Substitution between net and gross settlement systems: A concern for financial stability?

While net settlement systems make more efficient use of liquidity than gross settlement systems, they are known to generate systemic risk. What does that tendency imply for the stability of the payments (or financial) system when the two settlement systems coexist? Do liquidity shortages induce banks to settle more transactions in the net settlement system, thereby increasing systemic risk? Or do banks require their counterparties to send payments through the gross settlement system when default risks are high, increasing the need for liquidity and the money market rate but reducing overall systemic risk? This paper studies the factors that drive the relative importance of net and gross settlement systems over the short run, using daily data on transaction volumes from the large- volume payment systems of all euro area countries that have had both a net and a gross settlement system at the same time. Applying a large portfolio of different econometric techniques, we find that it is actually the transaction volumes in gross settlement systems that affect the daily price of liquidity and the credit risk spread in money markets.Payment systems ; Systemic risk

Optimizing Liquidity Usage and Settlement Speed in Payment Systems

The operating speed of a payment system depends on the stage of technology of the system's communication and information processing environment. Frequent intraday processing cycles and real-time processing have introduced new means of speeding up the processing and settlement of payments. In a real-time environment banks face new challenges in liquidity management. They need to plan for intraday as well as interday fluctuations in liquidity. By employing various types of hybrid settlement structures, banks may be able to even out intraday fluctuations in liquidity demand. The aim of this study is to develop a framework for analysing fluctuations in liquidity demand and assessing the efficiency of different settlement systems in terms of speed and liquidity needs. In this study we quantify the relationship between liquidity usage and settlement delay in net settlement systems, real-time gross settlement systems and hybrid systems, as well as the combined costs of liquidity and delay in these systems. We analyse ways of reducing costs via optimization features such as netting of queues, offsetting of payments and splitting of payments. We employ a payment system simulator developed at the Bank of Finland, which enables us to evaluate the impact of changes in system parameters and thus to compare the effects of alternative settlement schemes with given payment flows. The data used covers 100 days of actual payments processed in the Finnish BoF-RTGS system. Our major findings relate to risk reduction via real-time settlement, effects of optimization routines in hybrid systems, and the effects of liquidity costs on banks' choice of settlement speed. A system where settlement takes place continuously in real-time and with queuing features is more efficient from the perspective of liquidity and risks than a net settlement system with batch processing. Real-time processing enables a reduction in payment delay and risks without necessarily increasing liquidity needs. Participants will operate under immediate payment/settlement if liquidity costs are low enough relative to delay costs and if the liquidity arrangements are sufficiently flexible. The central bank can therefore support risk reduction and payment speed objectives by providing low cost intraday liquidity as well as more flexible ways for participants to add or withdraw liquidity from the system. Optimizing and gridlock solving features were found to be effective at very low levels of liquidity. The efficiency of the different optimization methods for settlement systems are affected by the actual flow of payments processed. Gains from netting schemes with multiple daily netting cycles were found to be somewhat more limited.payment systems; clearing/settlement; liquidity; efficiency; gridlock

Technical Note: Elimination of Retroactive Settlement in the ACSS

Effective 1 November 2003, the Bank of Canada abandoned its practice of backdating the results of settlement of payments through the Automated Clearing Settlement System (ACSS). It has adopted instead a system of "next-day" settlement under which the results of the settlement process will appear on the central bank's books on the day the items actually settle in the ACSS. Since July 1986, settlement of these items had occurred at noon the day after items were presented for clearing, but the results were recognized on the Bank's books the previous day, through backdating, or "retroactive" settlement. The new system should simplify the payment process and improve the reporting of settlement risk, as well as promote cost-effectiveness within the payment systems. ACSS participants have agreed among themselves to implement an interest-compensation mechanism in order to avoid imposing a float charge on their customer base.

Remarks

The limits of international trade must be understood within the context of the institutional framework of the WTO, in particular, the decision-making and dispute settlement processes. The WTO dispute settlement rules are contained in the Dispute Settlement Understanding (DSU), which is Annex 2 to the WTO agreement. The DSU includes some comments on the philosophy, the direction and the purposes of the dispute settlement procedures. Article 3.2 of the DSU has some very interesting phrases. One of those phrases (roughly paraphrased) says, \u27\u27None of the reports of the dispute settlement procedure should result in a change, addition, or subtraction from the rights and obligations of the members. Some have pointed to that clause as a warning against judicial activism. The panelists and Appellate Body members should not be changing the direction of the system in terms of its basic goals. Any changes to the direction of the system are to be left in the hands of the sovereign states, the nation states, and the members. I interpret Article 3.2 to mean: Be careful

Simulating interbank payment and securities settlement mechanisms with the BoF-PSS2 simulator

