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

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

Copyright: © 2016 |Pages: 25
DOI: 10.4018/978-1-4666-8745-5.ch012
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Payment systems are one of the key Financial Market Infrastructures (FMIs) and have showed remarkable progress over the past two decades. The first half of this chapter focuses on the evolutionary process of payment systems, starting with the Deferred Net Settlement (DNS) system and progressing to the Real-Time Gross Settlement (RTGS) system. Subsequently, much more sophisticated payment systems have been put in place, which include the “Hybrid System,” and the “RTGS system with Liquidity Saving Mechanism (LSM).” In the latter half of this chapter, experience from the “Next-Generation Real-Time Gross Settlement” (RTGS-XG) project of BOJ-NET is discussed. BOJ-NET is the large-value payment system operated by Bank of Japan (BOJ). BOJ-NET added an LSM in 2008 and became an RTGS system with LSM. The impact of the LSM's introduction is analyzed, which includes the liquidity-saving effect, the average waiting time in the queue, the turnover ratio, and the volume of idle liquidity.
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Evolutional Process Of Payment Systems

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.

Table 1.
Safety and Efficiency in Payment Systems
(robust to settlement risk)
(require less liquidity for settlement)
DNS system× (vulnerable to settlement risk and systemic risk)〇 (settlement with less liquidity)
RTGS system〇 (real-time finality)× (require a lot of liquidity)
RTGS system
with LSM
〇 (intraday finality)〇 (settlement with less liquidity)

Note: 〇 means superiority and × indicates inferiority.

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