Session 18 - The UK payment schemes (Access to UK Payment Schemes for Non-Bank Payment Service Providers)

The UK payment schemes 

Information on the UK’s payment schemes can be found in An Introduction to the UK Interbank Payment Schemes. In summary, non-bank PSPs may want to use one or more of the following schemes:

 CHAPS – the UK’s same day payment system used for wholesale and time-sensitive retail payments. 

 Faster Payments (FPS) – provides real time payments 24/7 and is used for standing orders, single immediate payments, forward dated payments, return payments, such as for internet and telephone banking payments as well as mobile payments (e.g. through Paym).

 Bacs – the ‘automated clearing house’, which processes Direct Debits and Bacs Direct Credits across a three working day cycle. 

 Image Clearing System – Cheque imaging is the process that enables images of cheques to be exchanged between banks and building societies, through the Image Clearing System, for clearing and payment. CHAPS is operated by the Bank, while FPS, Bacs and the Image Clearing System are operated by Pay.UK.

Payment schemes require a settlement service provider (SSP) to provide final settlement of the various payment flows between the direct participants of a payment scheme. For these payment schemes, the Bank is the SSP, providing settlement via a transfer of funds between settlement accounts held by participants in the Bank’s Real Time Gross Settlement (RTGS) system. The Bank offers settlement services in order to promote both monetary and financial stability, as settlement at a central bank mitigates credit and disruption risk for the participants as well as end-users of the payment schemes. 

CHAPS settles each transaction individually, in gross and in real-time across settlement accounts. In the Deferred Net Settlement (DNS) payment schemes (Bacs, FPS, and the Image Clearing System), end-users make payments during a ‘clearing cycle’ and payment settlement occurs at the end of this cycle. The payment scheme calculates the amount each participant owes/is owed as a result of transactions made during each cycle. This is sent to the Bank, which then simultaneously debits or credits each settlement account this amount. Note: The Bank also provides net settlement services to the LINK ATM Scheme and Visa Europe. 

While LINK is covered in An Introduction to the UK Interbank Payment Schemes, neither it nor Visa are further covered in this guide for non-bank PSPs. The required supporting regulatory and legal arrangements are not currently in place to support settlement in these systems. How have non-bank payment service providers accessed the payment schemes previously? In the past, non-bank PSPs were only able to participate in these payment schemes as a directly connected non-settling participant or as an indirect participant. 

This type of indirect participation is still available to non-bank PSPs as a participation option. Directly connected non-settling participants have a direct connection to the payment scheme’s central infrastructure where they can submit and receive payment messages, scheme messages and transaction reports. However, they use a sponsor bank (an existing direct settling participant) to settle on their behalf, using the sponsor’s settlement account at the Bank. Directly connected non-settling participation is not available in CHAPS.

Indirect participants send their payment instructions via a direct participant. The direct participant’s settlement account at the Bank is used for settlement on behalf of the indirect participant. Information on these two access options can be found in An Introduction to the UK Interbank Payment Schemes, or by contacting the relevant payment scheme.

Why does the Bank allow non-bank payment service providers to access payment schemes directly?

 The UK is a world leader in payments innovation, which is reflected in the dramatic growth in the number of UK-authorised non-bank PSPs. 

These institutions are competing with banks to provide payment services. However, until access to settlement accounts was extended, they were only able to access the UK payment schemes indirectly – through the very banks they are competing with. The Bank allows non-bank PSPs to open settlement accounts, subject to appropriate safeguards. This means they can meet one of the key entry criteria to become a direct settling participant in UK payment schemes that settle at the Bank. Access to the UK’s main payment schemes allows non-bank PSPs to compete on a more level playing field. They will be less dependent on competitors and will be able to offer a wider range of payment services. These factors all help to increase competition and innovation in the market for payments. Longer term, the innovation stemming from expanded access should promote financial stability by:  creating more diverse payment arrangements with fewer single points of failure;  identifying and developing new risk-reducing technologies;  expanding the range of transactions that can take place electronically and be settled in central bank money. 

 

Which non-bank payment service providers are eligible for direct access?

 

There are two types of non-bank PSPs eligible for direct access – e-money institutions and payment institutions. E-money institutions are regulated by the Financial Conduct Authority (FCA); payment institutions are regulated by the FCA and also in some cases by HM Revenue and Customs (HMRC), for anti-money laundering purposes (depending on business model).

 

Only authorised e-money and payment institutions are eligible to hold settlement accounts at the Bank (see page 7). This means that small e-money institutions and small payment institutions, that are registered only (as opposed to being authorised), cannot hold a settlement account at the Bank and consequently are not eligible for direct settlement access to the payment schemes.

 

Session 17 - What Is the SWIFT Banking System?

What Is the SWIFT Banking System?

The Society for Worldwide Interbank Financial Telecommunications (SWIFT) system powers most international money and security transfers. SWIFT is a vast messaging network used by financial institutions to quickly, accurately, and securely send and receive information, such as money transfer instructions. In this article, we explore what SWIFT does, how it works, and how it makes money.

