lipsky is Senior Director of the GeoEconomics Center..
Friday, September 16, 2022
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