Payment systems can be classified on the basis of the value of transactions being put through them, settlement modality or on the basis of timing of settlement.
- Value of funds transfer: payment systems can be categorized into (a) Large-value funds transfer — where individual payments are of high value and therefore time sensitive and (b) Retail funds transfer — where the value of transactions are of relatively low individual value but the volume of transactions put through it large.
- Settlement modality: payments systems can be classified into (a) Net settlement where payments are set off against receipts over a large number of transactions taken up for settlement. This arrangement can be on a bilateral basis between two participants or on a multilateral basis amongst all participants and (b) Gross Settlement — where each transaction is settled independent of other transactions.
- Timing of settlement: payment systems can be classified as (a) Real-time systems — where the transaction is settled as soon as it enters the system and (b) Deferred settlement systems — where the transactions are settled at pre-designated time intervals or at the end of the day.
In any payment system, one or more combinations of the above classifications will exist.
Net Settlement Arrangements
A multilateral netting operation collects the payment instructions given by all the participants and sets off payments to be made by each participant against the receipts due to him by all other participants. At the end of this process, each participant will either receive some amount from the rest of the participants or will be required to make some payment to the other participants i.e, net obligation to receive or to pay. When this setting off of payments against receipts (net of debits against credits) takes place between two participants only, it is normally referred to as bilateral netting.
Payment systems with multilateral net settlement usually operate through a clearing house, a central location through which the payment instructions pass and which is responsible for calculating the multilateral net positions of the member banks and passing them on to the central Bank or any other settlement bank for posting to the members’ settlement accounts. The process of such multilateral netting arrangements offer a very convenient way of organizing settlement in payment systems handling large volumes of low-value payments.
Gross Settlement Arrangements
With gross settlement, each payment instruction is passed from the paying bank to the central bank / settlement bank and is individually settled across the accounts of the paying and receiving banks. Thus, there will be a debit and credit entry for each and every payment instruction settled.
Depending upon the nature and sensitivity of transactions, one of the above methods of settlement will be adopted in a particular component of the payment system intending to improve the efficiency in the economy. But irrespective of the arrangement chosen, it is imperative that the system’s settlement arrangements addresses the various risks posed by it and take necessary steps to mitigate the systemic risk.