Instant payments as the new normal: how much more money do the banks need?

Matti Hellqvist and Kasperi Korpinen

Abstract

The amount of central bank money, or liquidity, needed to settle payments depends on the way the settlement is organized. It is largest when payments are settled individually on a gross basis and smallest with settlement in one big netting cycle. Retail payments are increasingly processed via instant payment schemes and systems in many countries. We evaluate how the result of this transition affects banks’ liquidity needs. For our analysis we generate artificial transaction level data that mimics the normal retail credit transfer payment flows between Finnish participants in the STEP2 system. This allows us to estimate the difference between the liquidity needs for the settlement in a cycle-based model and in full instant payment mode. We also present a regression model for bank level additional liquidity needs. Full migration to instant payments is expected to cause only a small aggregate increase in liquidity needs. However, the variations between banks or between days can be significant, even for normal payment flows. This emphasizes the need for liquidity buffers. Our results on bank level liquidity needs are invariant to the topology of the payment network when there is sufficient liquidity, and thus our results can be applied to any bank of similar size and with similar payment flow.