Liquidity Saving Mechanisms in Payment Systems and Settlement Liquidity: The Experience of Japan's Next-Generation RTGS Project

Global Evolution of Payment Systems: Beyond the Trade-off between Safety and Efficiency

Historically, almost all LVPSs started their operation as DNS systems. In due course, settlement mechanisms were changed and they became RTGS systems, with the main purpose of the improvement being to reduce settlement risk. Since LVPSs settle huge amounts of funds, it was most important for the system operators, usually the central banks, to reduce settlement risk and avoid systemic risk.

Although the RTGS system is robust with respect to settlement risk, it has the drawback of requiring a large amount of liquidity for settlement. In the case of a DNS system, the liquidity required at the end of the day is the net position between the outgoing and incoming payments, usually just a small portion of the total outgoing payment amount. In the RTGS system, by contrast, the full liquidity value is required for each outgoing payment in order to make a settlement. Therefore, the liquidity burden is rather heavy in the RTGS system.

In order to ease this liquidity burden, the Liquidity Saving Mechanism (LSM) was newly invented. In an LSM, the outgoing and incoming payments are matched and settled simultaneously, either bilaterally or multilaterally. That is, the LSM allows participants to send payments on the receipt of payments from others, which activates the netting effect and enables settlements with a small amount of liquidity. The settlement engine continues to search and match payments during the day, which facilitates near real-time settlement, and intraday finality.

In this way, the RTGS system with LSM is currently the cutting-edge payment system in the world, achieving a good balance between safety and efficiency (see Table 1). These payment system developments are described in the following part of this section.

Note: 〇 means superiority and × indicates inferiority.