Ouke Cloud Chain Research Institute: In-depth analysis of the impact of the central bank’s digital currency on the international payment system

The central bank’s digital currency cannot replace SWIFT, but it may reduce a country’s dependence on SWIFT.

Extended reading: ” Selected Good Articles from Chain News｜In-depth Interpretation of DCEP and the Digital Currency Structure and Impact of Central Banks “

Original title: “Ouke Cloud Chain Research Institute: How does central bank digital currency impact the international payment and settlement system? Detailed explanation of CNAPS, CIPS and SWIFT
Written by: Ouke Yunlian Research Institute

With the official launch of the domestic digital renminbi test, more and more people are beginning to pay attention to the social and economic changes brought about by the central bank’s digital currency. Among them, the influence of central bank digital currencies on cross-border payments and international settlements has attracted the most attention. Many people believe that the central bank’s digital currency will have an impact on SWIFT and reshape the international settlement system. However, even in the opinion of some professionals, the SWIFT system represents the entirety of the international payment and settlement system, and even the concept of settlement and settlement itself will be confused. Therefore, many discussions inevitably appear inaccurate. To this end, this article will start with some basic issues, and gradually analyze the path selection of the central bank’s digital currency in cross-border payments, and the historical mission of DC/EP in promoting the internationalization of the RMB.

What is payment, clearing and settlement?

To understand the international payment and settlement system, one must understand the three important concepts of payment, settlement and settlement. These three concepts are often confused, or they know that there are differences but are “difficult to distinguish the meaning.” This has also caused many people to always “see the flowers in the fog and understand but not understand” when discussing the international settlement system. For this reason, we clarify the concepts here to better understand the role of CNAPS, CIPS and SWIFT in the international payment and settlement system.

The first is payment. Payment refers to the transfer of acceptable currency claims from the payer to the payee. This concept is the easiest to understand, because it is the closest to each of us. For example, if I transfer 100 RMB to others with an Alipay/bank debit card, it can be regarded as a payment. From the perspective of the payment process, according to the standards determined by the Committee on Payment and Market Infrastructure (CPMI), payment is mainly divided into three standardized processes: transaction, clearing, and settlement. among them:

• Transaction: generation, confirmation and sending of payment instructions;
• Liquidation: It includes the exchange of payment instructions between the payee and payer’s account opening institutions and the calculation of claims and debts to be settled. Among them, the exchange of payment instructions includes transaction matching, transaction clearing, data collection, etc.; the calculation of claims and debts can be divided into two calculation methods: real-time full amount and timed net amount;
• Settlement: Perform accounting processing based on the final clearing data, complete the fund transfer between accounts, including collecting bonds to be settled and performing integrity checks, clearing claims and debts between financial institutions, and recording and informing all parties.

These three links constitute the entire payment system. However, the above concept is still too abstract. Here we start with a simple payment case, step by step, and finally outline the basic outline of a modern cross-border payment clearing system.

In daily life, the easiest way to pay is for both parties to make cash payments face to face. However, for users who make cross-border payments, it is difficult to use cash payments. Therefore, in the modern financial system, we all receive and pay funds through financial accounts. The figure below is a simple diagram of non-cash payment. The basic process is as follows:

(1) Transaction: The remitter uses a bank card to swipe the POS machine (send instructions) to make a small payment of 100 yuan.

(2) Clearing: After the bank receives the instruction and checks it,

• If the related account is in the same bank, then the bank will be cleared;
• If the receiving and paying accounts belong to different banks, the back office of the bank needs to send payment instructions to the UnionPay clearing system, which will complete the inter-bank clearing, and then submit the clearing results to the central bank’s large-value payment system for settlement;

(3) Settlement:

• If it is an internal bank transfer, only the bank debits the payer’s account and credits the payee’s account;
• If it is an inter-bank transfer, the central bank first debits the payer’s account opening bank and credits the payee’s account bank respectively; then each account bank debits the payer’s account and credits the payee’s account

How to send payment instructions

First, let’s take a look at how to send payment instructions. What needs to be emphasized here is that payment instructions not only appear in the transaction link, but also in the clearing link (because the clearing process includes the exchange of payment instructions). In modern society, it is very simple to send payment instructions. We fill in the signature transfer receipt at the bank counter, swipe the POS machine with a bank card, and send the payment instruction from entering the payment amount to pressing the confirm button on Alipay. Sending trading instructions is so simple that we take it for granted and ignore the importance of sending trading instructions. As we can see from the above, transaction instructions can be issued in paper form, magnetic media or electronic form.

