What are the benefits and risks of RTGS for liquidity management?

1 Liquidity management

Liquidity management is the process of ensuring that a bank has enough cash and liquid assets to meet its obligations and operational needs. Liquidity management involves balancing the trade-off between profitability and liquidity risk, which is the risk of being unable to meet payment obligations or facing higher funding costs due to market conditions or disruptions. RTGS can affect liquidity management in several ways, depending on the design and features of the system, the availability and cost of intraday credit, and the behavior and expectations of the participants.

2 Benefits of RTGS

One of the main benefits of RTGS is that it reduces settlement risk, which is the risk that a payment will not be completed as expected due to the failure or delay of one or more parties. By settling payments in real time, RTGS eliminates the exposure to counterparty and systemic risk that can arise from deferred net settlement systems, where a default by one participant can affect the entire system. RTGS also enhances efficiency and transparency, as it allows participants to monitor their balances and transactions in real time, and to optimize their cash flows and liquidity positions. RTGS can also facilitate the integration and interoperability of different payment systems, such as securities settlement systems, central bank operations, and cross-border payments.

3 Risks of RTGS

One of the main risks of RTGS is that it increases liquidity risk, which is the risk of not having enough funds or collateral to settle payments in real time. Because RTGS requires participants to have sufficient balances or credit lines to cover their outgoing payments, it can create liquidity pressures and constraints, especially during peak periods or stress scenarios. RTGS can also amplify the impact of operational or technical failures, as any disruption or delay in the system can affect the smooth functioning of the payment system and the financial markets. Moreover, RTGS can create coordination and information problems, as participants may have incomplete or asymmetric information about the timing and volume of incoming and outgoing payments, and may have incentives to delay or hoard their payments to conserve liquidity.

4 Liquidity management strategies

In order to address liquidity challenges posed by RTGS, participants need to implement effective liquidity management strategies that optimize their use of funds and minimize their costs. Forecasting and planning, queuing and prioritizing, offsetting and netting, pooling and sweeping, and borrowing and lending are all common strategies that can be employed. Forecasting and planning involves estimating payment flows and balances, while queuing and prioritizing involves managing payment queues based on urgency and value. Offsetting and netting can be done bilaterally or multilaterally to reduce liquidity requirements. Pooling and sweeping entails consolidating balances across different accounts or entities, while borrowing and lending involves accessing intraday credit facilities or lending surplus funds to other participants. All of these strategies help participants manage their liquidity gaps and earn interest.

5 RTGS innovations

In order to tackle liquidity issues related to RTGS, some central banks and payment system operators have implemented various innovations and enhancements to their RTGS systems. These include liquidity saving mechanisms, such as offsetting algorithms or liquidity reservation facilities, collateral management systems that enable participants to use eligible assets as collateral for intraday credit, hybrid settlement systems that combine the features of RTGS and net settlement, as well as cross-border linkages that allow for real-time settlement of cross-border payments.

6 Here’s what else to consider

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