SWIFT today announced the results of its tests of central bank digital currency (CBDC) for Capgemini cross-border payments. It interconnects multiple national payment systems (multi-CBDC or mCBDC) for cross-border payments, describing the solution as “innovative”. Our reading of the approach is that it still uses intermediaries for cross-border payments. And middlemen are a major cause of friction in today’s payment system. So while this concept could be practical in allowing CBDCs to be used across borders, it is unclear if it is a solution to the current challenges in cross-border payments.

The solution provides a connector gateway to which each national CBDC would integrate. “We believe that our solution can deliver seamless transaction flow in a highly scalable model, without the need to initiate a manual middleman message,” SWIFT said.

The three mCBDC models

In May 2021, the BIS outlined three potential models for multiple CBDCs. The first approach is to create CBDC systems that are compatible with common standards for technical areas, message and data formats. That was the strategy adopted in SWIFT’s mCBDC experiments last year with Accenture.

Today’s announcement focuses on the second national CBDC interconnection pathway. This approach will be tested separately in a project recently announced by the central banks of Sweden, Norway and Israel. And we suppose that it could be similar to the SWIFT solution, but without intermediaries.

The third approach is to create a single shared multi-currency system. The Dunbar and MBridge projects are examples of the latter, although their implementations are quite different from each other.

SWIFT notes that it is unlikely that all central banks will adopt one platform or solution, so the ability to interoperate is critical. Central banks may be reluctant to allow their CBDCs to be used across borders. Hence the justification for an exchange mechanism with local currency.

The tests involved connecting mock CBDCs based on the R3 Corda enterprise blockchain and Ethereum-based Quorum-sanctioned DLT. Each CBDC connects to SWIFT, enabling connectivity to other CBDCs and to SWIFT’s infrastructure including connectivity to real-time gross settlement (RTGS) payment systems.

By using SWIFT as the interface, it simplifies the issue of identity management. It also uses SWIFT’s existing public key management (PKI) infrastructure.

Similarities with current SWIFT payments

One of the biggest problems with cross-border payments today is the use of correspondent banks in destination countries. Correspondent banks act as intermediaries between Bank A and Bank B, where Bank A does not have a bank account in the foreign country. SWIFT works by sending messages to banks instead of money. And this is how this new solution works.

It could be argued that this proposed solution adds another layer of intermediaries: the central bank’s regulatory node.

We expected Bank A to send a message to its domestic central bank node, which would relay it to the foreign central bank node. And the foreign central bank node would send a message to the destination bank.

However, the trials used intermediaries between Bank A and the national central bank and also in the country of destination. If those middlemen are ‘dumb’ and don’t check AML or anything else, then you should be fine. Its function can be only to transmit messages, deposit funds and tokenize money. If that’s the case, then it should be good. But it seems unlikely that they don’t get involved in AML and validation.

SWIFT concludes that it “provides a highly scalable solution that solves the ‘one-to-many’ challenge that bilateral connectivity does not address, while more closely replicating the flows familiar to commercial banks from established cross-border payments.”

But “replicating the flows” is not ideal because the main reason to experiment with CBDC for cross-border payments is to address slow and costly payments.

Also, through no fault of its own, SWIFT is tainted for some countries due to its use as a sanctions enforcement tool. The likes of China, Russia, and others will still want to create workarounds that they deem resistant to sanctions.

Meanwhile, in addition to experimenting as a connector for cross-border CBDCs, SWIFT today also shared promising results from its tests of acting as a connector between different digital asset platforms.