Similarly, in international remittances, we divide the international remittance business into three forms according to different transaction instruction tools:

• Telegraphic transfer (T/T): Instruct the remittance in the form of a telegram, telex or SWIFT
• Mail Transfer (M/T): Instruct the remittance in the form of an airmail remittance letter
• Draft (D/D): A draft issued by a bank will be taken out of the country by the remitter or handed over to the beneficiary, and the beneficiary can withdraw the money based on this bill

In summary, for the above three remittance methods, transaction instructions are sent through three methods: electronic communication, air mail and personal mail. Of course, we can also see that the SWIFT system that the audience pays attention to is essentially a telegraph communication system, which is only responsible for the exchange of payment instructions and does not cover the entire process of liquidation.

How to liquidate?

As we mentioned earlier, the clearing link mainly includes two parts: the exchange of payment instructions between the payee and the account opening institution and the calculation of the credit and debt to be settled. For example, in the above-mentioned wire transfer business, the remitting bank informs the remitting bank via telegram/SWIFT/email, and even in the early days, the inter-bank will be conducted by telephone, which is a payment instruction exchange in the clearing link.

So how to calculate the creditor’s rights and debts? There are two main forms: real-time full and timed net calculation. The so-called full calculation means that both parties to the transaction calculate all the transactions concluded to obtain the data to be cleared; and the net calculation refers to the calculation of the net amount at the end of a predetermined time period to obtain the data to be cleared .

Give a simple example:

1. At time T0, A’s account has 1,000 yuan, B’s account has 500 yuan, and C’s account has 800 yuan.
2. At T1, A pays 200 yuan to B;
3. At T2, B pays 500 yuan to C;
4. At T3, C pays 300 yuan to A

So how to calculate in real-time full and timed netting?

For real-time full calculation, we need to calculate each payment separately to obtain the clearing data, and then enter the settlement link, real-time settlement, and complete the fund transfer. This whole process is called real-time full settlement (RTGS). For example, at time T1, after A pays 200 yuan to B, we get the result that “A’s account balance decreases by 200 yuan, B’s account balance increases by 200 yuan, and the balances of both accounts are 800 yuan and 700 yuan respectively after payment”. Then enter the settlement link, debit account A 200 yuan, credit account B 200 yuan, complete the fund transfer, at T1, A inquires about his own account, you will find that there is a reduction of 200 yuan, leaving only 800 yuan; the remaining T2 , T3 time is also calculated and settled accordingly.

For timing net calculation, we get the amount of credits and debts to be settled in each account according to the net of the payment amount at a certain fixed time, and then transfer funds to complete the settlement. This whole process is called timing net The amount of settlement (DNS). For example, in the above example, if the timing net calculation method is adopted, then the system will not perform liquidation in the time before T4 time. At T4 time, the system will net each account, for example, for account A , First paid 200 yuan to B, and then accepted C’s 300 yuan, then -200+300 = 100 yuan, that is, the account A has increased by 100 yuan, and the account balance is 1100 yuan; the B and C accounts also complete the funds in the same way Of transfers.

How is settlement done?

When the clearing link has completed the netting calculation and the position to be settled is obtained, the settlement link is entered. This link includes collecting the claims to be settled and performing completeness checks, ensuring the availability of settlement funds, clearing the claims and debts between financial institutions, and recording and notifying the parties involved. The most important step is to settle the claims and debts, namely: Debit the payer’s account and credit the payee’s account. —This is not only the completion of the fund transfer, but also the update of the account status. Of course, for internal transfers in the same bank, the bank only needs to debit the payer’s account and credit the beneficiary’s account; for inter-bank transfers, the central bank first debits the payer’s bank and credits the beneficiary’s account to open the account. Bank’s account; each bank subsequently debits the payer’s bank and credits the payee’s bank.

Now, we have finally grasped the entire process of payment business and clarified the connection and difference between payment, clearing and settlement. This is essential for us to understand the role of CNAPS, CIPS and SWIFT systems in the international clearing system. Below we will enter the focus of this article: Is SWIFT all of the International Settlement System? How does the international settlement system work?

How does the international settlement system work?

