BoE to open up UK financial infrastructure

The Bank of England is preparing to grant more non-banks access to its payment systems, the governor of the Bank said in a speech last night in London.

Mark Carney was addressing the annual Lord Mayor’s banquet at the Mansion House, a forum often used by UK financial officials for major public policy announcements.

Carney said that the Bank is aiming to create the right conditions for fintech firms to innovate, while also creating a level playing field for banks and non-banks.

Some market observers have questioned whether existing, Europe-wide initiatives to open up payment systems to non-bank technology firms may already have skewed the competitive landscape, favouring the newcomers.

Carney comments on Facebook’s Libra project

In his speech, Carney made specific reference to the Libra project, which was announced by Facebook and twenty seven other founding partners earlier this week. Libra aims to provide what it calls the first global medium of exchange.

“As designed, Libra may substantially improve financial inclusion and dramatically lower the costs of domestic and cross border payments,” said Carney.

However, he added a caveat regarding regulation.

“The Bank of England approaches Libra with an open mind but not an open door. Unlike social media for which standards and regulations are being debated well after it has been adopted by billions of users, the terms of engagement for innovations such as Libra must be adopted in advance of any launch,” Carney said.

A further opening of the UK’s RTGS system

In his speech, Carney announced a further liberalisation of access to the Bank of England’s real-time gross settlement (RTGS) system, which handles an average £650bn of sterling payments a day.

RTGS systems, operated by central banks, are a fundamental component of the existing financial market infrastructure. They ensure that payments between wholesale market counterparties are simultaneous, executed in real-time and irrevocable.

Until recently, only commercial banks had direct access to the UK’s RTGS system, and alternative payment service providers (PSPs) had to route payments through those banks.

“That made sense in the old financial world arranged around a series of hubs and spokes, but it is increasingly anachronistic in the new, distributed finance that is emerging,” Carney said.

“So we are now making it easier for a broad set of firms to plug in and compete with more traditional providers. In July 2017, we became the first G7 central bank to open up access to our payment services to a new generation of non-bank PSPs.”

Interest at the central bank for non-banks

Further, said Carney, the Bank is launching a consultation on allowing non-banks access to interest-bearing central bank reserves, again the historical preserve of entities with a banking licence.

“Historically, only commercial banks were able to hold interest-bearing deposits, or reserves, at the Bank,” Carney said.

“That reflected their role at the core of the payment system. As new payment providers and systems emerge, access to the Bank’s core infrastructure should change and it makes sense to consider whether they too can hold funds overnight on the Bank’s balance sheet,” he said.

From the Bank’s perspective, Carney explained, this expanded access could improve the transmission of monetary policy and increase competition.

It could also support financial stability by allowing settlement in central bank money and reducing reliance on major banks, Carney said. Users of the payment system could expect to benefit from reduced costs and increased certainty, he argued.

Pressure from new tokenised payment systems

The Bank’s move to open up its RTGS system may have been hastened by private sector initiatives designed to perform a competing role.

In February, US bank JP Morgan announced that it had been trialling a new digital payment token called JPM Coin. The token is designed to speed up the settlement of transactions between the bank’s institutional clients. However, by contrast with settlement on the books of a central bank, JPM Coin would operate only across the bank’s internal ledgers.

More ambitious projects involve consortia of broker-dealers, working to develop settlement systems using distributed ledger technology.

One of those consortia, which is behind the Utility Settlement Coin (USC), proposes to issue digital tokens that are fully backed by central bank money, allowing instant settlement in the safest form of currency.

Such initiatives could overhaul how markets operate, Carney noted in his speech.

And from money payments it’s a short step to transactions in ‘near-money’, like shares or bonds.

A wholesale digital payment token like USC could also plug into ‘tokenised assets’—conventional securities also represented on blockchain—and smart contracts, Carney said.

The Bank of England governor sounded a positive note about such initiatives and their potential impact.

“This can drive efficiency and resilience in operational processes and reduce counterparty risks in the system, unlocking billions of pounds in capital and liquidity that can be put to more productive uses,” Carney said.

Responding to digitalisation

The Bank of England also recognises changes in technology and consumer spending habits, the governor said in his speech.

Carney noted that last year, one fifth of all sales in the UK were online, and that in 2020, this figure will rise to one quarter.

Cash is also rapidly disappearing: over the past decade, the proportion of total payments made in cash in the UK has declined from two thirds to one quarter, Carney said. Similar trends are occurring in many economies worldwide.

However, central banks have a tricky balance to strike when responding to the trend towards digitalisation.

Largely in response to the decline in cash transactions, central banks worldwide have been under pressure to introduce new digital forms of currency with broad public access.

But in January, the Bank for International Settlements (BIS) noted that most countries have failed to move much beyond the planning stage when it comes to issuing their own, central bank-issued digital currencies (CBDC).

Although 70 percent of the respondents to a survey conducted by the BIS said they were working on CBDC through research or proofs-of-concept, only five of the 63 central banks surveyed had progressed to pilot projects and no central bank has yet declared firm plans to issue a CBDC.

This delay may reflect fears among policymakers that allowing the general public direct, expanded access to new forms of central bank money could deplete banks’ deposit base, with knock-on effects on bank lending and the stability of the banking system as a whole.

However, the latest policy announcement by the Bank of England appears to signal a recognition that the future payments system will inevitably be more decentralised and less bank-centred.

“The Bank’s strategy to open access to a wide range of payment solutions, combined with appropriate regulatory oversight of them, maximises the likelihood that the payments revolution will meet the demands of the new economy and the needs of all our citizens,” Carney said.

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