Someone is wrong on the internet about the SWIFT network

There's a chart that has been circulating for a while now on social media that shows payments traffic on SWIFT, a key global financial messaging network. Below is a version from the Economist, but I've seen other versions too.

Source: The Economist

When banks make cross-border payments between each other, say euros to dollars, they need to use a communications network to coordinate the debiting and crediting of accounts, and SWIFT is the dominant network for doing so. Think of it as WhatsApp for banks.

Here's the problem. The main conclusion that pundits are taking away from the chart is the wrong one. Most of them seem to think that the chart illustrates an erosion in the euro's global popularity (i.e. de-euroization) and a simultaneous move towards the dollar for global trade. The Economist, which entitles its chart "Dollarisation," is also guilty.

Today I'm going to show you why that's the wrong conclusion; there is no SWIFT-related de-euroization. The reason for going through this effort isn't just because it's fun to dunk on wrong folks. It can also teach us some interesting things about the massive bits of unsung payments infrastructure that underlie our global economy, including not only SWIFT but also Europe's T2 and the U.S.'s Fedwire, two of the world's busiest financial utilities.

Let's dig in. The problem with trying to analyze charts of SWIFT messages across various currency jurisdictions is the data isn't necessarily comparable. As I said at the outset, commercial banks around the world use SWIFT to coordinate cross-border payments with other banks, and that is what people are hoping to measure with the SWIFT chart at top. But muddying the waters is the fact that in the EU, banks also use SWIFT for domestic payments. Here's how:

The most important bit of payments infrastructure in both the U.S. and EU are their respective central bank's large-value payments (or settlement) systems. When commercial banks make crucial domestic payments with each other, typically on behalf of their customers, these payments are settled in real-time using each commercial banks' respective account at their central bank, in the U.S.'s case the Federal Reserve, and in Europe's case the European Central bank, or ECB. The ECB's mechanism for settling payments is known as T2 (and previous to that, Target2.) The Fed uses Fedwire.

To coordinate this "dance of databases," the central bank and participating commercial banks need to communicate clearly and rapidly with each other, and that's where financial messaging networks come in. Fedwire doesn't use SWIFT for this. It comes fitted-out with its own proprietary messaging network for member banks. But the ECB has chosen a different setup. Up until 2023 the ECB had outsourced all messaging to SWIFT, a bank-owned cooperative based in Belgium.

Now you may be able to see why comparing the amount of euro payments made using SWIFT messages to dollar payments made using SWIFT is an apples to oranges comparison. Both data sets include cross-border payments, but the EU dataset also includes a large amount of domestic payments. The U.S. dataset doesn't.

This means that the variations in the amount of euro payments messages that get captured in the chart at top may not reflect dramatic geopolitical shifts like "de-euroization, but may be linked to more banal things like changes in local EU payments habits. And indeed, I'm going to show why domestic and not international factors explain the 2023 drop in the euro share of SWIFT messages. 

In 2023, the ECB replaced its Target2 settlement system with a new system called T2. Two key upgrades were introduced with T2 that ultimately affected SWIFT message flows. 

The first of the upgrades was a new language for constructing messages, with the ISO 20022 messaging standard replacing the legacy MT messaging format. (I wrote about ISO 20022 in an article entitled The Standard About to Revolutionize Payments.) 

This change in payments lingo has had a big effect on the sum of SWIFT data displayed in the chart at top. Both the ECB and SWIFT provide explanations for this, but here is my shorter summary. Prior to the 2023 changeover, a type of euro payment known as a liquidity transfer was regularly captured in the SWIFT chart. A liquidity transfer occurs when a European commercial bank, which often has several accounts at the ECB, must rebalance between its accounts when one of them is running low. These within-bank liquidity transfer messages aren't terribly interesting and have nothing to do with global payments, but were included in the SWIFT dataset nonetheless up until 2023, thus fudging the results. 

With the arrival of ISO 20022, messages related to euro liquidity transfers are now conveyed using a new type of message. Thus the big decline in the euro's share of SWIFT messages in 2023 — liquidity transfers have effectively dropped out of the chart. This is a good thing, though, since the omission of these relatively unimportant within-bank transfers means we're getting a cleaner and more accurate signal.

The second upgrade introduced in 2023 was the opportunity for European commercial banks to choose among multiple messaging networks for accessing T2. Under T2's predecessor, Target2, banks only had one access choice: the SWIFT network. With T2, European banks can also use SIAnet, owned by the Nexi Group. (I wrote about this upgrade here, in which I described T2's switch from an older Y-copy topology to a network agnostic V-shaped topology.)

In that older post, I suggested that adding additional access points was a healthy step for Europe, since it meant more resilience should one network suffer an outage. And in fact, Europe is already reaping the benefits. When SWIFT failed for several hours on July 18, 2024, the ECB issued the following alert:

"T2 is operating normally. However, due to an ongoing SWIFT issue, some incoming messages do not reach T2 immediately. Similarly, some T2 outgoing messages might not reach the receiver immediately... There is no impact on traffic sent or received via NEXI. Participants may continue sending new instructions and queries to CLM/RTGS/CRDM. Updated information will be provided at the latest by 16:30."

Whereas an outage of SWIFT in 2021 or 2022 would have seriously slowed down Europe's financial activity, the addition of Nexi's SIAnet to the mix in 2023 limited the damage caused by the 2024 SWIFT outage. By contrast, the UK's central bank, the Bank of England, remains entirely reliant on SWIFT for messaging, and so the 2024 outage caused more disruption for Brits than Europeans, according to the Financial Times.

Unfortunately, I can't find any data on how many European banks have actually chosen to shift their T2 messaging needs over to Nexi. But I'd imagine that it isn't negligible, given that Nexi's SIANet is already being used by banks to access other key bits of Europe's payments architecture including STEP2, a pan-European automated clearinghouse. And so some non-negligible portion of the drop in the euro's share of SWIFT messages in the top chart is due to a shift away from SWIFT.

If the SWIFT chart at top doesn't mean what people think it means, what is the euro's status as a global trading currency? A 2024 article from the ECB clears this up. In short, the euro's international role hasn't eroded over the last few years. The de-euroization memes are all wrong.

The irony of all of this is that rather than reflecting a decline in Europe's status, the SWIFT chart illustrates the opposite. A bunch of healthy advances are driving the euro's share of SWIFT payments down, including a more accurate classification of financial messaging data thanks to a better messaging language, combined with a much needed de-SWIFTication of European messaging flows. It's not as juicy as euro critics make it out to be.

Are central banks too reliant on SWIFT for domestic payments?

Central bank settlement systems are the the tectonic plates of the payment system: they are vitally important to our lives, but we never see them in action. All of a nations' electronic payments are ultimately completed, or settled, on these systems. If they stop working, our financial lives go on pause, or at least regress to older forms of payment.

In this post I want to introduce readers to a crucial feature of these payments tectonic plates: their reliance for domestic settlement on SWIFTNet, a financial messaging network used by banks and other financial institutions to communicate payments information. Think of SWIFTNet as a WhatsApp for banks, but exclusive and very secure. 

This reliance – or over-reliance – is best exemplified by a recent decision by the European Central Bank. The Target2 settlement system has long been the bedrock layer of the European payments universe. All domestic payment ultimately get tied-off on the system. Since it was introduced in 2007, Target2 has been solely reliant on SWIFTNet for sending and receiving messages. 

When the European Central Bank replaced Target2 with T2 earlier this year, it modified the system to have two access points: it kept SWIFTNet but added a competing messaging network, SIAnet, to the mix. As one commentator triumphantly put it, "SWIFT’s monopoly for access to the T2/T2S system is broken."

