Over the past several decades, payments have become faster, cheaper, more secure and more reliable. Cheques used to take days in the mail and then days to clear once deposited. International funds transfers would pass through several banks, each taking a ‘lifting’ fee as the funds slowly passed from originator to recipient. Fortunately, those days are over.
Transaction settlement times have declined from weeks (the cheque is in the mail) to days to minutes. Only a couple of years ago, same-day settlement was hailed as a breakthrough. Now, the target is 10 seconds or less and many closed networks are achieving that fairly consistently, something that is now being called ‘immediate payments’.
Central banks, commercial banks and payment networks are racing to make payments even speedier. This is all very good, since timing delays in payments and their accompanying information create risk and uncertainty as well as wreaking havoc with cash forecasts and liquidity cushions.
In the US, the Federal Reserve launched its Faster Payments Task Force with this statement: “The task force calls upon all stakeholders to seize this historic opportunity to realise the vision for a payment system in the United States that is faster, ubiquitous, broadly inclusive, safe, highly secure and efficient by 2020.”
Around the globe, the UK announced its Faster Payments Service in 2008. In 2017, the European Central Bank (ECB) kicked off its TIPS program (TARGET Instant Payment Settlement) with the goal of instant payments 24/7 within the euro area. The Hong Kong Monetary Authority launched the Faster Payments System initiative in 2018.
Curiously and embarrassingly, however, securities settlement times around the globe remain prehistoric in this faster-immediate payments context. Stocks, bonds and most mutual funds settle in a T+2 framework, two days. That’s business days – so add in two more days for the weekend.
The success of faster payments is one of the most important financial market breakthroughs of our time.
No doubt, payments are becoming faster, cheaper, more secure and more universal. The benefits of these initiatives are immense.
In faster payments, funds and information, however fast and efficient, must still flow between the originator, the originator’s payment processor and/or bank, a central bank, the recipient’s payment processor and/or bank before becoming settled funds in the recipient’s account with finality. Along that path, authentication, validation and reconciliation must take place. Even the ECB, in its TIPS communiqué, defined instant payments as “a matter of seconds”. That is a huge improvement, to be sure. However, as high-frequency traders and arbitrageurs know, a matter of seconds is an eternity in financial markets.
Currently, most faster payment initiatives are being implemented within individual payment networks and for lower-value payments. That’s appropriate, since it creates a relatively safe laboratory in which the processes can be perfected.
For corporate treasurers, the greatest benefits will accrue when a dominant standard and interface emerges, networks become interoperable, and high-value payments are eligible. Of course, all of this eventually needs to be multicurrency and global.
We believe that treasurers need to be gaining experience now and not wait until the dominant paradigm wins out. The benefits of even a portion of a company’s payments happening in real time are well worth the cost of some short-term process fragmentation.
As mentioned at the outset, faster payments are a breakthrough with enormous benefits to all participants, especially corporate treasurers. But now that payment times have been shortened significantly, is that what we need to measure going forward?
Should the real focus now move to scheduled payments? After all, most companies already schedule outbound payments based upon their cash forecast or their A/P cycles. It’s only the recipient that is in the dark. If the payee were to know for certain that a payment would be finally and irrevocably credited to its account in a designated bank at a specific time, does the payee really care whether the payment took four seconds, four minutes or four hours? Of course not.
Taking that a step further, if the commercial contract specified that irrevocable settlement would take place at the payee’s bank via a credit drawdown at a specific time, the money would not even need to move through the payment system.
At the Carfang Group, we believe that the certainty of final settlement as to time, place and amount is of paramount importance to the treasurer, not the speed of the payment itself.
No review of the payments landscape would be complete without acknowledging the role of cryptocurrencies, especially Bitcoin, in payments. Indeed, there have been a couple of notable corporations announcing their acceptance of Bitcoin for payments. It’s very early in the game, but with central banks now exploring Central Bank Digital Currencies (CBDCs), expect to see these payments evolve in a material way.
There are two major obstacles at present and we are watching developments closely:
How these two challenges are resolved will determine the ultimate utility of cryptocurrencies as payment vehicles.
We believe that there will be one more step beyond faster payments: truly immediate payments. These payments will settle instantly, anywhere, any time in any currency 24/7/365. At present, it’s difficult to envision. Perhaps blockchain technology is providing us the first glimpse. This has the potential of eliminating the sequential process of moving money and information (however fast) among transactors, their intermediaries and their settlement networks.
Alternatively, the paradigm for instant payments might come from outside the industry. Consider this analogy with railroads. In the late 19th century, railroads competed with each other to provide faster, safer and cheaper options for moving both passengers and freight between two points. Yet, even in the heat of that epic competition, no one within the industry considered putting wings on railcars. Ironically, most payment intermediaries today refer to their networks as ‘rails’.
You can read more analysis on faster payments and the impact on liquidity management here.
Anthony J Carfang is managing director of The Carfang Group, which specialises in consulting, writing, speaking, thought leadership and advocacy in the area of treasury, payments and liquidity