United States: Federal Reserve To Create Faster Payments System

On August 5, the Board of Governors of the Federal Reserve System (Board) issued a notice and request for comment (Notice) on its determination that the Federal Reserve Banks (Reserve Banks) should develop a new interbank faster payments system. The Reserve Banks’ new system—the “FedNow” service—would have a targeted launch date in 2023 or 2024.

Background

The Notice is the latest step along the path that the Board kicked off in 2013 with its Strategies for Improving the U.S. Payment System initiative, which included the creation of the Faster Payments Task Force (FPTF). The FPTF was convened to identify and evaluate alternative approaches to faster payment capabilities in the United States, and ultimately the FPTF recommended that the Reserve Banks develop a 24x7x365 settlement service to support faster payments. 

This Notice follows a November 2018 request for comment regarding possible actions the Federal Reserve could take to support faster payments. According to a speech by Governor Lael Brainard, 90% of the comments from stakeholders in response to the 2018 request for comment called for the Federal Reserve to operate a real-time service for faster payments.

The Board’s evaluation in the Notice of whether the Reserve Banks should offer a faster payment service is based on statutory standards in the Monetary Control Act of 1980, and the Board’s criteria for new or enhanced Federal Reserve payment services under its long-standing policy, “The Federal Reserve in the Payments System.” Consistent with this policy, the Board evaluates whether (1) the service is one that other providers alone cannot be expected to provide with reasonable effectiveness, scope, and equity, (2) offering the service will result in clear public benefit, and (3) the Reserve Banks can expect the service to achieve full cost recovery over the long run. The Notice evaluates these criteria, considers more than 400 comments received in response to the 2018 request for comment, and makes the case that the Reserve Banks should offer FedNow. 

FedNow Service

The Board expects that FedNow will be an interbank real-time gross settlement (RTGS) service with integrated clearing functionality that can serve as the infrastructure upon which other parties could build faster payment solutions. FedNow would involve real-time payment-by-payment settlement of interbank obligations through debits and credits to banks’ accounts at the Reserve Banks. The Board expects that the service could be designed to support credit transfer use cases, including P2P payments, bill payments, and low-value B2B payments (the service initially would support payment values up to $25,000). FedNow also would likely support non-value request for payment messages. Using FedNow, the Board expects that payments would be able to settle in a matter of seconds, and that all settlement entries would be final and irrevocable after a transaction is processed.

With respect to the other provider and public benefit criteria from the Board’s “The Federal Reserve in the Payments System” policy, the Board acknowledged the private-sector RTGS network already provided by The Clearing House, but the Board argued that a private-sector RTGS alone is unlikely to establish a nationwide reach on an equitable bases, and that efficiency and safety issues are likely to arise in a single-provider market. The Board also stated that giving banks both a private-sector and public-sector option for RTGS would promote competition that would spur innovation and lower prices, and would also create redundancies that could provide a buffer against a single point of failure in the payment system.

With respect to the cost recovery criterion from the Board’s policy, the Board stated its expectation that FedNow would achieve full recovery of costs over the long run. However, the Board acknowledged that long-run cost recovery would likely occur outside the 10-year period that the Board typically applies to existing, mature Reserve Bank services.

The Board noted that, in response to the 2018 request for comment, many commenters highlighted the importance of interoperability between a Reserve Bank RTGS solution and a private-sector RTGS network. The Board acknowledged the benefit of interoperability, but argues that nationwide reach, as opposed to interoperability, should be the key objective in the short term. According to the Board, while interoperability of multiple services is one path to obtaining nationwide reach, such as with the ACH system, it is not the only path. For example, nationwide reach is also achieved through the wire systems even though the Reserve Banks’ Fedwire service and The Clearing House’s CHIPS are not interoperable.

Although the Reserve Banks would aim to launch FedNow in 2023 or 2024, the Board anticipates that nationwide reach of the service would take longer to achieve.

Liquidity Management Tool

In addition to announcing the FedNow service, the Board also announced that it would explore expanding the operating hours of the Fedwire and the National Settlement Service (NSS) as liquidity management tools to support faster payments, and to support domestic and international financial markets more broadly. The Federal Reserve did not specify the expanded hours, but indicated that hours may be expanded up to 24x7x365, subject to additional analysis of relevant operational, risk, and policy considerations. The Board indicated that it would seek public comment separately on plans to expand hours for Fedwire and NSS.

The Board requested comment on targeted aspects of the FedNow service, including service pricing and the request for payment feature. The Board also signaled that it would engage with industry on issues such as intra-day credit, directory services, fraud prevention services, and implementation. Comments on the FedNow proposal will be due within 90 days after the Notice is published in the Federal Register.

Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Morrison & Foerster LLP. All rights reserved

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