SWIFTNet is owned by the Society for Worldwide Interbank Financial Telecommunication, or SWIFT, which is structured as a cooperative society under Belgian law and is owned and governed by its 11,000 or so member financial institutions. Whenever SWIFT gets mentioned in conversations, it tends to be associated with cross-border wire payments, for which its messaging network is dominant. However, for many jurisdictions, including Europe, SWIFT is also integral to making domestic payments. It's this little-known local reliance that I'm going to explore in this post.

The dilemma faced by central banks such as the European Central Bank is that SWIFTNet is an incredibly useful messaging network. It is ubiquitous: most banks already use it for cross-border payments. And so the path of least resistance for many central banks is to outsource a nation's domestic messaging requirements to SWIFT, too. However, this reliance exposes national infrastructure to SWIFTNet-related risks like foreign control, sanctions, snooping, and system outages.

Financial messaging 101

Before going further, we need to understand why financial messaging is important. For a single electronic payment to be completed, a set of databases owned by a number of financial institutions, usually banks, must engage in an intricate dance of credits and debits. To coordinate this dance, these banks need to communicate, and that's where a messaging network is crucial.

Say, for example, that Google needs to pay Apple $10 million. Google tells its banker at Wells Fargo to make the payment. Wells Fargo first updates its own database by debiting Google's balance by $10 million. The payment now has to hop over to Google Apple, which banks at Chase. For that to happen the payment flow must progress to the core of the U.S's payments system, the database owned by the Federal Reserve, the U.S.'s central bank.

Along with most other U.S. banks, Wells Fargo has an account at the Federal Reserve. It communicates to the central bank that it wants its balance to be debited by $10 million and the account of Chase to be credited by that amount. Once Chase's account at the Federal Reserve is updated, Chase gets a notification that it can finally credit Apple for $10 million. At that point Apple can finally spend the $10 million.

This entire process takes just a second or two. For this "dance of databases" to execute properly, the Federal Reserve, Chase, and Wells Fargo need to be connected to a communications network.

The sort of messaging network to which the central bank is connected, and the stewardship of that network, is thus crucial to the entire functioning of the economy.

Proprietary messaging networks or SWIFTNet? 

The Federal Reserve is somewhat unique among central banks in that it has built its own proprietary messaging network for banks. All of the 9,000 or so financial institutions that use the Federal Reserve settlement system, Fedwire, must connect to the Fed's proprietary messaging network to make Fedwire payments. To make international payments, however, U.S. banks must still communicate via SWIFTNet.  

Let's flesh the story out by trekking north of the border. Whereas the Federal Reserve has no reliance on SWIFTNet, Canada's core piece of domestic settlement infrastructure, Lynx, relies entirely on SWIFTNet for messaging.

For example, if Toronto Dominion Bank needs to make a $10 million to Scotiabank, it enters this order into SWIFTNet, upon which SWIFT forwards the message to Lynx, which updates each banks' accounts by $10 million and sends a confirmation back to SWIFTNet, which tells Scotiabank that the payment has settled.

For payments nerds, this network setup is called a Y-copy topology. The network looks like a "Y" because the originating bank message is relayed from the sending bank via SWIFTNet, the pivot at the center of the Y, down to the settlement system, and then back up via SWIFTNet to the recipient bank. It is illustrated below in the context of the UK's payment system, with the CHAPS settlement system instead of Lynx, but the idea is the same.

A Y-copy network topology for settling central bank payments in the UK [source]

The upshot is that the Federal Reserve controls the messaging apparatus on which its domestic settlement depends, whereas Canada outsources this to a cooperative on the other side of the ocean.

Many of the world's small and middle-sized central banks have adopted the same Y-copy approach as Canada. This list includes Australia, Singapore, New Zealand, Nigeria, UK, Sweden and South Africa. However, some members of this group are starting to have second thoughts about fusing themselves so completely to SWIFT.

Removing the single point of failure

The European Central Bank is at the vanguard of this group. Prior to 2023, the European Central Bank was in the same bucket as Canada, relying entirely on SWIFTNet to settle domestic transactions. 

With its upgraded T2 system, Europe doesn't go quite as far the Fed's model, which is to build its own bespoke messaging network. Rather, European banks now have the option of either sending messages to T2 using SWIFTNet, or they can use SIAnet, a competing network owned by Nexi, a publicly-traded corporation. SIAnet stands for Societa Interbancaria per l'Automazione, a network that originally connected Italian banks but has now gone pan-European.

The reason for this design switch is that European Central Bank desires "network-agnostic connectivity." This dual access model will make things more complex for the European Central Bank. If a commercial bank originates a SIAnet message, the central bank will have to translate this over to a SWIFT message if the recipient bank uses SWIFTNet. Nevertheless, the European Central Bank believes this dual structure will offer more choice to domestic banks.

The ECB also hints at the enhanced "information security" that this new setup will provide, without providing much detail. The UK's recent efforts to update its core settlement layer sheds some extra insights into what these security improvements might be. Right now, the UK's core settlement system, CHAPS, can only be accessed by SWIFTNet, much like in Canada, so that all domestic UK payments are SWIFT-reliant.

In its roadmap for updating CHAPS, the Bank of England is proposing to allow banks to access the system via either SWIFTNet or a second network, which doesn't yet exist. The idea is to enable "resilient connectivity" to the core settlement layer, especially in periods of "operational or market disruption." Should SWIFTNet go down there would be no way for financial institutions to communicate with CHAPS, and the entire domestic economy would grind to a halt. A second network removes the "single point of failure" by allowing banks to re-route messages to CHAPS.

The Bank of England also highlights the benefits of competition, which would reduce the costs of connectivity.

This sounds great, but there are tradeoffs. Using a a single network for both domestic and international payments is valuable to the private sector because it offers standardization and efficiencies in banks' processing. Adding a second option will also complicate things for the Bank of England, since it will have to design and build a system from scratch, much like the Fed did, which could be costly. Either that or it will have to find another private option, like the ECB did with SIAnet. This second network may not be as good as SWIFTNet which, despite worries about resiliency, has been incredibly successful.

When CHAPS went down earlier this year for a few hours, for instance, it wasn't SWIFT's fault, but the Bank of England's fault. The same goes for a full day outage in 2014. 

Comparing a V-shaped network topology to Y-Copy in an Australian context [source]

The type of settlement topology that the UK is proposing is known as "V-shaped," since all messages are sent directly to the central bank settlement system for processing via any of a number of messaging networks, and then back to the recipient bank. The difference between a V-shaped topology and Y-copy is visualized in the chart above in an Australian context, but the principles apply just as well to the UK.

Sanctions and "the SWIFT affair"

The decision to make domestic payments less dependent on SWIFTNet is much more easy to make for outlier nations like Russia. SWIFT is based in Belgium and is overseen by the Belgian central bank, along with the G-10 central banks: Banca d’Italia, Bank of Canada, Bank of England, Bank of Japan, Banque de France, De Nederlandsche Bank, Deutsche Bundesbank, European Central Bank, Sveriges Riksbank, Swiss National Bank, and the Federal Reserve. That put SWIFT governance far out of Russian control.

You can see why this could be a problem for Russia. Imagine that only way to settle domestic Russian payments was by communicating through SWIFTNet. If Russia was subsequently cut off from that network for violating international law, that would mean that all Russian domestic payments would suddenly cease to work. It would be a disaster.

Needless to say, the Central Bank of Russia has ensured that it doesn't depend on SWIFTNet for communications. It has its own domestic messaging network known as Sistema peredachi finansovykh soobscheniy, or System for Transfer of Financial Messages (SPFS), which was built in 2014 after the invasion of Crimea. Prior to then, it appears that "almost all" domestic Russian transactions passed through SWIFTNet – a dangerous proposition for a country about to face sanctions.