KEY TAKEAWAYS

• Society for Worldwide Interbank Financial Telecommunications (SWIFT) is a member-owned cooperative that provides safe and secure financial transactions for its members.
• This payment network allows individuals and businesses to take electronic or card payments even if the customer or vendor uses a different bank than the payee.
• SWIFT is the largest and most streamlined method for international payments and settlements.
• SWIFT works by assigning each member institution a unique ID code (a BIC number) that identifies the bank name and the country, city, and branch.
• SWIFT has been used to impose economic sanctions on Iran, Russia, and Belarus.

Inside a SWIFT Transaction

Financial institutions use SWIFT to securely transmit information and instructions through a standardized code system. Although SWIFT is crucial to global financial infrastructure, it's not a financial institution. SWIFT does not hold or transfer assets but facilitates secure, efficient communication between member institutions.

More than 11,000 global SWIFT member institutions sent an average of 44.8 million messages daily through the network in November 2022.1

SWIFT assigns each financial organization a unique code with either eight or 11 characters, known as a bank identifier code or BIC. The BIC may also use the terms SWIFT code, SWIFT ID, or ISO 9362 code.2 To understand how the code is assigned, let’s look at the Italian bank UniCredit Banca, headquartered in Milan. It has the eight-character SWIFT code UNCRITMM.3

• First four characters: the institute code (UNCR for UniCredit Banca)
• Next two characters: the country code (IT for the country Italy)
• Next two characters: the location/city code (MM for Milan)
• Last three characters: optional, but organizations use them to assign codes to individual branches.

Here's an example. A customer wants to send money to his friend in Venice, Italy, so he visits a local Bank of America branch. He brings his Italian friend’s account number and Venice-based branch information for UniCredit Banca. This information includes the unique SWIFT code.

Bank of America sends a payment transfer message to the UniCredit Banca branch over the secure SWIFT network. When Unicredit Banca receives the SWIFT message about the incoming payment, it will clear and credit the money to the Italian friend’s account.

As powerful as SWIFT is, remember that it is only a messaging system. SWIFT does not hold any funds or securities, or manage client accounts.4

 

When making an international money transfer, the SWIFT/BIC code is used to identify your particular bank.

How to Send Money with SWIFT

You may need to send money with SWIFT to family and friends abroad or to secure a vacation rental, pay tuition, or get other services or merchandise. In general, sending money with SWIFT is the same process as sending a wire transfer. Here are the steps.

First, gather these items:

·                     Recipient's bank name, address and country, routing code

·                     Recipient’s full legal name, current address, and account number

·                     SWIFT Code of the bank account

·                     Your government-issued ID

·                     Purpose of sending funds

·                     Any other documentation or information required by your bank

1.   Go to your bank or log into your bank's system to request an international wire.

2.   Make sure you understand all fees and limits associated with sending cash abroad.

3.   You may be asked for the country you're sending to, the currency you wish to send in, and the above information.

4.   Send the money from your bank via SWIFT, and keep a record of the event.

If you're receiving money, you'll need to collect your bank's SWIFT number for the person sending you money. These SWIFT numbers may differ based on whether you're receiving funds in U.S. dollars or foreign currency.5

The World Before SWIFT

Before SWIFT, Telex was the only available means of message confirmation for international funds transfer. Low speed, security concerns, and a free message format hampered Telex. In other words, Telex did not have a unified system of codes like SWIFT to name banks and describe transactions. Telex senders had to describe every transaction in sentences that the receiver interpreted and executed. This led to many human errors, as well as slower processing times.6 

According to the London School of Economics, "Support for a shared network ... began to achieve institutional form ... in the late 1960s, when the Société Financière Européenne (SFE, a consortium of six major banks based in Luxembourg and Paris) initiated a 'message-switching project.'"7

To circumvent these problems, the SWIFT system was formed in 1973 with 239 banks in 15 countries. The global network would transfer financial messages in a secure and timely manner as Worldwide Interbank Financial Telecommunication, with headquarters in Belgium. SWIFT's messaging services went live in 1977.8

Why Is SWIFT Dominant?

By 2022, SWIFT had expanded to more than 11,000 institutional members from more than 200 countries and territories.9

Although other message services like Fedwire, Ripple, and Clearing House Interbank Payments System (CHIPS) exist, SWIFT remains dominant in the market. Success may be attributed to the platform's security, and to the fact that it's continually adding new message codes to transmit different financial transactions.

In addition, some countries use the International Bank Account Number (IBAN) to identify international bank accounts across national borders, but the U.S. does not participate in IBAN.5

Though SWIFT primarily started for simple payment instructions, it now sends various messages, including security, treasury, trade, and system transactions. In Swift's latest report from December 2022, data showed that most SWIFT traffic is still for payment (44%) and securities (51%) messages. The remaining traffic flows to treasury, trade, and system transactions.10

Who Uses SWIFT?

