What Kind of Payments Settle in a Real Time Gross Settlement System?

Fevolden, Mats Bay; Smith, Lyndsie Research Report What Kind of Payments Settle in a Real Time Gross Settlement System? Staff Memo, No. 2/2018 Provided in Cooperation with: Norges Bank, Oslo Suggested Citation: Fevolden, Mats Bay; Smith, Lyndsie (2018) : What Kind of Payments Settle in a Real Time Gross Settlement System?, Staff Memo, No. 2/2018, ISBN 978-82-8379-031-3, Norges Bank, Oslo, https://hdl.handle.net/11250/2577346 This Version is available at: https://hdl.handle.net/10419/210350 Standard-Nutzungsbedingungen: Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden. Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen. 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THE CASE OF NORGES BANK’S SETTLEMENT SYSTEM (NBO) NO. 2 | 2018 MATS BAY FEVOLDEN AND LYNDSIE SMITH 2 NORGES BANK STAFF MEMO NO. 2 | 2018 WHAT KIND OF PAYMENTS SETTLE IN A REAL TIME GROSS SETTLEMENT SYSTEM Staff Memos present reports and documentation written by staff members and affiliates of Norges Bank, the central bank of Norway. Views and conclusions expressed in Staff Memos should not be taken to represent the views of Norges Bank. © 2018 Norges Bank The text may be quoted or referred to, provided that due acknowledgement is given to source. Staff Memo inneholder utredninger og dokumentasjon skrevet av Norges Banks ansatte og andre forfattere tilknyttet Norges Bank. Synspunkter og konklusjoner i arbeidene er ikke nødvendigvis representative for Norges Bank. © 2018 Norges Bank Det kan siteres fra eller henvises til dette arbeid, gitt at forfatter og Norges Bank oppgis som kilde. ISSN 1504-2596 (online) ISBN 978-82-8379-031-3 (online) 3 NORGES BANK STAFF MEMO NO. 2 | 2018 WHAT KIND OF PAYMENTS SETTLE IN A REAL TIME GROSS SETTLEMENT SYSTEM What Kind of Payments Settle in a Real Time Gross Settlement System? THE CASE OF NORGES BANK’S SETTLEMENT SYSTEM (NBO) Mats Bay Fevolden and Lyndsie Smith 1 Central bank settlement systems are vital for payment intermediation and have an important role in monetary policy and financial stability. Few analyses exist that explain the purpose behind the payments that are settled in these systems. In this paper we categorise payments that settle in Norges Bank’s settlement system (NBO) based on their economic purpose. Interbank lending, FX trades, and payments by households and companies were the major contributors to turnover based on value and accounted for 22, 21, and 9 percent of the turnover in NBO respectively. Real time gross settlement system (RTGS), financial infrastructure, turnover. 1. Introduction Most of the payments made in modern economies are transmitted electronically, such as card payments, giro payments and settlement of FX and security trades. A majority of these payments settle in a real-time gross settlement system (RTGS) operated by a central bank. As payments that settle in an RTGS have various origins, they offer central banks a glimpse into the activity in both the economy and financial markets. Many central banks monitor activity in their RTGS and publish settlement statistics, such as the number and value of payments settled for a given time period.2 To our knowledge, no analysis has yet been published that categorises payments in a RTGS according to their economic purpose. One possibility is that payments settling in a RTGS do not necessarily contain information about their purpose.3 This paper describes the procedures used to identify the economic purpose of different payments that settle in the Norwegian RTGS (Norges Bank’s Settlement System, NBO). The work is made possible through information dissemination and collaboration with NBO participants and interconnected FMIs, and includes mapping data from different sources, the use of algorithms and investigating patterns in the data. 1 We would like to thank Torbjørn Hægeland, Farooq Akram, Knut Sandal, Helle Snellingen and Bjørn Bakke for their comments. Thanks must also be made to Aleksander Bråthen for early contributions. 2 The payment system survey carried out by the World Bank gives settlement statistics for RTGSs in 83 countries. The latest available report (World Bank, 2016) covers the years 2011-2015. 3 Payments settling in NBO contain: date, value, accounts to be debited and credited. We thus need additional information to categorise the original parties to the payments. 4 NORGES BANK STAFF MEMO NO. 2 | 2018 WHAT KIND OF PAYMENTS SETTLE IN A REAL TIME GROSS SETTLEMENT SYSTEM This paper is further organised as follows: - Section 2 gives an overview of the financial infrastructure in Norway, - Section 3 outlines the data sources and methods for mapping these data together, - Section 4 shows the results, - Section 5 concludes. 