Voice of the Industry

Can domestic payment systems shield economies against high third-party reliance risks?

Tuesday 2 August 2022 11:03 CET | Editor: Irina Ionescu | Voice of the industry

Kledjona Mollaj, Consultant at Be | Shaping the Future UK, discusses the latest changes in Russia’s internal payment system and the challenges faced by the government amid the invasion of Ukraine.

Disclaimer: Since February 2022, there has been very extensive coverage of the Russian invasion of Ukraine. The following article attempts to explore the link between payment systems and geopolitical decisions and does not seek to comment on other aspects of the conflict.

Can a domestic payment system protect a local economy against international financial sanctions? Russia demonstrated it can, at least partially. 

The Russian government has been actively taking measures since 2015 to ensure its payment system can continue running even in the face of severe economic penalties. Developing domestic payment alternatives might become more common among nations concerned about potential sanctions. The recent example set by Russia highlights the significance of payment systems on geopolitical terms. It remains to be seen whether Russia will become the proof of concept some countries need to develop national payment alternatives that can shield their economies. 

But what is it that Russia did – and how well-prepared was its payment system when sanctions came into force? Domestic card schemes (DCS) have been used to compete with international networks for many years.

A card network is a payment system that consists of two main elements:

  1. the card scheme element that sets the network rules, the pricing, and manages the brand and scheme members;

  2. the card processing element that covers the authorisation, clearing, and settlement of card transactions.

International card schemes (ICS) provide the infrastructure to issuing banks for card issuance – and to acquiring banks to acquire card transactions either domestically or internationally. The largest ICS are Visa and Mastercard.

A DCS, on the other hand, is an intra-country payment network that enables cardholders to transact only within that local jurisdiction. The efficient cost structure and capacity to develop payment products specific to local market requirements make DCS very competitive against international card networks on a domestic basis. 26 EMEA countries have already developed their own DCS for varying strategic and economic reasons (e.g. Mir in Russia, Girocard in Germany, Multibanco in Portugal).

Russia – setting up its own DCS

In 2014, the Bank of Russia established the National Payment Cards System, known as NSPK. Both Mir, a DCS, and the Faster Payments System (FPS), an alternative to SWIFT, were later established as sub-divisions of NSPK. The aim was to decrease the sanction risks experienced when Visa and Mastercard had to withdraw services  to two Russian banks after Russia annexed Crimea.

When developing a DCS, local stakeholders can choose to partner with an international network to lease its tech infrastructure (e.g. TROY – Turkey’s DCS – has a partnership with Discover, the US-based ICS) or develop proprietary infrastructure. Mir selected the latter path.

Many DCS also partner with international ones to ensure mutual acceptance via co-badging arrangements and extensive cross-market card usage. Mir partnered with UnionPay International, the ICS originating from China, to ensure the co-branded cards would be accepted wherever UnionPay International was accepted, thus ensuring no dependence on US-based networks.

The Central Bank of Russia also developed a domestic financial-communications platform, the System for Transfer of Financial Messages (SPFS). SPFS was an alternative to SWIFT to prepare the country for any future bans of its largest financial institutions from international transactions. Further evidence of this preparation can be seen through Russia’s decision to manage its overseas payments through SPFS in non-Western currencies and its Central Bank’s target to increase SPFS’s usage rate by 30% in 2023.

All these actions were part of Moscow’s overall efforts to develop homegrown financial tools to mirror Western ones, protecting the country in case penalties against Moscow were broadened.

The impact on the Russian payment ecosystem amid the war on Ukraine

Unprecedented Western sanctions have been imposed on Russia so far this year and effectively cut it off from the global financial system. Thanks to its domestic payment set-ups, the country managed to mitigate some of the significant anticipated impacts.

