A GLOBAL FINANCIAL SYSTEMPUNKT

On June 22, 2006 the New York Times (Lichtblau and Risen) broke the story that the US government had a deal with Swift (a Belgium-based company that routes global transactions -- $6 trillion is transferred through 11 million transactions between 7,800 member banks/brokerages a day) to get data on transactions that may be related to terrorism -- it is the "gold" data on global financial flows. While the leaked story was certainly a blow to efforts to track large money transfers related to terrorism (under the assumption that these transactions would flow to the informal banking system), the more interesting aspect of this was that it put a focus on Swift as a global financial systempunkt.

The one thing we should be learning from attacks (like the one that almost succeeded at global liquid fuels systempunkt at Abqaiq) is that non-state enemies are searching for ways to manufacture black swans -- events that defy prediction -- that sweep the world with disruption/chaos. For the financial system, Wall Street and many of the more visible locations we normally associate with global financial flows are relatively difficult to disrupt. The real global systempunkt for financial flows are in the sleepy, quiet, and relatively unknown back-office systems like that of Swift (here's their US operations facility).

NOTE: There's a common misperception among old guard warfare theorists that disruption doesn't produce any meaningful results. The most potent evidence for this line of reasoning is the post WW2 strategic bombing survey (which demonstrated that the nation-state can mobilize sufficiently to neutralize the deleterious effects of large scale disruption). Unfortunately, this conventional wisdom doesn't apply to the modern context. Several important factors have changed:

• Most conflicts are now fought while in a peacetime posture. The nation-state isn't mobilized and the environment is business as usual. This radically limits what the nation-state can accomplish/do. Citizens will not accept pain or sacrifice and assume the government will continue to deliver growth and prosperity. Any deviation will be punished at the ballot box.
• The global economic environment is viciously competitive. Weakness, brought on by disruption, will be punished quickly and a loss in wealth can be substantial. For example: the recent attacks in Mexico have generated over $2 billion in damage to corporations currently based in the country. This is 10-20% of Mexico's entire foreign direct investment (FDI) flow. If more attacks occur, that FDI could quickly reverse and quickly put Mexico's economy into deep trouble.
• It can put nation-states onto a path of financial ruin. Global competition is forcing nation-states to run increasingly lean/efficient budgets. Increases in tax rates can force companies and individuals to flee (movement in a globalized world is quick). Given this situation, nation-states can quickly find that open-ended defense expenditures (to compensate for disruptions) a path to financial ruin. For example: Despite the fact that 40% of Mexico's federal budget is funded by oil revenues that are in a steep decline (due to past peak drop offs in its oil fields), the country has increased defense spending by 24% to fight narco-guerrillas and other internal foes.

Comments

[zenpundit]

Hi John,

"Global competition is forcing nation-states to run increasingly lean/efficient budgets.."

This is also a driver for the adoption of economic policies that encourage entrepreneurial dynamism, in order to harvest the surplus tax revenues generated by the "boom" of holding a global comparative advantage in a new industry or reinventing an old. A "free lunch" from the budgetary perspective.

Or rather, it should be. There are also significant obstacles to adopting a posture of economic dynamism in the West, ranging from corporate rentier interests, environmentalist pressure groups and old line socialist-regulatory welfare staters, clinging to the old mass-production society nostrums of the Left.

Ironically,it is Communist China and not capitalist America that is the state that seems to be most ruthlessly pursuing this path.

[deichmans]

John,

Given the propensity of Islamists to use Hawala banking models (informal value transfer), how much financial flow actually goes through the 7,800 "bank/brokerages" noted above? Are we looking for "needles" under streetlamps?

[John Robb]

Deichmans. Not much. One aspect is that the amount of money needed for most operations is very, very small. The second is that criminal enterprise can pay for in country operations (as in no transfers necessary).

[londamium]

John

Given the 4-year run-up in oil prices from $25 per barrel to $80 per barrel, it is doubtful that Mexico has seen any revenue decline from lower production whatsoever.

As long as price increases outstrip rates of export decline - exports being the key here - their revenues will grow.

[Eric Hacker]

Swiftnet, as few as five years ago, was still using X.25 based serial connections. That would require a central infrastructure to provide the routing of transactions between entities. Swiftnet links were encrypted, but the individual transactions were not. Thus the routing facility had better be very secure, since the transactions would be visible and could possibly be inserted there.

Today's Swiftnet should be an all IP network, but I do not know the current architecture. It is possible that the central facility is not required for a transaction to take place. It could be only serving the roles of directory, Public Key Infrastructure and audit/reconciliation. These functions could be disrupted for a short time without halting the transaction flow.

It could also be that the central transaction routing function is still part of the system. I would hope that they'd have a better information security architecture than that, but I've seen worse.

Systempunkts for information flows can be avoided with modern IP networking. It is not trivial and will always cost more money, but it can be done.

[Russell120]

The people saying that the WW2 air campaign had a limited effect are also showing a lack of imagination.

From the recently released "The Wages of Destruction: The Making and Breaking of the Nazi Economy" by Adam Tooze:

The wanton destruction of German cities could disrupt production, but could not bring it to a complete standstill. The way in which bombers achieved that effect was by severing the rail links and waterways between the Ruhr and the rest of Germany.

...On 11 November Speer reported to Hitler that the Ruhr was effectively sealed off from the rest of the Reich. The shortfall in hard coal deliveries from the Ruhr between August 1944 and 1945 was a massive 36.5 million tons, at least six weeks of normal consumption. In December 1944 Germany faced the first of three consecutive winters without adequate supplies of coal...For a mid-twentieth century European economy this spelled immanent paralysis...by spring 1945 contemporaries were noting that the Rhine was running clean for the first time in generations. There were no factories left in operation to pollute it.

[adam]

Russell,

Not completely sure that the strategic bombing was the major problem for the Germans between August 1944 and the end of the year. I think it was the big, big armies that had marched into France, Poland and Hungary during that time taking away massive coal production operations.

Its been a while but I vaguely recall that in January 1945 allied Spitfires were patrolling the skies over the Rhur, never mind heavy bombers.

Throw into that the need for the Germans to send yet more men to the front from the coal-mines and the issue that German manufacturing never really ran that well in wartime and the problem becomes obvious.

The depressing truth is that the Strategic bombing guys never delivered what they promised - either in the 20th Century, or for that matter in the 21st.

[P-]

It is interesting how 1 dimensional, isolated events can look under glass. A intoxicated driver ran his truck off the road into a natural gas pipeline causing a rupture which was pretty much contained to local power outages. There wasn't any Jersey barriers separating the pipe and the roadway. Post 9-11, and there're holes and gaps you can just basically run a 16 wheeler, freight truck right through.