The simulation technique provides a new means for analysing complex interdependencies in payment and securities settlement processing. The Bank of Finland has developed a payment and settlement system simulator (BoF-PSS2) that can be used for constructing simulation models of payment and securities settlement systems. This paper describes the main elements of payment and settlement systems (system structures, interdependencies, processing steps, liquidity consumption, cost and risk dimensions) and how these can be treated in simulation studies. It gives also examples on how these elements have been incorporated in the simulator, as well as an overview of the structure and the features of the BoF-PSS2 simulator.simulations; simulator; payment systems; clearing/settlement; liquidity

Arab Countries’ (Under) Participation In The WTO Dispute Settlement Mechanism

The purpose of the present article is two-fold. First, the article examines the reasons as to why Arab countries do not actively participate in WTO dispute settlement proceedings.17 Trade volume, lack of technical expertise, financial strains, political relations, enforcement, and language problems eachplay a role in Arab countries under-participation and are discussed herein. Second, the article provides possible avenues through which Arab countries can enhance their presence in the WTO dispute settlement process. In the process of examining these issues, the article highlights the case(s) in which Arab countries participated in the WTO dispute settlement system. However, before addressing these issues, the article will briefly discuss the development of the WTO dispute settlement mechanism

Trade dispute settlement mechanisms: the WTO dispute settlement understanding in the wake of the GATT

A critical feature of the GATT Uruguay Round negotiations was the establishment of a new and more effective system of dealing with international trade disputes, known as the WTO Dispute Settlement Understanding (DSU). The original GATT dispute settlement system comprised rudimentary remnants of a more thorough framework contained in the defunct Havana Charter of the International Trade Organization (ITO). By the time of the start of the Uruguay Round negotiations in Punta del Este in 1986, the effectiveness and credibility of the GATT dispute settlement system was being very seriously questioned. The primary reason for the increasing lack of confidence in the system was the propensity of GATT contracting countries to ignore the findings of Panels, resulting in a stalemate in a number of high profile trade disputes. Several trade disputes between the EU and the United States discussed were initiated under the GATT dispute settlement system but remained unresolved. These disputes became increasingly acrimonious as a direct consequence of the failure of the GATT system to enforce a satisfactory resolution. This paper provides an outline of the workings of the GATT and WTO dispute settlement systems underlie several recent trade disputes. The first two sections deal with the GATT system of settling trade disputes. The first details the key elements of the GATT dispute settlement system while the second considers its performance in resolving disputes. Section 3 outlines the origins of the WTO DSU and summarises its principal Articles. The WTO DSU is appraised on the basis of its first nine years of operation in Section 4 followed by a brief discussion of the key issues that have arisen from its operation. The final Section makes some concluding comments on the relative efficacy of the GATT and WTO dispute settlement systems.

Examining the Trade-Off between Settlement Delay and Intraday Liquidity in Canada's LVTS: A Simulation Approach

The author explores a fundamental trade-off that occurs between settlement delay and intraday liquidity in the daily operation of large-value payment systems (LVPS), with specific application to Canada's Large Value Transfer System (LVTS). To reduce settlement delay, participants generally must maintain greater intraday liquidity in the system. Intraday liquidity and settlement delay can be costly for LVPS participants, and improvements in the trade-off are desirable. The replacement of standard queuing arrangements with a complex queue-release algorithm represents one such improvement. These algorithms are expected to lower intraday liquidity needs and speed up payments processing in an LVPS. Simulation analysis is used to empirically test this proposition for the case of Canada's LVTS. The analysis is conducted using a payment system simulator developed by the Bank of Finland, called the BoF-PSS2. The author shows that increased use of the LVTS central queue (which contains a complex queue-release algorithm) reduces settlement delay associated with each level of intraday liquidity considered, relative to a standard queuing arrangement. Some important issues emerge from these results.Payment, clearing, and settlement systems

Payment System Settlement and Bank Incentives

In this paper we consider the relative merits of net versus gross settlement of interbank payments. Net settlement economizes on the costs of holding non-interest-bearing reserves, but increases moral hazard problems. The "put option" value of default under net settlement can also distort banks' investment incentives. Absent these distortions, net settlement dominates gross, although the optimal net settlement scheme may involve a positive probability of default. Net settlement becomes more attractive relative to gross settlement if bank assets have to be liquidated at less than book value. Journal of Economic Literature Classification Numbers G21, G28. This paper was presented at the Financial Institutions Center's conference on Performance of Financial Institutions, May 8-10, 1997.

A Dynamic Model of Settlement

We investigate the role of settlement in a dynamic model of a payment system where the ability of participants to perform certain welfare-improving transactions is subject to random and unobservable shocks. In the absence of settlement, the full information first-best allocation cannot be supported due to incentive constraints. In contrast, this allocation is supportable if settlement is introduced. This, however, requires that settlement takes place with a sufficiently high frequency.Payment Systems, Settlement, Mechanism Design