After Russia invaded Ukraine on 24 February 2022, the ICS took action. Visa and Mastercard blocked Russian financial institutions from their networks in response to government sanctions on Russian entities. On 6 March 2022, American Express (AmEx) said it was also suspending all operations in Russia and Belarus. Mir-branded cards, however, have continued to work for domestic transactions, including the co-branded Visa and Mastercard cards. Cardholders were still able to access their funds, make withdrawals, and domestic transfers – at least until these bank cards would expire.

The ICS’s recent actions are expected to accelerate the adoption of Mir cards. According to Mir’s statistics, more than half of Russians already owned a Mir card as of September 2021, accounting for 32% of intra-country transaction volume. 

Mir cards are also accepted in other countries, including Turkey, Vietnam, Armenia, Belarus, Kazakhstan, and Kyrgyzstan. The central bank announced that many Russian banks now plan to issue cards co-badged with UnionPay International, which will be accepted in 180 countries, as part of mutual acceptance agreements from 2017.

Furthermore, Russia has also been affected by sanctions imposed to impact alternative payment methods (APMs) like digital wallets and cryptocurrencies. Earlier in 2022, PayPal stopped accepting new customers in Russia and suspended its services there. 

Apple and Alphabet (Google) also cut ties between their digital wallet services and Mir. The EU made a move  to also ban the provision of high-value cryptocurrency services to Russia. The APM measures were an effort to put pressure on the country’s payment networks, since the effect on card transactions was significantly reduced. However, not all technology companies have followed the same path, with Samsung Pay continuing its operations in Russia.

Even though Russia has been able to lessen the impact of the imposed sanctions, its plan for substitution of international cards with Mir-branded cards has been challenged lately. The production of Mir cards has stopped, as the chips for them were produced in Europe or Asia. Asian deliveries have also stopped due to the COVID-19 pandemic, while European deliveries are banned due to sanctions. The chip shortage  is posing a significant barrier to Russia’s plans of handling the pressure on payment systems through internal solutions.

Domestic payment alternatives as a tool to future-proof country interests

The development of domestic payment systems has mainly focused on mitigating the commercial pressure of a low-fragmented card payments market. However, as shown by the events in Russia over the last decade, they can be an effective tool to decrease the vulnerability and exposure of a country’s payment systems to the international community.

Other country-specific alternatives to SWIFT, like Russia’s SPFS, have already gained traction among countries concerned about potential future sanctions and suspensions. For example, China has developed CIPS, a new interbank payment system that could represent an alternative to SWIFT. Iran (which was banned from SWIFT back in 2018) and Russia are also coordinating efforts to combine the SPFS system and Iran’s financial telecommunications system, SEPAM .

National card networks and payment messaging systems have been shown to reduce third-party dependency and, thus, increase domestic market independence. The collective efforts of third-party countries to increase the impact of the imposed sanctions on Russia – and the resulting concerns regarding its ability to use domestic payment alternatives as a shield – support this statement. We expect to see an increasing number of countries worrying about the potential penalties of adopting similar domestic payment tools.

Finally, in the case of a truce between Russia and Ukraine, it would be interesting to observe the Russian government’s response once sanctions are lifted – and whether Visa, Mastercard, and AmEx would resume their operations in the country. Furthermore, would Mir continue working closely with UnionPay International in efforts to reduce ties with the large ICS? 

About Kledjona Mollaj

Kledjona is an aspiring and highly motivated financial consultant. Since graduating from the Alliance Manchester Business school with a Masters in Finance, she has worked as a consultant across a variety of sectors, including banking IT, retail and fintech and has specific experience as a strategic and M&A advisor.



About Be | Shaping the Future UK

We are the UK subsidiary of Be | Shaping the Future, a well-established pan-European management and technology consultancy, with a focus on the financial services industry. We work with our clients (predominantly global banks, payment providers, and other financial institutions) to shape their future through our transformation and advisory consulting services.

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Keywords: Russia Ukraine War, local payment method, remittance, SWIFT, debit card, credit card, Issuer, central bank, mobile payments, online payments
Categories: Payments & Commerce
Companies: Be Shaping the Future
Countries: Russian Federation
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