Payment 'Tokens': A Route to Optimizing Liquidity Management?

This paper examines the opportunities for better management of intra-day and overnight liquidity in financial markets, using ‘tokenised’ rather than tiered money deposited with bank counterparts. It begins with a review of how financial firms manage their intra-day liquidity, dealing with the inevitable surprises in payments flows and payment obligations and the challenge of ‘timed’ payments that must be made by specified time, not just on value date. It then discusses the opportunities for reducing cost and risk from application of the new technologies of money associated with decentralised finance and Web 3.0. With this background it examines the application of these technologies in three situations: domestic securities settlement; cross-border transactions; and derivative transactions. The principal opportunity identified from this exercise is the creation of single pools of liquidity (SPooLs) for each institution in each currency in which they transact. This should be both: directly held money, that supports legally final settlement, not tiered deposits; and directly addressable money, allowing settlement systems to achieve ‘atomic settlement’ in which trade settlement can only ever occur as DvP (delivery against payment) or PvP (payment against payment) and avoiding restrictions such as opening hours. ‘Distributed ledgers’ or ‘blockchains’ are one possible way of implementing SPooLs, but it is the functionality not the technology that matters, implementation using conventional centralised databases is also possible. These arrangements could support new markets for near-real time liquidity exchange, such as foreign exchange swaps or repo with the first near leg executed & settled immediately. This will allow market participants to exchange assets or money (‘what they have’) into the form required for settlement (‘what they need, when they need it’). Further efficiency can be supported by ‘warehousing’ of future settlement commitments, to ensure agreement on and transparency of those obligations. These innovations can substantially reduce collateral requirements and counterparty risks across global markets. There are though significant challenges: persuading central banks to widen access to central bank balances, either as wholesale central bank digital currency (wCBDC) or a privately provided synthetic equivalent (sCDBC), and achieving sufficiently widespread industry adoption for a critical mass of SPooL.