2. NBO and the Norwegian financial infrastructure Households and firms hold deposits with private banks, and use these deposits to pay for goods and services, for example. When a private individual pays for goods in a supermarket using a payment card, an obligation arises between the individual’s (card issuing) bank and the bank of the supermarket. Such obligations settle in a central bank settlement system when the sending bank transfers central bank deposits to the beneficiary bank. NBO is the ultimate settlement bank in Norway and is where most payments in Norwegian krone (NOK) eventually settle. There are millions of payments made every day that involve NOK, but only a limited number of payments settle in NBO. The value of the payments settling in NBO is, however, large. For example, NBO processed on average 1 950 payments each day in 2017, with a total value of NOK 236 billion, equivalent to 9 percent of annual mainland GDP. Besides the government, only banks and central counterparties (CCPs) are eligible to hold an account with Norges Bank, and thereby participate in settlements in NBO. Banks settle payments in NBO on behalf of their customers, and some also on behalf of other banks and their customers (see box Participation in NBO). At year-end 2017, 130 banks and 3 CCPs held accounts with Norges Bank. The payments that settle in NBO can be divided in two categories. The first category contains payments resulting from netting – usually called net settlement. Netting is the process by which multiple payments to and from each bank are summed together, and each bank either pays or receives a single net position. The second category is payments that settle on an individual basis – usually called gross settlement. Most payments involving NOK are netted. As can be seen in Chart 2.2 in the box Settlement in NBO almost 10 million payments each day are netted. The number of payments settling in NBO from netting is only 270 which is roughly 6 times fewer than the 1687 settling gross. Of the NOK 236 billion settling in NBO each day in 2017, only 38 billion resulted from netting, roughly 5 times less than the 197 billion settling gross.4 4 The account structure at Norges Bank makes it possible to distinguish which payments settled in NBO are the result of netting. 5 NORGES BANK STAFF MEMO NO. 2 | 2018 WHAT KIND OF PAYMENTS SETTLE IN A REAL TIME GROSS SETTLEMENT SYSTEM Participation in NBO 130 banks hold an account at Norges Bank including most Norwegian banks and some foreign banks. Settlement in NBO is concentrated – with five banks settling 90 percent of payments in 2017 (based on value).5 A reason for this concentration is that these five banks act as correspondent banks and settle payments on behalf of other banks. The banks that use a correspondent bank to settle payments are referred to as indirect participants and include most small Norwegian banks and many foreign banks. Although most Norwegian banks hold an account with Norges Bank, small banks hold their account for contingency purposes. The tiered participation structure can be visualised as a hierarchy where the more critical nodes are higher up (Chart 2.1). The banks in the top tier connect their own customers, in addition to other banks and their customers, to NBO. Payments coming from indirect participants and customers rely on sufficient central bank liquidity and operational availability of the correspondent bank – the direct participant in NBO. Chart 2.1 The payment system hierarchy Source: Norges Bank 5 Based on gross payments made between banks 6 NORGES BANK STAFF MEMO NO. 2 | 2018 WHAT KIND OF PAYMENTS SETTLE IN A REAL TIME GROSS SETTLEMENT SYSTEM Settlement in NBO Settlement in NBO starts at 05:30 CET and closes at 16:35 CET. Banks can settle payments gross throughout opening hours, but settlement of net positions occurs only at fixed times during the day. Different types of payments are part of different multilateral netting systems (Table 1). Table 1 Description of multilateral netting systems connected with NBO Clearing institution Details (as of year-end 2017) NICS (Norwegian Interbank Clearing System) - Mainly retail payments - 5 settlement sessions in NBO per day VPS (Norwegian Central Securities Depository) - Securities - 2 settlement sessions each day CLS6 - FX - Funding of net positions between 07:00 CET and 12:00 CET CCPS7 - Derivatives Chart 2.2 shows the value (yellow) and number (green) of payments conveyed to a netting system, and the resulting net positions settled in NBO after netting. The relative values illustrate the large “netting effect”. Chart 2.2 Net settlement in NBO. NOK billion / Number of payments. Daily average 2017. Sources: Bits, VPS, CLS8, and Norges Bank 6 All FX trades registered with CLS settle gross in accounts that the CLS settlement members hold with CLS. CLS calculates a net position for each CLS settlement member for each currency. These net positions settle in the respective central banks whose currency is part of CLS. Funding of net positions in NOK occurs within the time interval 0700 CET – 1200 CET. 7 The accounts held by the CCPs: SIX x-clear, LCH Clearnet and EUROCCP are used for settlement of variation margins for example, and represent only a small fraction of the turnover in NBO and is not included in this paper for purposes of brevity and simplicity. 8 Any reference to CLS data herein this document is executed, anonymised and aggregated NOK swap trade data. 7 NORGES BANK STAFF MEMO NO. 2 | 2018 WHAT KIND OF PAYMENTS SETTLE IN A REAL TIME GROSS SETTLEMENT SYSTEM The economic purpose of payments subject to netting is fairly straightforward to deduce; to the securities settlement are payments that relate to trading of securities, CLS pay-ins and pay-outs relate to FX trading, and NICS netting mostly includes household and firm payments. The bulk of turnover in NBO, however, consists of gross payments, the deduction of the economic purpose of which is more complex. In the following section we present the methods used to categorise payments settling gross during August 2015. The month was chosen based on the accessibility of data from external institutions. 