In response to the Russian invasion of Ukraine, Western economies led by the US are implementing an unprecedented combination of potent economic sanctions. The two most significant measures so far are the barring of several Russian banks from the international SWIFT payments network, and the freezing of US dollar reserves of the Russian Central Bank.
What is SWIFT?
Established in 1973, SWIFT (Society for Worldwide Interbank Financial Telecommunication) is a communications network that connects 11,000 banks and organizations across 200 countries, allowing them to send money to each other rapidly across borders. More than 40 million transactions are conducted daily, of which 1% or more are believed to be payments to or from Russia.
By design, the system is not controlled by a single entity. While it is overseen by the National Bank of Belgium, it is co-owned by around 2,000 banks and other financial entities. Its use in sanctions is therefore rare. One such rare case was banning Iran in 2012 to restrict its nuclear program.
The SWIFT Sanctions
On February 27, the European Union (EU), the US, Britain and Canada announced the intention to block several Russian banks from the SWIFT system. The EU imports 40% of its gas from Russia and is therefore more inclined to be cautious.
On March 2, the EU clarified that seven Russian banks—including VTB, Bank Otkritie, Novikombank, Promsvyazbank, Bank Rossiya, Sovcombank and VEB—would have 10 days to prepare for the ban. Targeted for their connections to the Russian state, the affected banks represent 70% of the Russian banking system.
Notably, Russian banks handling energy payments are excluded in the sanctions. This may reflect partly Germany’s concern over the knock-on effect for its own economy. The US and UK have since imposed bans on the import of Russian crude, and it is unclear whether other nations will follow suit.
While SWIFT is the dominant system for cross-border payments between banks, other options exist. Russia’s own payment network is not well developed, connecting only 23 foreign banks, but more may join if it is the only viable option.
Some of Russia’s main trading partners are also seeking ways to circumvent disruption to their own supply chains. India, which buys nearly one-third of its potash supplies from Russia and Belarus, is investigating a rupee-based trade accounts with Russia to preserve the supply of fertilizer for its agricultural sector.
Russian exporters are also increasingly settling payments in Chinese yuan, rather than euros or US dollars. Chinese banks are reportedly encouraging this as uncertainty over the future of the SWIFT sanctions continues. Another alternative to SWIFT is China’s Cross-Border Interbank Payment System (CIPS), which can also grow in use.
Freezing Russia’s Central Bank Assets
On February 28, the US prohibited all US dollar-denominated transactions by the Russian Central Bank, and barred Americans from doing business with Russia’s main financial institutions, including the Kremlin’s sovereign wealth fund.
Russia has been systematically reducing its US dollar assets from 45% of its foreign exchange reserves in 2017 to just 15% in 2021over. Nonetheless, freezing the US dollar reserves of Russia would prevent it from supporting its own currency by selling US dollars to buy rubles.
The ruble fell sharply upon the announcement from 84 to 104 rubles per US dollar (-24%), and continues to fluctuate.
Source: Trading Economics
Implications for the Global Economy
The above sanctions are indeed severe, and will be highly disruptive to the Russian economy and its currency in the short run.
The long-term implications for global markets are less clear. If the sanctions are sustained, permanent alternative structures may evolve that fundamentally reshape how business is conducted and which reserve assets are held.
As significant economies in the ascending world (China, India) continue doing business with Russia, the world order may change. Payments system could become more fragmented and politicized, and the US dollar may become less dominant as a reserve currency as the Russian example has shown that holding US dollar reserves is not meaningful during crises.
Changes in the geopolitical landscape may require changes in investment strategy to manage portfolio risk. While fundamental change is not yet inevitable, asset managers will be preparing for the possibility of a new investing environment.
 BBC.com - https://www.bbc.com/news/business-60521822
 The Times - https://www.thetimes.co.uk/article/what-is-swift-banking-system-russia-ukraine-sanctions-fpwb5g9r3
 WSJ - https://www.wsj.com/articles/as-ukraine-burns-europes-energy-options-look-limited-11645718093?mod=article_inline
 DW - https://www.dw.com/en/ukraine-icc-to-investigate-suspected-war-crimes-live-updates/a-60977270
 WSJ - https://www.wsj.com/livecoverage/russia-ukraine-latest-news-2022-03-01/card/west-orders-seven-russian-banks-off-swift-but-leaves-others-on-OMv9TCsZMQqlze9dQQRm
 Reuters - https://www.reuters.com/world/india/india-explores-setting-up-rupee-trade-accounts-with-russia-soften-sanctions-blow-2022-02-25/
 ZeroHedge - https://www.zerohedge.com/markets/jamie-dimon-warns-swift-sanctions-may-bring-unintended-consequences-can-be-circumvented
 Trading Economics - https://tradingeconomics.com/russia/currency