Mind you, while Russia has protected its domestic payments from SWIFTNet-related risk, it can't do the same for its international payments. SWIFTNet remains the dominant network for making a cross border wire. There is no network the Russians can create that will get around this.

I'm pretty sure that most larger developing states and/or rogue nations have long-since built independent domestic financial messaging systems to avoid SWIFTNet risk. I believe China has done so. Brazil has the National Financial System Network, or Rede do sistema financeiro nacional (RSFN). India also has its own system, the Structured Financial Messaging System (SFMS), built in 2001. India is even trying to export SFMS as a SWIFT competitor.

The Japanese were typically way ahead on this. The Bank of Japan built its messaging network, the Zengin Data Telecommunication System, back in 1973, several years before SWIFT was founded.

The last SWIFTNet risk is snooping risk. This gets us into the so-called SWIFT affair. After 9/11, the U.S. intelligence agencies were able to pry open SWIFT through secret broad administrative subpoenas. They had the jurisdiction to do so because one of SWIFT's two main data centres was located in the U.S.

To ensure data integrity, SWIFT had been mirroring European data held in its data centre in Belgium at its U.S. site. That effectively gave U.S. intelligence access to not only SWIFT's U.S. payments information, but  also information on foreign payments sourced from Europe or directed to Europe. Worse, it also provided spooks with data on domestic European payments. Recall that the European Central Bank's Target2 settlement system, which settles all digital domestic payments in Europe, was entirely reliant on SWIFTNet for communications.

When the U.S.'s snooping arrangement was made public by the New York Times in 2006, it caused a huge controversy in Europe. SWIFT tried to placate Europe by building a third data warehouse in Switzerland to house Europe's back-up data. But the precedent was set: SWIFT is not 100% trustworthy. And that may be part of the reason why the European Central Bank chose to downgrade its reliance on SWIFTNet when it introduced its new system, and is surely why other nations want to entirely hive their domestic systems off from it.

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In sum, central banks face a host of complicated decisions in how to bolt on messaging capabilities to their key settlement systems. SWIFTNet is a top notch network. However, too much SWIFT-related risk may be perceived as having negative implications for national security. For large nations with extensive banking industries, building a proprietary domestic messaging alternative seems to be the preferred option. It also seems to be the default choice for rogue states like Russia.

Another alternative is to fallback on using multiple independent networks for access, of which one is SWIFTNet, and thus mitigating exposure to SWIFT-related problems. This is the approach taken by Europe and the UK.

For smaller nations that comply with the global consensus, like Canada, the calculus is different. Building an alternative communications network is likely to be costly. The risk of sanctions and censorship are negligible while the benefits of using a high-quality ubiquitous network for both domestic and foreign payments messaging are significant. Given these factors, it may be worthwhile to bear all SWIFT-related risks and adopt the Y-copy model.

Cutting Martin Sellner off from the payments system

I few weeks back I learned who Martin Sellner is. If you haven't heard of him, Sellner is a prominent Austrian populizer of remigration, the idea that non-whites living in Western nations should be sent back to where they come from.

In a recent tweet from his wife, Brittany Sellner, we find out that Sellner has been kicked off of by a long list of banks and payments platforms.

List of all the banks/platforms Martin has been banned from. pic.twitter.com/FDNqjp7J21

— Brittany Sellner (@BrittPettibone) January 15, 2020

The companies that are accused of removing Sellner include German bitcoin exchange Bitpanda, a number of European banks, and payments processors PayPal and Stripe.

Should we support efforts to stop prominent remigrationists from making payments? It's a tricky question, one I've touched on before. What should be the ground rules for removing individuals with views like Sellner's from payments platforms? 

A bit of background first. Sellner isn't your typical advocate for the forced repatriation of ethnic minorities. He doesn't walk around with a shaved head or a swastika tattoos. He's personable, clean cut, well-dressed, social media savvy, and suave.

Sellner and his fellow Identitarians, the group to which he belongs, distance themselves from predecessor groups who have espoused versions of remigration, say like the neo-Nazis. Identitarians do not advocate racial superiority, hate, or violence. "We respect other cultures, we don't hate different cultures, we just want to preserve our own culture," says Sellner in this video.

To help spread ideas like remigration, Sellner has pulled off a number of stunts. These include crashing a theatrical piece in which all the actors were refugees and hiring a boat to sail the Mediterranean and harass NGOs that are helping boat people.

Although Sellner says that he respects other cultures and doesn't advocate hate, this doesn't square with the fact that any remigration would be an incredibly violent event. "I don't hate you. I respect your culture. I just want to kick you out of the country." What an incongruent set of beliefs!

How might remigration play out? Let's imagine how it would work in my home town of Montreal. (Yep, Quebec has its own Identitarian branch). Many Montrealers are members of a visible minority, including those of Middle Eastern, North African, West African, Latin American, and Asian descent. Laws would have to be struck down so that these people's citizenship could be revoked. Even the most despicable Canadians haven't been treated this way (think Luka Magnotta or Paul Bernardo).

Next, these new non-citizens would be rounded up and interned. Then they'd be sent down to the Old Port and shipped out by ocean freighter. Those who didn't leave peacefully would be hunted down, maybe shot. Any whites who helped them would become criminals. Whole neighbourhoods would be denuded of their population. Businesses across Montreal would suddenly cease to exist. Mixed-race families would be torn apart. It would be awful. 

Remigration is a violent idea. But at the same time, removing someone like Martin Sellner from the payments system is no small matter. Like garbage disposal service, or running water, or electricity, the ability to make payments is a necessity. If folks like Martin Sellner can't pay, they can't live.

The water utility generally won't sever the neighbourhood asshole's connection just because he's being unpleasant. Likewise, as long as Sellner isn't doing anything explicitly illegal, should he not be able to get access to basic payments services? If access to electricity, water, and garbage disposal services are all apolitical, maybe the same should apply to payments.

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I'd suggest the following way to referee this conflict.

We can think of the payment system as being comprised of backbones and onramps. A backbone is a shared piece of financial infrastructure across which a nation's payments/payments information flows. Any given country will have just a handful of payments backbones. Each one of them processes a huge amount of economic value.

For instance, one of the key American payments backbones is Fedwire, a large-value payments system operated by the Federal Reserve. In Europe the equivalent is Target2. In Canada it is LVTS. You probably haven't heard of these utilities. But they are vital to every one of us. Every time we want to make a payment, we are (ultimately) using one of these giant but unknown pieces of financial infrastructure. The utility bill you paid from your bank account last week? It was settled on Fedwire (or Target2 or LVTS).

Banks act as onramps to these backbones. Your account at the State Bank of Toledo, for instance, is your means for accessing Fedwire. Vancouver City Savings Credit Union is your gateway to Canada's LVTS.

Whereas the list of payments backbones is short, the list of onramps is long. There are 4,700 banks in the U.S. Which means there are 4,700 access points. In Europe, there are 1,056 financial institutions that directly participate in Target2. Canada has fewer banks, around 90.

Banks aren't the only type of onramp. Non-bank financial institutions and fintech firms provide indirect access to Fedwire and Target2. PayPal, for instance, is a popular way to make payments, but it doesn't actually hold customer deposits or have access to Fedwire. Rather, all customer funds are custodied at JP Morgan, PayPal's banker. So PayPal account owners get access to Fedwire via JP Morgan.

I'd argue that backbones like Fedwire and Target2 should not be allowed to block Martin Sellner. So if an onramp sends Sellner's utility bill payments or his donations to be processed by a backbone, that backbone shouldn't censor those transactions.

Onramps, however, should be able to choose if they want to serve Martin Sellner or not.