In order for everyone to have a general outline of the international settlement system, here is a basic framework. The current international clearing system consists of two major parts: one is the cross-border clearing system of national currencies led by various countries, such as the US CHIPS (US dollar cross-border clearing system) and my country’s CIPS (renminbi cross-border payment system); Shared international telecommunications systems, such as SWIFT. In actual operation, SWIFT is connected to the cross-border clearing system of various countries to realize cross-border payments. Taking the United States as an example, cross-border payment settlement in US dollars requires SWIFT to be connected with CHIPS, and another US payment system Fedwire (US Dollar Large Payment System). If the bank is a direct participant in the cross-border clearing system, it will be cleared directly through the CHIPS system; if the bank is an indirect participant of CHIPS, it will first send instructions to the direct participants through SWIFT, and then the direct participants will complete the clearing through CHIPS. Fedwire completes the settlement.

Similarly, in cross-border RMB payments, SWIFT completes the exchange of payment instructions (indirect participants), CIPS clears, and finally completes the settlement through the HVPS under the China Modern Payment System (CNAPS). Now we A brief introduction to the various systems in the RMB cross-border payment system:

CNAPS

The China National Advanced Payment System (CNAPS) is constructed, operated and managed by the People’s Bank of China Clearing Center. It mainly provides final fund settlement for payment services between financial institutions and between financial institutions and the People’s Bank of China. Including large real-time payment system (HVPS), small batch payment system (BEPS), online payment inter-bank clearing system (IBPS), etc. In China’s entire payment and settlement system, CNAPS is the core and underlying system for the final settlement of funds for payment activities across the country.

Before the CIPS system was officially completed and launched in 2015, CNAPS mainly completed the clearing and settlement of RMB cross-border payments. At that time, there were two main modes of RMB cross-border payment: the agency bank mode and the clearing bank mode. The former is for overseas participating banks to open RMB accounts with domestic correspondent banks to complete cross-border payments; the latter is for overseas participating banks to open RMB accounts with Hong Kong and Macau RMB clearing banks, and to complete cross-border payments through Hong Kong and Macau RMB clearing banks. In these two modes, funds are cleared and settled through CNAPS.

However, only relying on CNAPS to complete RMB cross-border payment and settlement also has the following problems:

The first is the system runtime. With the rapid development of cross-border RMB settlement business, the demand for cross-border RMB settlement may come from all countries and regions in the world, but the large-value payment system (HVPS) only runs 8 hours a day according to domestic time, resulting in a large time difference between Europe and the United States. Banks cannot handle cross-border RMB clearing business in a timely manner.

The second is the inability to fully match the SWIFT system interface, resulting in low clearing efficiency. Under the RMB correspondent bank model and the RMB offshore clearing bank model, between the domestic correspondent bank and the overseas bank and between the overseas clearing bank and its participating banks, cross-border clearing information must be transmitted through the SWIFT message channel, thereby realizing large-value payments Systematic RMB cross-border final settlement. However, because SWIFT does not support Chinese messages and many fields are incompatible with large-value payment system messages, to a large extent, the clearing efficiency of different clearing modes depends on whether each bank system can automatically combine SWIFT messages with CNAPS messages If the conversion is not possible, manual operations are required, resulting in low efficiency of liquidation.

After the 2008 financial crisis, as the renminbi became more and more recognized in international trade and investment, the scale of global flow gradually increased and the frequency of use gradually increased, and the HVPS system alone could no longer meet the demand. Therefore, in order to improve the efficiency and security of cross-border payment and settlement, starting from 2010, my country has independently developed a set of systems dedicated to RMB cross-border payment and settlement—CIPS.

CIPS

The RMB cross-border payment system (Cross-border Interbank Payment System, CIPS for short) is a payment system specially used for RMB cross-border payment and clearing business. The system began construction on April 12, 2012 and officially launched on October 8, 2015. On March 26, 2018, the CIPS system (Phase II) was successfully put into trial operation. The CIPS system mainly has the following characteristics:

1. The operating time is 5×24 hours + 4 hours, realizing full coverage of the financial markets in all time zones around the world;
2. Real-time full settlement and regular net settlement are adopted to meet the differentiated needs of participants;
3. Adopting the international general ISO20022 message standard, fully considering the conversion requirements of SWIFT messages, facilitating the direct processing of cross-border business and supporting future business development needs, and improving the efficiency of liquidation.

Therefore, CIPS largely solves the shortcomings of the HVPS, which can improve the efficiency of RMB cross-border payment and settlement and promote the internationalization of the RMB.

