Will banks benefit from real time gross settlement?

G NARAYANAN
DGM, Treasury,
Bank of India

Real time gross settlement (RTGS) system is a transparent method for settlement of inter-bank transaction.

An ideal RTGS means that a cheque issued by a customer drawn on any branch of a bank deposited in any branch of another bank gets instantly cleared.

Simultaneously, the funds position between the two banks gets settled in the central hub of the central banking institution. It involves, intricate communication and networking for transfer of data.

In broad terms, it involves two steps of networking: Intra-bank (networking of branches within the bank) and inter-bank (networking of banks and other participants through a central hub).

In Indian, perfection of networking within the bank is still a distant possibility. In fact, it poses a considerable challenge to the public sector banks (PSBs) with a large network of the branches.

Nonetheless, banks are on the job to accomplish this feat through core banking solutions.

RTGS is being promoted through connectivity of banks and participants with the central hub of Reserve Bank of India (RBI).

Having successfully implemented negotiated dealing system (NDS) through the communication backbone of Indian Financial Network (INFINET), banks and institutions are ready to participate in RTGS.

RTGS implies one-to-one settlement of transaction between parties in which each party makes a separate payment on each transaction.

The settlement is immediate, final and irrevocable. Universally, RTGS implementation is driven by central bank's initiative to reduce systemic risk in high-value payments.

Since transactions are settled on continuous gross basis, sufficient funds must be available in the participants' settlement account at the time of each settlement.

RTGS will bring in new challenges. Banks' treasury will be responsible for managing intra-day liquidity in real-time. Repo and reverse repo will need to be managed in real-time basis.

Corporate cash management services will undergo a change and managing operational risk will be a critical issue from the liability perspective.

The system will have a substantial impact on current operations in the banks, particularly in the area of treasury, payment division, corporate banking and cash management. Banks will need to implement new strategies, processes, systems and organisation.

The new challenges also brings in new opportunities. It's true that the implementation of RTGS will deprive banks of free float of funds but this will be more than compensated by reduction in the operational cost and gain out of same day deployment of stock/cash due continuous settlement.

The banks have to develop a new fee-based payment product for corporate customers, can offer re-engineered cash management services and the bigger banks will be in a position to extend fee based services to smaller ones who may not become direct members of RTGS.

Trading in intra-day liquidity offers opportunity to earn revenue. So, RTGS will offer exciting business opportunities to the banks. But it will require business process re-engineering in the banks' to bring about procedural changes.

(The views expressed are the author's own and in no way represents the views of the BoI)

Full use of funds afforded

CHRIS FURNACE
Head, cash management
StanChart, Singapore

In a real-time gross settlement (RTGS) system, payments are cleared singly and bilaterally as they occur; as a payment message is moved through the clearing house, so the paying bank's account with the Reserve Bank of India (RBI) is debited and the receiving bank's account is credited.

Since there are no end-of-day procedures, such systems do not create intra-day exposures between participants.

In other words, there is certainty of payment and the receiving bank can credit the beneficiary's account immediately and allow full use of the funds.

Before RTGS, electronic payments were settled on a net basis at the RBI, typically at the end of the day. There was, therefore, a risk that a bank might not be able to settle on their obligations made during the day.

Corporates and individuals alike will benefit from the system, particularly in respect of high value payments.

Some of the drivers that might influence a switch from paper to electronic and other developments underway in the payments environment are reduction in overall payment processing and tracking costs and ability to reconcile receivables automatically, better supplier-buyer relationships and improvements in working capital and float reduction.

Reduction in overall payment processing and tracking costs and the ability to reconcile receivables will entail tracking paper remittances "" from the issuance of a cheque to its dispatch and clearance is far more costly for both the remitter and the beneficiary than for electronic payment as audit trails are readily available, especially if the transaction is delivered and reported electronically.

Better supplier-buyer relationships and improvements in working capital will provide a more timely and transparent payment mode that will certainly improve supplier relationships.

This should also result in improvements in overall working capital management as counterparties are now able to respond faster to a payment credit It will also help in float reduction.

Float in respect of a cheque can arise due to various factors like the mail/ courier time taken between despatch and receipt by the beneficiary; time beneficiary takes in depositing the cheque at their bank; and the cheque clearing time for good value to be received on the beneficiaries account. Because of the vast geography in India, such float costs can be high.

Ignoring for the time being the bargaining power between payer and beneficiary, the payer would appear to have some financial advantage in paying by cheque rather than through electronic means.

First, he is probably not incurring any charges for issuing a cheque. Secondly, the float cost mentioned above is actually in the remitter's favour. That is to say, the remitter may get the use of funds for an additional 10 days.

If his cash forecasting model is effective, he can make use of these funds even if it is only to the extent of reducing his overdraft and borrowing cost.

But if the remitter were to solely concentrate on the float cost and ignore the other benefits associated with electronic payments he may miss the bigger picture and the holy grail which leads to the above benefits.

The savings due to STP and its benefits will be considerably greater than the float costs.