Onramps like banks will often specialize in building up expertise in serving a certain set of customers (i.e. some banks may cater to business customers rather than individuals). Or they may have designed their brands to attract a wide range of customers and employees. Connecting Martin Sellner may not be consistent with an onramp's expertise. Sellner is a risky client, after all, one who has received payments from terrorists. A bank that lacks the ability to closely monitor his transactions should be free to ask him to leave.

Sellner may also threaten the onramp's brand. By connecting Sellner, the onramp could be damaging  its relationship to the rest of its customers, or put the onramp's commitment to its employees, many of whom may be visible minorities, at risk. Onramps should be free to protect their brands from being associated with remigrationists.

As I said, onramps are plentiful. While it might be a nuissance to be cut off by one of them, Martin Sellner will always be able to find an alternative payments provider. If not, he and others like him might consider starting their own onramp, say an Identitarian bank or First Amendment Payment Processing.

Just start your own bank. https://t.co/r7UGXcKzN7

— Paul Joseph Watson (@PrisonPlanet) January 15, 2020

The same logic doesn't apply to backbones. Because backbones are often set up as government-enforced monopolies, anyone who has been denied access will have no other option for making payments.

Backbones aren't solely creatures of government monopoly. Strong market forces push everyone to use the existing shared payments infrastructure. The privately-owned Visa and MasterCard networks, for instance, are incredibly useful because everyone is already connected to them. A new competing card backbone can only become useful by attracting a large base of card users, but it can't attract this user base if it isn't already useful. This chicken & egg problem is incredibly difficult to solve. And so we tend to congregate around a few central payments hubs.

I think it would be dangerous to start regulating access to payments backbones such as Visa or Fedwire on the basis of moral fitness. The core service that a payment backbone provides—universal financial connectivity—is as important as water or electricity. Excluding someone from any of these systems could potentially kill them. We may not like Sellner's ideas, but don't forget that he's a human.

Once we start trying to rid ourselves of the world's Martin Sellners, we risk politicizing the entire backbone layer of the payments system. Other people who aren't so threatening could end up getting exiled simply simply because they are unpopular or different.

I'm far less worried about exclusion at the onramp level of the payments system. Even if PayPal or Bank Austria won't connect Martin Sellner, another onramp will. This doesn't mean that prominent remigrationists get off scot-free. They will end up atoning for the violence of their ideas by having to endure a constant stream of of inconvenient and embarrassing disconnections and reconnections.

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Which gets us back to the original tweet. The list of institutions that have disconnected Sellner is comprised solely of onramps. Not a single backbone (Target2, Visa, MasterCard, SWIFT) has removed him. I'd say that these results abide by the rough set of rules set out in this post: onramps, not backbones. So far, the cutting off of Martin Sellner has been a fair one.

And while being cutoff by PayPal, Stripe, and a few banks has no doubt been a pain for Sellner, there are still several onramps that continue to serve him. On his website, Sellner accepts donations to the following IBAN account number HU85117753795858688200000000. A quick search shows that this account is held at Hungary-based OTP Bank.

Donors can also pay him via SubscribeStar, a subscription-based crowdfunding platform. (Presumably he added SubscribeStar after being cutoff by Patreon, the more mainstream alternative.)

Sellner also accepts cryptocurrency donations using a Coinbase Commerce button:

Screenshot of Sellner's website from February 10, 2020

Coinbase is one of the worlds largest cryptocurrency exchanges. The Coinbase tool that Sellner is using on his site provides a relatively painless way for merchants to receive cryptocurrency payments. Using Internet Archive's Wayback Machine, I see that while Sellner has been accepting cryptocurrency for some time now, but he only recently upgraded his cryptocurrency payments option to Coinbase Commerce.

Coinbase describes itself as an "open financial system for the world". Perhaps serving Martin Sellner is not inconsistent with this philosophy. "Coinbase provides payments services to everyone, remigrationists or not." On the other hand, Coinbase's mission statement also includes the goal of "bringing about more economic freedom... and equality of opportunity in the world." Remigration is certainly not about economic freedom or equality. It is about destroying it.

A quick glance through Coinbase Commerce's terms of service specifies that an account cannot be used in ways that are

"threatening, intimidating, harassing, hateful, racially, or ethnically offensive, or instigate or encourage conduct that would be illegal, or otherwise inappropriate, including promoting violent crimes."

Sellner himself may be as gentle as a dove, but the idea his is promoting—remigration—isn't. One wonders why Coinbase has agreed to do business with him.

Europe's SWIFT problem

SWIFT headquarters in Belgium (source)

German foreign minister Heiko Maas recently penned an article in which he said that "it’s essential that we strengthen European autonomy by establishing payment channels that are independent of the US, creating a European Monetary Fund and building up an independent Swift system."

So what exactly is Maas's quibble with SWIFT, the Society for Worldwide Interbank Financial Telecommunication? SWIFT is a proprietary messaging system that banks can use communicate information about cross border payments. This November, U.S. President Trump has threatened to impose sanctions on SWIFT if it doesn't remove a set of Iranian banks from the SWIFT directory.

For Heiko Maas, this is a problem. Iran and Germany remain signatories to the same nuclear deal that Trump reneged on earlier this year. The deal committed Iran to cutting back its uranium enrichment program and allowing foreign inspectors access to nuclear sites, in return obligating signatories like Germany to normalize economic relations with Iran, including allowing the unrestricted sale of oil. If Iran is bumped from SWIFT, it could prevent Germany from meeting its side of the deal, potentially scuppering the whole thing. So a fully functioning SWIFT, one that can't be manipulated by foreign bullies, is key to Germany meeting its current foreign policy goals.

SWIFT is vital because it is a universal standard. If I want to send you $10,000 from my bank in Canada to your bank in Singapore to pay for services rendered, bank employees will use SWIFT terminals and codes to communicate how to manipulate the various bank ledgers involved in the transaction. If a bank has been banished from SWIFT, then it can no longer use what is effectively a universal banker's language for making money smoothly flow across borders.

It would be as-if you were at a party but unlike all the other party-goers were prohibited from using words to communicate. Sure, you could get your points across through hand gestures and stick drawings, but people would find conversing with you to be tiring and might prefer to avoid you. Without access to SWIFT, Iranian banks will be in the same situation as the mute party-goer. Sure, they can always use other types of communication like email, telex or fax to convey banking instructions, but these would be cumbersome since they would require counterparties to learn a new and clunky process, and they wouldn't necessarily be secure.

It seems odd that Maas is complaining about SWIFT's independence given that it is located in Belgium, which is home territory. But Trump, who is on the other side of the Atlantic, can still influence the network. The way that he plans to bend SWIFT to his will is by threatening members of its board with potential asset expropriations, criminal charges, travel bans, as well as punishing the companies they work for by restricting them from conducting business in the U.S.

How credible is this threat? As I pointed out here...

If SWIFT doesn't comply with US requirements that Iranian banks be cut off from its network, SWIFT board members (such as Yawar Shah) will face asset freezes & travel bans, and the banks that employ them (Citigroup) will be cut from the payments system: https://t.co/tVntv3USzs pic.twitter.com/XAiLOKPdtk

— JP Koning (@jp_koning) June 6, 2018

...SWIFT's board is made up of executives from twenty-five of the world's largest banks, including two Americans: Citigroup's Yawar Shah and J.P Morgan's Emma Loftus. No matter how erratic and silly he is, I really can't imagine Trump following up on his threat. Would he ban all twenty-five banks, including Citigroup and J.P. Morgan, from doing business in the U.S.? Not a chance, that would decimate the global banking system and the U.S. along with it. Requiring U.S. banks do stop using SWIFT would be equally foolish. Would he risk ridicule by putting two American bank executives—Shah and Loftus—under house arrest for non-compliance? I doubt it.     

