Economizing on Liquidity with Deferred Settlement Mechanisms

n a typical day, the total value of payments settled by the Federal Reserve’s Fedwire Funds Service exceeds $1.8 trillion. On average, credit extended to banks using Fedwire is about $30 billion over the course of the day, while the peak intraday amount reaches $86 billion. Given this high level of credit extensions, it is worthwhile asking whether payment settlements could be managed with a lower level of outstanding credit, thus allowing system operators to economize on liquidity. Fedwire operates as a real-time gross settlement (RTGS) system. RTGS systems transfer the full amount of payment orders between commercial bank participants immediately upon receipt, thus avoiding short-term debt obligations between participants. This is a desirable feature that has prompted many central banks worldwide to implement these systems over the past decade. However, because payment transfers between participants are made immediately in the full amount, and because of the asynchronous timing of payments by participants, maintaining the liquidity needs of RTGS systems can be costly. Indeed, some system operators have altered their RTGS systems in recent years to economize on the funds needed to complete settlements.