A Future of Finance Webinar 15 February at 2pm UK time
There is widespread agreement that cross-border payments are too expensive, too slow, too closed, too opaque and too risky. For once, a combination of pressures – political, regulatory, risk-based, technological, entrepreneurial and geopolitical – make it more rather than less likely that the incumbents will be overtaken by new ways of transferring value across national borders.
What is the event about?
Everybody is paying too much to move money across borders and between currencies. But the transaction costs hit migrant workers (who in 2019 transferred an estimated US$760 billion to their countries of origin in 2019) and small and medium-sized companies (SMEs) hardest.
Depending on the currency pair, a transfer of US$500 can see between 5 and 20 per cent of the value devoured by a cast of usually hidden intermediaries, working to timetables that run into days and even weeks.
Which is why the G20, working through the Financial Stability Board (FSB), has set targets to lower costs, increase speed, improve transparency and widen access to services by 2027. The Committee on Payments and Market Infrastructures (CPMI), acting on instructions from the FSB, has draw up a list of 19 “building blocks” to achieve the ambition of a cheaper, faster, more open and more transparent cross-border payments system.
The actual work of construction requires a high degree of cooperation between multiple interests, including central banks, banks and payments market infrastructures (PMIs). Which offers a clue as to why the high costs and dismal quality of cross-border payments services has yet to be tackled.
Too many intermediaries are making too good a living out of the foreign exchange (FX) markets to favour change. National central banks are not only prey to incumbent banks that want barriers to entry to remain high but fear losing control of local monetary conditions themselves.
It is hard to tell from the regular FSB reports on the 19 building blocks whether these interests are being overcome but it is significant that, in one crucial respect at least, inefficiency is still actually increasing, not decreasing. Inefficiency means risk, and regulators will want to suppress it.
The risk is evident in the regression on building block 9: the drive to reduce settlement risk by increasing adoption of payment-versus-payment (PvP), or ensuring that the final transfer of a payment in one currency occurs if and only if the final transfer of a payment in the other currency is paid simultaneously. This is essential to avoid Herstatt Risk, or the risk of a bank paying before getting paid.
It is to reduce Herstatt Risk that central banks established CLS in 2002 as an independent multi-currency settlement system to settle (netted) FX transactions on a PvP basis. But CLS covers only 18 currencies, and other currencies (notably the Renminbi) make up a growing proportion of cross-currency transactions.
According to the 2022 Bank for International Settlements (BIS) Triennial Survey of FX, almost a third (29 per cent) of deliverable FX turnover of US$7.5 trillion, or $2.2 trillion, was still at risk from the failure to settle PvP on any given day in April 2022. That is up from US$1.9 trillion in April 2019.
The need to address that growing risk is one reason why cross-border payments need to change.
The obvious solution is to introduce central bank digital currencies (CBDCs) and settle payments across borders and currencies through the exchange of CBDCs between central banks settlement systems. Multiple projects (Jasper-Ubin, Aber, Prosperus, MAS, Helvetia Phase II, mBridge, Jura, Dunbar) have proved that CBDCs can work in that way.
However, the appetite to introduce a CBDC varies widely between central banks in different jurisdictions. There also remain a variety of legal and technical obstacles to using CBDCs to settle transactions across national borders. So CBDCs are not going to solve any aspect of the cross-border payment problem any time soon.
Indeed, CBDCs are more likely to follow commercial developments than lead them. A wide variety of commercial solutions are now available. They divide into three broad families. All of them encompass the aims of the 19 building blocks of the CPMI, and none excludes any of the others.
The first set aim to improve the existing combinations of correspondent banks and PMIs, through measures such as broadening membership of CLS, extending the opening hours of banks and central bank settlement systems, admitting non-banks to central bank settlement systems and increasing the use of multi-lateral (as opposed to bi-lateral) netting of non-CLS currency transactions.
The second set consists of innovative alternatives to the status quo such as Baton (blockchain-based bilateral netted PvP settlement between banks), Fnality (gross settlement via omnibus accounts in central banks RTGS systems with transactions recorded on a blockchain) and 9th Gear (multi-laterally or bi-laterally netted transactions settled in commercial bank money).
The third set look to adapt existing infrastructures (such as SWIFT) to digital money or build new, blockchain-based infrastructures such as the Partior network (pioneered by DBS, J.P. Morgan, Standard Chartered Bank and Temasek), or the regulated Internet of Value proposed by Citi (in which all forms of money are tokenised and transferred as liabilities between issuers), or a Decentralised Finance (DeFi) model that uses Stablecoins and automated liquidity providers (an approach that is currently theoretical only).
In practice, some combination of all three possibilities is likely to emerge, especially initially, with the old world refusing to die and the new world struggling to be born. However, regulators can encourage some developments over others, not just by accelerating the operational, regulatory and legal changes that will make challengers viable, but by taking a harder line on protectionist behaviour by the incumbent banks and PMIs.
Long-established financial services institutions have proved adept at slowing down or even defeating the threat of meaningful change, even when their shareholders have as much if not more to gain than their customers. Customer inertia is a friend of the incumbents. Yet there are grounds for hope in this instance.
There is a deadline (2027) by which measurable changes in speed (75 per cent of payments to settle within an hour), cost (the global average cost of retail payments to be no more than 1 per cent and the global average cost of sending a $200 remittance no more than 3 per cent), access (more than 90 per cent of individuals to have access to cross-border electronic remittance services); and transparency (minimum information for both payers and payees) must be achieved.
In addition, there are concrete alternative services available now in cross-border payments, as well as numerous ideas for improving on the status quo. Less agreeably, perhaps, there are mounting geopolitical pressures to escape the current dispensation too. But even where those pressures are absent, regulators are responding to political pressure from above to reform the system. For once, it is reasonable to believe that the established way of doing things in a financial market cannot survive much longer.
When is it being held?
Wednesday 15 February 2023 at 14.00 London time
Where is it being held?
As a webinar on Zoom.
The price and quality of cross-border payments affect everyone: banks, central banks, corporates, shareholders, consumers, market infrastructures. The pressure to improve both starts at the highest level, and is fuelled by a string of powerful regulatory, technological and geopolitical pressures, so sweeping changes are more likely to happen than not. Yet the number of challengers, and the range of possible outcomes, are bewilderingly wide. If you use cross-border payments services, or regulate them, or offer an alternative to them, and especially if you work in them, you need to understand where the pressure for change is coming from and where it might lead.
What topics will be discussed?
- Is the pressure for change in cross-border payments at an inflection point?
- Are banks and payments market infrastructures (PMIs) feeling the pressure to change?
- Where and why is risk in cross-border payments actually increasing?
- Is linking CBDC systems the solution to high costs and slow speeds in cross-border payments?
- Can existing service providers and infrastructures raise their game?
- Will the challengers overtake the incumbents?
- Do blockchain-based market infrastructures offer a credible long-term alternative?
- Do the technical constraints of blockchain technology matter?
- Is forcing banks to manage a variety of solutions a recipe for chaos?
- How can regulators help?
Chris Hamiton, Principal at Hamilton Platform https://www.linkedin.com/in/chris-hamilton-461bab1a/
Maryanne Morrow, Chairman CEO and Founder at 9th Gear https://www.linkedin.com/in/maryannemorrow/
Victoria Cumings, Chief Legal and Regulatory Office at RTGS.global https://www.linkedin.com/in/victoria-cumings/
For more information please contact Wendy Gallagher at Future of Finance on email@example.com