No, the SWIFT board is TBTP, or too-big-to-be-punished. But even if Trump's threat is not a credible one, surely SWIFT will fall in line anyways. Large international businesses generally comply with the requests of governments, especially the American one. But there's a kicker. European law prohibits European businesses from complying with foreign sanctions unless the have secured EU permission to do so. This leaves SWIFT in an awfully tight place. Which of the two jurisdictions' laws will it choose to break? Assuming it can't get EU permission to comply with U.S. sanctions, then it can either illegally comply with U.S. law, or it can legally contravene U.S. laws. Either way, something has to give.  

Europe can win this battle, a point that Axel Hellman makes for Al-Monitor. After all, SWIFT is located in Belgium, not New York, and jurisdiction over SWIFT surely trumps lack of jurisdiction. Indeed, on its website SWIFT says that its policy is to defer to the EU on these matters:

"Whilst sanctions are imposed independently in different jurisdictions around the world, SWIFT cannot arbitrarily choose which jurisdiction’s sanction regime to follow. Being incorporated under Belgian law it must instead comply with related EU regulation, as confirmed by the Belgian government."

Consider too that SWIFT itself is supposed to be committed to a policy of non-censorship. Chairman Yawar Shah once said that “neutrality is in SWIFT’s DNA.” So from an ideological perspective it would seem that SWIFT would be aligned with Europe's more inclusive stance.

Of course, SWIFT's stated commitment to neutrality conflicts with the fact that it has banned Iran from the network before. In early 2012, U.S. pressure on SWIFT grew in the form of proposed legislation that would punish the messaging provider should it fail to ban Iranian users. SWIFT prevaricated, noting in early February that it would await the "right multilateral legal framework" before acting. In March 2012, the EU Council passed a resolution prohibiting financial messaging providers from servicing Iranian banks, upon which SWIFT disconnected them. It was only in 2015, after passage of the nuclear deal, that SWIFT reconnected Iran. (I get this timeline from the very readable Routledge Global Institutions book on SWIFT, by Suzan Scott and Markos Zachariadis).

The takeaway here is that SWIFT only severed Iranian banks in response to European regulations, in turn a product of a conversation between American and European leaders. SWIFT will seemingly compromise its neutrality if there is a sufficient level of global agreement on the issue followed up by a European directive, not an American one.

If Heiko Maas wants an "independent SWIFT," the above analysis would seem to illustrate that he already has it. Thanks to its European backstop, SWIFT is already independent enough to say no to U.S. bullying. As long as they are willing, European officials can force a showdown over SWIFT that they are destined to win, thus helping to preserve the Iranian nuclear deal.

But maybe European officials don't want to go down this potentially contentious path. Perhaps they would prefer to preserve the peace and grant SWIFT an exemption that allows the organization to comply with U.S. sanctions, thus cutting Iran off from the messaging network, while trying to cobble together some sort of alternative messaging system in order to salvage the nuclear deal. Maybe this alternative is what Maas is referring to when he talks of a building an "independent SWIFT."

An alternative messaging service would have to be capable of providing bankers with sufficient usability so that Iranian oil sales can proceed fluidly. In a recent paper, Esfandyar Batmanghelidj and Axel Hellman give some clues into what this system would look like. During the previous SWIFT ban, several European banks were able to maintain their relationships with Iranian financial institutions by using "ad hoc messaging systems." These ad hoc solutions could be revived, note Batmanghelidj and Hellman.

Using this ad hoc system, so-called gateway banks—those that have both access to the ECB's large value payments system Target2 and limited exposure to the U.S. financial system—would conduct euro transactions on behalf of buyers and sellers of Iranian oil. Since presumably only a few gateways would be necessary to conduct this trade, it would be relatively painless for them to learn the new messaging language and the set of processes involved. For instance, instead of using SWIFT bank identifier codes to indicate account numbers, Batmanghelidj and Hellman point to the possibility of using IBAN numbers, an entirely different international standard.

This independent ad-hoc system would probably work, on the condition that the European monetary authorities continue providing gateway banks that serve Iranian clients with access to the ECB's Target2 payments system. This is a point I stressed in my previous blog post. It isn't access to SWIFT that is the lynchpin of the nuclear deal, it is access to European central banks. But as long as folks like Heiko Maas get their way, I don't see why this sponsorship wouldn't be forthcoming. In response, Trump could always try to sanction the European central bank(s) that allow this ad-hoc system to continue. But an escalation of U.S. bullying from the mere corporate level (i.e. SWIFT) to the level of a friendly sovereign nation would constitute an even more nutty policy. I just don't see it happening.

At stake here is something far larger than just Iran. As I recently wrote for the Sound Money project, financial inclusion is a principle worth fighting for. If one bully can unilaterally ban Iran from the global payments system, who is to say the next victim won't be Canada, or Qatar, or Russia, or  China? Europe needs to stand up to the U.S. on this battle, either by forcing a SWIFT showdown or by sponsoring an ad hoc alternative—not because Iran is an angel—but because we need censorship resistant financial utilities.

The €300 million cash withdrawal

The eyes of the world are on one of history's largest cash withdrawals ever. Earlier this week, the Central Bank of Iran ordered its European banker, Hamburg-based Europaeisch-Iranische Handelsbank AG, to process a €300 million cash withdrawal. Germany's central bank, the Bundesbank, is being asked to provide the notes. If the transaction is approved, these euros will be counted up, stacked, and sent via plane back to Iran. German authorities are still reviewing the details of the request.

Iran claims that it needs the cash for Iranian citizens who require banknotes while travelling abroad, given their inability to use credit cards, says Bild. Not surprisingly, U.S. authorities are dead set against the €300 million cash transfer and are lobbying German lawmakers to put a stop to it. They claim the funds will be used to fund terrorism.

The picture below illustrates $1 billion in U.S. dollars, so you can imagine that €300 million in euro 100 notes would be about a third of that. That's a lot of paper.

One Billion Dollar Art Piece by Michael Marcovici (source)

The fate of this transaction is important not only for Iran but the rest of the world. It gives us a key data point for answering the following question: just how resistant is the global payments system to U.S. censorship? If a payments system is censorship resistant, third-parties do not have the power to delete a user or prevent them from accessing the system. If the U.S. can unilaterally cut off any nation from making cross border payments, then the global payments system isn't censorship resistant.

We already know that the global payments system is highly susceptible to U.S.-led censorship. From 2010-2015, Barack Obama successfully severed Iran from the world's banks, driving the nation's economy into the ground and eventually forcing its leaders to negotiate limits to their nuclear plans.

The global payments system's susceptibility to U.S. censorship stems from the fact that an incredibly large chunk of international trade is priced in and conducted using U.S. dollars. To make U.S. dollar payments on behalf of clients, a foreign bank must be able to keep a correspondent account with a large U.S. bank. This reliance on U.S. correspondents allows U.S. authorities to use their banks as hostages. International banks can either comply with U.S. requests to cease doing business with Iran, or have their access to U.S. correspondent banks cut off. Dropping Iranian customers is generally the cheaper of the two options.

Following in Obama's footsteps, Donald Trump has decided to inaugurate the next round of Iranian payments censorship. But this time around Europe has not gone along in declaring Iran to be a banking pariah. (I wrote about this here). Europe is responsible for managing the world's second-most important currency: the euro. Its reluctance to sign on to the U.S.'s new censorship drive is a sign that the global payments system may be a little more resistant to censorship than the first round of Iran sanctions might have implied. If a nation is prohibited from using one end of the global payments system, the U.S. dollar end, but not the other (albeit smaller) end, then they haven't really been cutoff.   

Digital euros flow through pipes operated by the European Central Bank, the ECB. This financial piping system is otherwise known as Target2, the ECB's large value payments system. Any bank that is connected to Target2 can route euro-based payments on behalf of its customers to the customers of any other bank that is connected to those same pipes. While a Target2 connection might not be as good as being connected to the US-based financial pipes, it's a close second.

