Auction-based liquidity saving mechanisms
Summary
Focus
Real-time gross settlement (RTGS) systems eliminate settlement risk but increase banks' demand for intraday liquidity. To manage this demand, central banks have introduced liquidity-saving mechanisms (LSMs) that improve settlement efficiency through queuing and netting. Identifying the optimal subset of payments to net, given available liquidity, becomes complex as payment volumes grow, and many systems rely on simplistic rules that may not reflect participants' true priorities for which payments to offset. A central challenge is therefore to discover these preferences and establish an appropriate price for the liquidity provided.
Contribution
Recent theoretical work proposes a new type of LSM that reverses the traditional logic. Instead of finding the optimal set of payments to net, given a fixed amount of prefunded liquidity, participants are asked whether they are willing to supply the required amount of liquidity to settle a specified set of payments. To encourage this, the design introduces side payments – small transfers from liquidity receivers to liquidity providers that compensate the providers for the cost of supplying liquidity. The mechanism elicits participants' private valuations, which are required to determine these side payments, using an auction-based process. This auction-based LSM was evaluated using payment data from four systems: Peru's BCRP-RTGS, South Africa's SAMOS, the cross-border SADC-RTGS and Switzerland's SIC system.
Findings
The mechanism is evaluated using agent-based simulations calibrated with transaction data from the four RTGS systems. Across all trials, auction success rates averaged 79% (ranging from 62 to 100%). These success rates were high enough that observed failures typically did not increase liquidity usage. Liquidity savings relative to conventional RTGS processing ranged from 2.6 to 12.2%. Overall, the findings show the importance of side payments in coordinating participant incentives, reveal the trade-off between liquidity efficiency and settlement delay, and highlight the potential of auction-based LSM designs to enhance RTGS system efficiency.
Abstract
This paper introduces a novel liquidity-saving mechanism (LSM) for real-time gross settlement (RTGS) systems based on an auction framework. Unlike conventional queue-based LSMs that optimise payment netting given pre-committed liquidity, the proposed mechanism reverses the process by eliciting bids from participants to establish mutually beneficial liquidity-sharing arrangements. These arrangements are supported through side payments from liquidity receivers to liquidity providers, ensuring incentive alignment. The mechanism is evaluated using agent-based simulations calibrated with transaction data from four RTGS systems: BCRP-RTGS (Peru), SAMOS and SADC-RTGS (South Africa), and SIC (Switzerland). Across all trials, auction success rates averaged 79% (ranging from 62 to 100%). These success rates were sufficiently high that observed failures typically did not increase liquidity usage. Overall, the findings demonstrate the importance of side payments in coordinating participant incentives, reveal the trade-off between liquidity efficiency and settlement delay, and highlight the potential of auction-based LSM designs to enhance RTGS system efficiency.
JEL classification: G21, C72, D44
Keywords: payment system, liquidity savings mechanism (LSM), real-time gross settlement (RTGS) system, auctions