3. Data and methods for categorising gross settlements As operator, Norges Bank keeps a record of all payments that settle in NBO. In August 2015, 1 090 payments settled gross on average each day, totalling NOK 171 billion. Information about which account was debited, which account was credited, the settlement date and the settled amount is recorded with all payments. Additional information is available for some payments which can be divided into four categories: 1. Payments with a tag indicating their purpose, 2. Payments which can be mapped with data collected from external sources, 3. Payments whose purpose can be deduced using matching algorithms, 4. Payments whose purpose can be inferred based on institutional knowledge and convention. 3.1. Tagged payments Some payments contain information about their purpose. They include: - Payments related to Norges Bank’s liquidity management. Norges Bank holds auctions where NBO participants either can place money with or borrow from Norges Bank.9 - Customer payments transmitted directly to NBO, and not via NICS. 10 - Payments to and from governmental entities. - Other payments such as those related to interest on deposits banks hold with Norges Bank, and the fee for holding an account and participating in settlements in Norges Bank. Of the 1 090 payments settling on average each day in August 2015, 507 contain such a tag. They amount to NOK 36 billion (21 percent of the gross turnover), of which NOK 21.5 billion is related to Norges Bank’s liquidity management, with customer payments accounting for NOK 6.4 billion, government transfers accounting for NOK 9 See more details on Norges Bank’s liquidity management in (Norges Bank, 2014) 10 Payments that settle in NBO are sent using the SWIFT network and SWIFT standards. The SWIFT formats used for settlement in Norges Bank are either the customer format (MT 103) or the interbank format (MT 202). Banks can send payments directly to Norges Bank or via the clearing agent NICS. Most payments are sent to Norges Bank via NICS. SWIFT payments of less than 25 NOK million sent via NICS become part of NICS net, while those above 25 NOK million are forwarded to Norges Bank where they settle gross. When NICS forwards a payment to Norges Bank, information about indirect participants is omitted, and all payments are sent using the interbank format. 8 NORGES BANK STAFF MEMO NO. 2 | 2018 WHAT KIND OF PAYMENTS SETTLE IN A REAL TIME GROSS SETTLEMENT SYSTEM 8.2 billion, and other payments accounting for NOK 1.6 billion. In terms of the number of payments, the corresponding values are 12, 291, 205, and 281 respectively. 3.2. Use of external information 583 of the payments settling gross per day do not contain a tag. This amounts to NOK 135 billion, which is 79 percent of the gross turnover. At the outset, we have assumed that the non-tagged payments can be either household or firm payments (see footnote 9), relating to lending and borrowing in the money market, or settlement of FX trades. To verify these assumptions we gathered data from three different sources, the details for which are summarised in Table 3.1: - Bits (operator/owner of NICS) provided information on payments that are sent to Norges Bank via NICS, such as whether the payment is a customer or a bank payment, and information about any indirect participants. - 23 participants in NBO reported on their interbank lending.11 - CLS provided some data on FX trades that settle in CLS. Table 3.1 Overview of payment data from the three sources. August 2015. Daily average. Data Number of payments Daily value (NOK bn.) Source Payments settling gross in NBO 1090 171 NBO payment registry Data sent to Norges Bank via NICS 487 128 Bits Interbank loan survey 11 11 23 banks CLS settlement data 355 136 CLS The data provided by Bits contains 487 payments per day which are mapped against the gross payments in the NBO registry. For each corresponding payment we add the details of any indirect participants. The additional data also allows us to assess whether a payment is a customer or an interbank payment. 21 additional customer payments are identified, with a value of NOK 1.6 billion. This enriched dataset allows us to identify payments where the same bank is the sender and beneficiary - we label these payments “intrabank payments”.12 On average 90 payments each day are intrabank payments, with a value of NOK 17 billion. 11The banks reported the following information: amount lent or borrowed, counterparty, date, interest rate and amount repaid. 12 There can be many reasons why the same bank is both the sender and beneficiary of funds. One is that banks by convention hold accounts with multiple correspondent banks and make use of these accounts to settle payments intraday. Overnight these accounts are emptied. Funds are either channeled to the central bank account (if the bank has an account with Norges Bank) or gathered in one correspondent bank account. Another reason is that a customer holds accounts with multiple branches of the same bank and transfers money between those accounts. We have not been able to distinguish between these.