In addition to facilitating digital euro transfers, the ECB also makes euro cash available to member banks when they need it. The way this works is that European commercial banks like Deutsche Bank or Santander or Europaeisch-Iranische Handelsbank have accounts at the ECB. They can ask the ECB to convert balances held in these accounts into euro cash to meet their customer's withdrawal requests.

The ECB can censor a bank—and its customers—by cutting of said bank's access to Target2. It can also censor a bank by refusing to allow the conversion of that bank's ECB account balances into cash. Europaeisch-Iranische Handelsbank's request to withdraw €300 million on behalf of Iran's central bank is a litmus test of the ECB's willingness to continue providing the second of these services: cash withdrawals. Will it comply with U.S. demands and censor Europaeisch-Iranische Handelsbank, and thus Iran, or will it treat Europaeisch-Iranische Handelsbank like any other bank and process the withdrawal? If Europe can successfully resist U.S. pressure, and the cash is sent, then the world's payments systems will be significantly more resistant to censorship than it was before.   

It may be tempting to belittle the topic of censorship resistance as only being relevant to a small group of international pariahs like North Korea or Iran. Only the "bad" guys will ever be cutoff from the global payments system, not us. But nations like Turkey, Russia, and China could one day become tomorrow's pariahs, and thus targets of U.S. monetary sanctions. Heck, in Trump's America, even traditional allies like Canada, South Korea, and UK should probably be worried about being targeted by the U.S. for censorship from the global payments system.

There are sound political and moral reasons for both censoring Iran and not censoring it. Moral or not, my guess is that most nations will breathe a sigh of relief if German authorities see it fit to let the €300 million cash withdrawal go through. It would be a sign to all of us that we don't live in a unipolar monetary world where a single American censor can prevent entire nations from making the most basic of cross-border payments. Instead, we'd be living in a bipolar monetary world where censorship needn't mean being completely cutoff from the global payments system.

The sooner the Bundesbank prints up and dispatches the €300 million, the better for us all.

Evading the next Iranian monetary blockade

Network view of cross-border banking, IMF, Minoiu and Reyes (2011) PDF

I recently blogged at Bullionstar on the topic of the upcoming Iranian monetary blockade.

Many years ago when I was taking a political science class at university, I remember the professor teaching us two criticisms of sanctions. The first is that they don't really work—people can always get around them. And secondly, even if they are so tight that they can't be evaded, sanctions don't change the behaviour of the party being sanctioned.

The Iranian monetary blockade that ran from 2010-2015 seemed to contradict both of these claims. The sanctions were very difficult to evade. And they forced Iran to come to the bargaining table and agree to end their nuclear program in exchange for economic relief. According to the International Atomic Energy Agency, Iran has complied with its promise.

The Trump administration has announced that it is reneging on the nuclear deal and re-imposing sanctions in order to force Iran to agree to a new and stricter terms. Most nations who were signatories remain comfortable with the existing deal. Will the next monetary blockade—the Trump blockade—be as effective as the last one? There's a good chance that it won't.

I refer to Iran sanctions as a monetary blockade because the U.S. banking system is being levered to extract concessions from the rest of the world. Think how large retailers like Walmart force suppliers to sign exclusivity agreements, or face the threat of being cutoff from store shelves. Do business with us, or them, but not both! Suppliers often accept these exclusivity agreements because large retailers like Walmart are too big to abandon.

The U.S.'s first monetary blockade, which ran from 2010-2015, worked along the same principles. Foreign banks in places like Europe were free to continue providing transactions services to Iran, but if they did so they would not be able to maintain correspondent accounts at U.S. banks. To ensure these rules were enforced, U.S. banks were to be fined and U.S. bank executives incarcerated if found guilty of providing accounts to offenders. Fearful bank executives were very quick to comply by carefully vetting those that they offered correspondent banking services to.

Having a U.S. correspondent account is very important to a non-US bank. If a European bank has a corporate customer who wants to make a U.S. dollar payment, the bank's correspondent relationship with a U.S. bank allows it to effect that payment. Since the revenues from U.S. dollar payments far exceeds revenues from providing Iranian agencies and corporations with payments services, a typical European bank would have had no choice but to abandon Iran in order to keep its U.S. correspondent account.

This was a very effective tool. With ever fewer foreign banks willing to facilitate Iranian trade, it became tougher for Iran to sell its lifeblood: crude oil. Lacking hard currency, Iran suffered from shortages of vital foreign products including medicine and refined oil products. After enduring much hardship, it finally gave in.   

So let's get to the fun bit: can Trump's monetary blockade be evaded?

That hinges on what happens in Europe. The euro, after all, is the world's second-most important medium of exchange. Let's say that Europe is committed to the existing Iran deal. Which means it will have to continue to facilitate Iranian trade in exchange for Iranian nuclear compliance. But how to facilitate this trade when no European bank wants to open accounts for Iranian businesses out of fear of losing access to the U.S. payments system?

One scheme would be to set up a single sanctions-remote bank that conducts all Iranian business. To defang the U.S. Treasury's threat "do business with us, or them, but not both!", this bank should not be dependent on U.S. dollar business. Without a U.S. correspondent, the Treasury's threat to disconnect it from the correspondent network packs no punch. A private European bank that already specializes in Iran business, say like  Hamburg-based Europäisch-Iranische Handelsbank AG, could serve as the sanctions-remote bank. Alternatively, a newly-created government bank that focuses only on Iranian transactions might fill the role.

Let's assume Europäisch-Iranische Handelsbank (EIH) is chosen. Iranian companies that sell crude could open accounts at EIH. How would they get paid? Like other European banks, EIH has a settlement account at the European Central Bank (ECB). Crude oil buyers from all over Europe could have their banks wire payments to EIH's account via the ECB's large value payments sytem, Target2. EIH could also open accounts for companies in India, China, and elsewhere who want to buy Iranian crude oil with euros. In this way, Europäisch-Iranische Handelsbank could theoretically process payments for every drop of Iranian crude, via Target2, and the U.S. Treasury's banking dragnet could do nothing to stop this.

The U.S. could always impose travel bans on EIH bank officials and freeze their U.S. assets. That would surely be annoying, but it wouldn't be decisive. I remember the officials of Canadian-based Sherritt being subject to these sorts of bans many years ago because they did business in Cuba—yet Sherritt gamely trudged on.

Screenshot of Europäisch-Iranische Handelsbank's website. "We are open for business."

There is also the extreme possibility that the U.S. would impose travel bans on the ECB itself, in an effort to force ECB officials to remove Europäisch-Iranische Handelsbank from Target2. Here is one such threat: "Treasury this week designated the governor of Iran's central bank—does any European country think Treasury can't designate their own central bank governor too?" Look, the idea of preventing Mario Draghi from travelling to the U.S., or blocking his U.S. assets, sounds so unhinged that it's not even worth entertaining.

So why was Europäisch-Iranische Handelsbank not used as a sanctions-remote bank during the last monetary blockade? In short, the EU wouldn't allow it. In 2011, it decided to impose its own sanctions on the bank that resulted in EIH's bank accounts being frozen, the banning of all new business, and its removal from the SWIFT and Target2 financial communications networks. According to this report, Chancellor Angela Merkel did so at the urging of Obama.

The key point here is that the U.S. was not itself capable of forcing a sanctions-remote EIH to comply—it had to ask European officials to do the dirty work. Back then, this would have been an easy sell. Obama was respected and had a good working relationship with European leaders. The sanctions had been a carefully negotiated effort that had United Nations support, and therefore broad buy-in, including that of the Russians and Chinese. Trump, on the other hand, has chosen to rudely upset the existing consensus rather than carefully gaining the tacit support of other nations. Unlike the last time around, Merkel can't be asked to take one for the team—there is no team. And as Steve Randy Waldman points out, this time Europe and others have a morally and politically defensible grounds for enabling a work-around.