Initially, SWIFT founders designed the network to facilitate communication about Treasury and correspondent transactions only. The robustness of the message format design allowed for the huge scalability through which SWIFT gradually expanded to provide services to the following:111213

• Banks
• Brokerage institutes and trading houses
• Securities dealers
• Asset management companies
• Clearinghouses
• Depositories
• Exchanges
• Corporate business houses
• Treasury market participants and service providers
• Individuals or businesses making international wires or money transfers
• Foreign exchange and money brokers

Who Owns the SWIFT system?

SWIFT is a member-owned cooperative controlled by its shareholders (certain member financial institutions), representing some firms worldwide. SWIFT is overseen by the Group of Ten countries' G-10 central banks. These countries are Belgium, Canada, France, Germany, Italy, Japan, Netherlands, Sweden, Switzerland, the United Kingdom, and the United States. The European country of Belgium acts as the lead overseer alongside other members such as the U.S. Federal Reserve.14

Because all countries rely on SWIFT to conduct fast, seamless, secure communication, they are incentivized to remain in good standing with the organization. Central banks oversee SWIFT from Group of Ten (G10) countries, but it is a neutral organization operating for all its members' benefit.

SWIFT Services

The SWIFT system offers many services that help businesses and individuals to complete seamless and accurate business transactions. Some of the services offered are listed below.

Applications

SWIFT connections enable access to various applications, including real-time instruction matching for treasury and forex transactions, banking market infrastructure for processing payment instructions between banks, and securities market infrastructure for processing clearing and settlement instructions for payments, securities, forex, and derivatives transactions.15

Business Intelligence

SWIFT has recently introduced dashboards and reporting utilities that enable its clients to get a dynamic, real-time view of monitoring the messages, activity, trade flow, and reporting.16 The reports enable filtering based on region, country, message types, and related parameters.

Compliance Services

Aimed at services around financial crime compliance, SWIFT offers reporting and utilities for Know Your Customer (KYC), sanctions, and anti-money laundering (AML).15

Messaging, Connectivity, and Software Solutions

The core of the SWIFT business resides in providing a secure, reliable, and scalable network for the smooth movement of messages. Through its various messaging hubs, software, and network connections, SWIFT offers multiple products and services that enable its end clients to send and receive transactional messages.

How Does SWIFT Make Money?

SWIFT Members are categorized into classes based on share ownership.17 All members pay a one-time joining fee plus annual support charges that vary by member classes. 

SWIFT also charges users for each message based on message type and length. These charges vary depending on the bank’s usage volume. Different charge tiers exist for banks generating different message volumes.18

SWIFT has also launched additional services as described above, backed by SWIFT's long history of data. These services include business intelligence, reference data, and compliance services and offer SWIFT other income streams.15

Challenges for SWIFT

Most SWIFT clients process huge transactional volumes where manual instruction entry is not practical. The need to automate SWIFT message creation, processing, and transmission is growing. However, this comes at a cost and increased operational overhead.

Although SWIFT successfully provides software for automation, that also comes at a cost. SWIFT may need to tap into these problem areas for most of its client base. Automated solutions within this space may bring new income streams for SWIFT and keep clients engaged in the long run.

SWIFT and Economic Sanctions

In recent years, the possible use of SWIFT membership as a potential economic sanction against members has emerged multiple times. In 2012, for example, the European Union passed a sanction against Iran that compelled SWIFT to disconnect sanctioned Iranian banks.

In 2022,  EU Council Regulation (EU) 833/2014 prohibited SWIFT and other financial messaging providers from providing services to designated Russian entities and subsidiaries. Based in Belgium, SWIFT must comply with EU regulations. EU Council Regulation (EU) 765/2006 prohibited SWIFT from working with designated Belarusian entities and subsidiaries. As a result, both Russian and Belarusian entities were disconnected from SWIFT.

 

SWIFT does not provide services for EU-sanctioned banks from Iran, Russia, and Belarus.

What is SWIFT in Simple Terms?

Behind most international money and security transfers is the Society for Worldwide Interbank Financial Telecommunications, known as the SWIFT system. SWIFT is a vast messaging network banks and other financial institutions use to quickly, accurately, and securely send and receive information, such as money transfer instructions.

How Important is SWIFT to Global Finance?

SWIFT has become a crucial part of the global financial infrastructure. More than 11,000 global SWIFT member institutions sent an average of 44.8 million messages daily through the network in November 2022.

Do All Banks Use SWIFT?

No. In fact, many smaller banks in the U.S. and most credit unions are not members of the SWIFT network.

Can banks transfer money without SWIFT?

Yes, but doing so relies on slower, legacy systems to process the payments (often relying, in part, on manual settlement). This makes international payments more difficult, slower, costlier, and uncertain.

The Bottom Line

SWIFT has retained its dominant position in the global processing of transactional messages. It has recently forayed into other areas, such as offering reporting utilities and data for business intelligence, which indicates its willingness to remain innovative. In the short-to-midterm, SWIFT seems poised to continue dominating the market.

Help from - https://www.investopedia.com/articles/personal-finance/050515/how-swift-system-works.asp