May 21, 2019
Interbank Transfers
Ever since globalization accelerated after the second world war, global financial institutions have had an ever-increasing need to transfer monetary instruments and currencies cross borders as seamlessly as possible. The first truly global payment system was set up almost fifty years ago by 239 banks in fifteen countries that established a common standard for messaging between banks, called SWIFT (Society for Worldwide Interbank Financial Telecommunication). This system of communication is still the de facto leader in international financial transactions, with an average of over 34 million messages per day in 2018 covering 11,000 financial institutions and transferring approximately $5 trillion per day. SWIFT only acts as a secure messaging service between members, and any clearing and settlements are done bilaterally between the involved parties. This makes the process both slow and costly, with transactions taking several days on average. (For more information read here)
Blockchain technology, also known as distributed ledgers, includes several properties that are of potential benefit to interbank transfers. A genuinely decentralized, trustless and verifiable blockchain eliminates the risk of a double spend and avoids a critical point of failure. Blockchains can also be fast, theoretically processing in seconds, and handle a large volume of transactions per second in a cost-efficient manner.
As well as trust and reliability, one of the critical elements for success in this type of business is consistent market share. Profitability in a business that advertises lower costs and hence lower margin is dependent on high volume. New technology has been slow to break into this space, potentially due to incumbents resisting change to retain market share and hence profitability.
The race to make the interbank transfer process faster, and ultimately cheaper, is already underway. One notable solution is offered by Ripple Labs, called xCurrent. This system combines messages with a distributed ledger and is used by banks ranging from UBS and Santander to money transmitters such as MoneyGram and Western Union. While it has the advantage of being fast and cheap, xCurrent uses a trust-based node mechanism to verify transactions and so is arguably not entirely decentralized.
The major incumbents in the interbank transfer market are also working on their own solutions using blockchain technology. In February 2019, JP Morgan launched the JPM Coin. In its current state, this appears only to facilitate JPMorgan’s own internal transfers onto a blockchain, so avoids the trust issues needed for “inter” bank transfers but lacks any real applications across counterparties. Additionally, it currently relies on Quorum, a private blockchain, which while fast, does not meet the decentralization standards normally assumed in a blockchain. One may only hope that this is a precursor test for a more appropriate solution for the interbank market.
While blockchain technology might have the potential to improve the speed and cost of interbank transfers significantly, participants have been hesitant to deploy solutions due to the stability of market share with existing processes. With the new technology now being developed, a change is inevitable, so expect to see improvements and more products quickly follow over the coming months.
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