So rather than shutting down its sanction-remote bank like it did last time, Europe may simply turn a blind eye and allow it to stay open, EIH (or some other government-anointed financial institution)  becoming the go-to bank for conducting Iran's worldwide crude oil business. And if Iran has a means for selling its oil, it may be able to ignore Trump. Thus, the success (or not) of Trump's sanctions is ultimately a European policy variable.

Supposing that Europe caves into pressure from Trump, then India or China could also set-up their own sanctions-remote banks. But these would be in rupee or yuan, neither of which has the wide usefulness of the dollar or euro. Realistically, only Europe can engineer a credible resistance. Here's hoping it does.

Are the Swiss fleeing deposits and hoarding cash?

Have Swiss interest rates fallen so low that the public is finally bolting into cash? The Wall Street Journal and Zero Hedge think so. They both point to big jump in 1000 franc notes outstanding as evidence that Switzerland has finally breached the effective lower bound to interest rates.

Let's not get too hasty. Yes, the current run into paper francs may have something to do with Switzerland having hit its effective lower bound, the point at which paper francs provide a superior return to electronic francs. But Swiss francs also serve as a global safe haven asset. And this safe haven demand, operating entirely independent from effective lower bound demand, could be motivating people to amass 1000 franc notes in vaults.

The effective lower bound problem is the idea that if a central bank drops rates low enough, a tipping point will be reached at which it becomes cheaper to hold 0% yielding banknotes and incur storage fees than to stay invested in negative yielding deposits. The large spike in demand for the 1000 franc note, Switzerland's largest value note and thus the lowest cost Swiss storage option, may be the first indication that a tipping point has been reached.

Let's look at the data. Below is a chart that shows the year-over-year change in Swiss franc banknotes outstanding as well as deposits. For comparison sake I've divided the banknote data into a 1000 franc series and all other franc notes.

The current jump in demand for 1000 notes, the blue line, is just one of six spikes over the last two decades. You can see that some of these spikes have been accompanied with jumps in demand for smaller notes and deposits, and some haven't.

In the next chart I've subtracted the yearly percentage change in Swiss bank deposits outstanding from the percent change in 1000 franc notes in circulation to show the degree to which the demand for large value cash is exceeding that of deposits.

If we are at the effective lower bound, we'd expect to see simultaneous implosion in deposit growth and an explosion in cash growth. The blue line should be at its highest point ever. What we actually see is a mere 10.3% differential. The quantity of notes in circulation is growing at 11% while deposits are growing at just 0.7%. This level is by no means extreme; five other spikes in the cash-to-deposit differential are apparent in the chart, most of which plateaued at or above the current level. These previous spikes in demand for 1000 notes occurred when Swiss interest rates were above zero, so something other than lower bound concerns must have motivated them. What are they?

The jump in 1999 is certainly Y2K-related as people fretted that the banking system would collapse and thus hoarded paper francs. And the 2001-02 spike in demand for 1000 franc notes is probably linked to 9/11 as well as the ongoing collapse in stock markets. The sudden rise in demand in 2008 coincides nicely with the credit crisis. Finally, the 2011-12 rise occurred in parallel with growing fears about Target2 imbalances and a potential euro break up, the run into 1000 franc notes coming to a halt almost to the month of Draghi's famous speech to do 'whatever it takes.'

So the lesson is that Swiss 1000 notes play a role as a safe haven asset. When bad things happen, they are preferred to other note denominations and franc deposits.

Fast forward to the present, I can use this safe haven status to tell a story about the current spike in demand. The coming to power of Syriza late in 2014 and a slow-moving euro crisis led to a sudden preference for 1000 franc notes, much like how the period of euro skepticism in 2011-12 stoked demand for Swiss cash. Concerns over China, the oil price collapse, growing credit worries, and a bear market in equities have further incited investor movement into large denomination francs. At the same time, deposit growth is relatively neutral, a pattern reminiscent of the credit crisis. As these concerns abate, the run into 1000 franc notes will subside, even if Swiss interest rates stay locked in negative territory.

I think that's a pretty reasonable story. The upshot is that while the run into 1000 franc notes could certainly indicate that the effective lower bound has been triggered, it is by no means the only explanation. People may simply be accumulating the 1000 as a safe asset in the context of growing global worries. Absent a smoking gun, Tommy Jordan, head of the Swiss National Bank, will probably not be using the increase in large denomination notes outstanding as a reason to avoid further rate cuts, at least not yet. When demand growth for 1000 notes is exceeding that of deposits by 30% or so, then he should be concerned.

---

Previous articles on Swiss cash demand:

- - {1} - -The ZLB and the impending race into Swiss CHF1000 bank notes
- - {2} - - Central banks' shiny new tool: cash escape inhibitors
- - {3} - - Plumbing the depths of the effective lower bound

Euros without the Eurozone

This 2 euro coin is issued by Monaco, which is not a member of the Eurozone

Grexit isn't what people take it to be. The standard narrative is that Greece is approaching a fork in the road. It must either stay in the euro or adopt a new currency. I don't think this is an entirely accurate description of the actual fork that Greeks face. Over the next few months, Greece will either:

• A) stay a member in good-standing of the institution called the "Eurozone" and continue to legitimately use that institution's currency, the euro, or
• B) leave the Eurozone while continuing to use the euro 'illegitimately.'*

This means either the status quo of de jure (official) euroization or de facto (unofficial) euroization. In both cases, the euro stays.

The probability of a new drachma emerging is awfully low. The widespread idea that a sick country can rapidly debut a new currency and, more importantly, have that currency be universally adopted as a unit of account is magical thinking. Greece has been using the euro as a universal "language of exchange" for fifteen years. Switching over to a new unit is about as unlikely as Greeks suddenly beginning to speak German, network effects and all. Consider too the fact that Greeks don't want the drachma—they have consistently voted for euros. Syriza has no mandate to bring a new unit into existence. ***

Option B isn't an odd one. All sorts of countries 'illegitimately' piggy-back off the currencies managed by others. Zimbabwe, Ecuador, and Panama use the U.S. dollar without being card carrying members of the Federal Reserve System while Andorra, Kosovo, Montenegro, Monaco, San Marino, Vatican City use euros without being part of the Eurozone. Nor can the Eurozone can do anything to prevent de facto adoption of the euro by Greece. It's a decision that Greeks get to make themselves.

If Greece leaves the Eurozone on a de jure basis while staying a euro user, what will it be giving up?

The Greeks would NOT be losing the price stability and commonality already provided by Eurozone membership. These are presumably the features that lead most Greeks to declare in polls that they want to stay in the euro.

However, Greece would no longer get access to Eurozone lender of last resort facilities. One could argue that the nation would be better off without these facilities, given the discipline that a true 'no bailout' policy would enforce on both the banks and the government. Greece also loses direct access to the monopoly supplier of euro banknotes. A Greek banker can currently ask to have their Eurozone account be debited and a batch of freshly printed paper euros trucked over to their vault. Gone is that functionality. Panama has survived, even prospered, for decades without access to the Fed's discount window or Fed cash facilities.***

Greece would also lose its seat on the ECB Governing Council and therefore any say in determining monetary policy. Greece's one seat probably never gave it much influence anyways, especially compared to Germany's dominant influence in ECB decision making. Nor would Greek data be considered as an input into Eurozone policy decision should Greece leave. However, as it clocks in at just 2% or so of the Eurozone's total size, Greece's data could never have had much influence on the aggregates that ECB policy makers watched to begin with. Official user of euros or unnoffical, Greece will always lack an independent monetary policy.

Another concern is that Greece might not be allowed to use the ECB's Target2 real time settlement mechanism anymore. However, Denmark, Bulgaria, Poland, and Romania all connect to Target2, despite not being Eurozone members. Surely Greece would qualify. If not, it wouldn't be too complicated for Greek banks to set up their own payments system.

Lastly, Greece would forfeit all seigniorage revenues. Eurozone members currently get a share of the profits that the ECB earns on its monetary monopoly. I don't see this loss as being a big deal. Seigniorage has long since been eclipsed by taxes as the key source of a modern government's revenue.

The upshot is that whether Greece remains a legitimate member of the Eurozone or an unofficial user of the Eurozone's chief monetary product, the implications are about the same. There is no fork in the road, at least not from a monetary policy perspective; just a continuation of the same euro path as before.

I've left two features out. If Greece leaves, the claims and liabilities it has on the Eurozone must be unravelled and settled. Having invested around 200 million euros in the ECB when it was formed, Greece would have to be bought out by remaining Eurozone members at a reasonable price. Counterbalancing this would be Greece's obligation to unwind the debt that it has amassed to the Eurozone in the interim. This debt, known as its Target2 deficit, currently clocks in at around 100 billion euros, far in excess of the capital it is owed. It would take an incredible outlay of resources to pay this amount off. The advantage to the Greek population of staying in the Eurozone is that their debt need never be settled. After all, Target2 debts are by nature perpetual. Only by leaving do they face a final day of reckoning.

However, if Greece puts little-to-no cost on squelching on its debts, it may as well just leave the Eurozone without paying back the 100 billion it owes. It gets to continue to ride piggy-back on top of the euro, enjoying (almost) all the same benefits of being a Eurozone member, without being on the hook for anything. Why not perpetually bum cigarettes rather than pay for them?

Which is why Greece has a certain degree of power over the remaining Eurozone members. Should it shrug and leave, the remaining members are on hook for its unpaid tab. And once Greece goes down the de facto euroization path, how long before the next largest debtor to the rest of the Eurozone decides to shrug and leave? As Nick Rowe says, the last one holding a common currency is the sucker since they'll be left with everyone's bad debts. To keep the system going, the Euro project's architects need to do their best to ensure that Greeks aren't incentivized to just shrug and bum a free ride on the euro. I don't envy them their task, it's a difficult one.

The other aspect I've left out is the Greek banking system, which is probably insolvent. Once cutoff from the central bank that prints the stuff, Greek banks simply wouldn't be able to meet the rush to convert deposits into euro banknotes. The only way to return the banking system to functionality would be to chop the quantity of Greek bank deposits down to size so that the banks' asset base would be sufficient to absorb the run into cash. We're talking a multi-billion euro "bail-in" of depositors. The prospect of such a hit certainly tilts the decision between A and B back towards A.**


* Having been cut off from additional ECB lending, one might argue that Greece has already gone halfway towards exiting the Eurozone.
**  Paragraph added July 2.
*** Added cash facilities on July 2.
**** Added last two sentence to this paragraph on July 3.
Note: apologies for the constant additions, but this subject is complex and the situation getting more complex by the day, so rather than writing two or three posts I'm adding bits to the original.

BlackBerry needs a Draghi moment

The Blackberry debacle reminds me of another crisis that has passed by the wayside—remember the eurozone's Target2 crisis? The same sorts of forces that caused the Target2 crisis, which was really an intra-Eurosystem bankrun, are also at work in the collapse of Blackberry, which can also be thought of an intra-phone run. By analogy, the same sort of actions that stopped the Target2 crisis should be capable of halting the run on Blackberry phones.

Target2 is the ECB mechanism that allows unlimited amounts of euros held in, say, Greek banks to be converted at par into euros at, say, German banks, and vice versa. As the European situation worsened post credit-crisis, people began to worry about a future scenario in which Ireland, Greece, Spain, Italy, and/or Portugal might either leave the euro or be ejected. If exit occurred, it was expected that these new national currencies, drachmas, punts, and lira, would be worth a fraction of what the euro was then trading for.

The chance that this future "bad" scenario might happen accelerated what had been a steady outflow of deposits from the GIIPS into an all-out run—after all, why would anyone risk being stuck with a Greek euro that might be worthless tomorrow when they could costlessly switch them into a German, Dutch, or Finnish euro today at rate of 1:1? The resulting market process was a reflexive one. Mounting Target2 imbalances caused by the run increased the likelihood of a breakup scenario, amplifying the run and creating even greater imbalances.

What ended the run? ECB President Mario Draghi stepped to the plate in a July 26, 2012 speech and directly addressed what he referred to as convertibility risk.

Within our mandate, the ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough... [link]

Draghi's comments, as Gavyn Davies then pointed out, amounted to an explicit commitment to backstop the GIIPS to whatever extent was necessary to quell any fears of euro departure. In essence, he took the future "bad" state of the world in which exit occurred and crushed it under his foot. As this chart shows (this one is good too), the massive inflows into German banks and outflows from the periphery were halted almost to the day of Draghi's speech. After all, if the ECB now guaranteed that Greece and the rest were to remain moored to the union, then a GIIPS Euro was once again equally as good as German, Dutch, or Finnish one.

Blackberry is also encountering a run of sorts as Blackberry users flee into competing phones. In normal times, cell phone brands are like euros—they are homogeneous goods that perform the same task. However, just as fears that Greek euros might one day cease to exist inspired a run into German euros, fears that Blackberry's product line might be discontinued (and left unsupported) are causing an all-out run into iPhones and Androids. After all, why risk being stuck with a legacy Blackberry when, come the expiration of your existing contract, you can costlessly switch into a competing phone that has all the same features, the manufacturer of which is sure to exist a few years from now? Take Pfizer for instance, which recently told its employees that "in response to declining sales, the company [Blackberry] is in a volatile state. We recommend that BlackBerry clients use their BlackBerry devices and plan to migrate to a new device at normal contract expiration."

Blackberry desperately needs to have a Draghi moment whereby the future "bad" scenario—firm dissolution and product discontinuance—is crushed and exorcised, thus putting an end to the run. A long-term commitment with a show of muscle is needed. Has this occurred yet? Last month the company came out with an advertisement titled "You can continue to count on us", highlighting the company's formidable stash of cash and clean balance sheet. A start for sure, but no muscle. Last week, however, investor Prem Watsa stepped forward to play the role of Draghi, recapitalizing Blackberry (along with other investors) to the tune of $1 billion. The infusion should give the firm the raw cash to stay in operation for another few quarters. Is Watsa's line-in-the-sand enough to stop phone buyers from fleeing? Or will shoppers continue to spurn BlackBerry on the chance that more billions will be needed, and Watsa unlikely to stump up the cash? The Globe and Mail quotes Watsa, who gives an accurate account of Blackberry's conundrum:

"Why would you buy a BlackBerry system or a BlackBerry phone if you think the company is not going to survive? Well, that’s out. BlackBerry is here to stay,” he said, adding “There’s no question”

There you go, it's a Draghi moment of sort. Substitute "Blackberry" with "Greek Euro" and you have the exact same message that Draghi conveyed to markets last year in his successful halt of the intra-Eurosystem bank run. Like Greek euros, BlackBerries are presumably here to stay.

The difference between Draghi and Watsa is that a central banker can create any amount of money he or she requires—Watsa, who doesn't have his own printing press, is a little more constrained. However, if Watsa has managed to muster up a true Draghi moment, one that is sufficiently credible with smartphone buyers so as to crush the future "bad" scenario out of existence, then the intra-phone run that has plagued Blackberry is probably over and today may be a good time to own shares.

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PS: I don't own BlackBerry shares, but am considering it. Dissuade me if you can, commenters.