In order to smoothly transition from the previous “clearing bank model” and “correspondent bank model”, CIPS participants are divided into two categories: direct participants and indirect participants. But unlike the correspondent bank model, CIPS assigns a system bank number that can be used as a unique identifier for each participant.

In actual operation, indirect participants cannot directly handle cross-border payment services through CIPS. They must first use SWIFT messages to notify CIPS direct participants, and direct participants can be the institution, the indirect participants that establish business relationships, and their agents Institutions initiate messages to CIPS to handle related businesses. Take CIPS’ customer remittance business as an example, the main process is as follows:

1. Within the prescribed time of the business preparation phase of the CIPS system, direct participants inject the minimum amount of funds into the CIPS account through HVPS to complete the CIPS account capital injection;
2. Direct participants initiate a “Customer Remittance Message” to CIPS;
3. After CIPS receives the message, it checks the message, and if it passes the check, it checks the service queue;
4. When there is no higher or the same priority queuing service, CIPS checks whether the available balance of the CIPS account of the initiating direct participant is greater than or equal to the service amount. If the available balance is sufficient, the CIPS account of the initiating direct participant will be debited and the CIPS account of the receiving direct participant will be credited (real-time full settlement method).
5. CIPS returns a “payment processing confirmation message” to the initiating direct participant to notify the successful settlement, and at the same time forwards the remittance message to the receiving direct participant
6. After the daytime business is closed, entering the end-of-field processing stage, the CIPS system transfers the direct participant’s CIPS account funds back to their HVPS clearing account, and then HVPS and CIPS are reconciled. After the verification is successful, the settlement between HVPS and CIPS is completed.

From the above process, we can see that the CIPS system is mainly responsible for the clearing of cross-border RMB. At the end of the session, the CIPS system transfers the direct participant’s CIPS account funds back to their HVPS clearing account. That is, in the HVPS system, the HVPS clearing account of the direct participant is debited and credited to complete the final settlement.

SWIFT

SWIFT (society for worldwide interbank financial telecommunications, SWIFT) is an international interbank non-profit cooperative organization that operates a world-class financial text network, mainly providing information transmission services for banks and financial institutions, and banks receive information After that, it will be transferred to its own clearing system or payment system according to the instructions to complete the transfer of funds. In order to have a deeper understanding of SWIFT’s functions and status in the international settlement system, we may wish to explain by answering the following common questions.

Is SWIFT a cross-border clearing system?

From the above content, we can know that only direct participants who directly access CNAPS and CIPS can use the system’s own messages to handle services. In addition, whether it is an overseas participating bank under the correspondent bank/clearing bank model, or an indirect participant under the CIPS system, it can only entrust relevant banks to handle business through SWIFT messages. From the payment process, SWIFT can participate in the generation, confirmation, sending of payment instructions in the transaction link, and the exchange of payment instructions in the clearing link. The calculation of credit and debt and the transfer of funds at the time of settlement do not participate in SWIFT. The SWIFT system mainly carries out the transmission of information, not the flow of funds. Strictly speaking, SWIFT is not a cross-border clearing or payment system, but a financial messaging service system, but SWIFT is part of the international clearing system.

Is SWIFT controlled by a specific country?

In March 2012, SWIFT announced that it would stop providing services to Iranian banks sanctioned by Europe and the United States, making the public aware of the importance of SWIFT, and at the same time increasing concerns about excessive reliance on SWIFT. However, some self-media views SWIFT as a department under the control of the US government, which is completely wrong. In fact, SWIFT is an unofficial professional organization. Its board of directors is composed of 25 independent directors for a term of three years. For example, in 2016, the board of directors was chaired by a director of Citibank of the United States, and a director of Swiss Union Bank was the vice chairman, and Bank of China from China and HSBC in Hong Kong also served as board members.

The Iran incident in 2012 did reflect the fact that SWIFT, as an unofficial professional organization, has an official position under special circumstances. However, behind SWIFT’s official policy inclination is actually a contest of political and economic power among countries. For small countries such as Iran and Venezuela, SWFIT will definitely be subject to official pressure from certain countries to impose sanctions; for a large country such as China, it has an important position in the global economy and at the same time accounts for SWIFT’s business income. Larger. Therefore, SWIFT will inevitably give careful consideration when considering sanctions on relevant Chinese institutions. In June of this year, when there were rumors that Hong Kong would be kicked out of SWIFT in the market, we also saw that SWIFT did not do so in the end.

What is the relationship between SWIFT and CIPS?

SWIFT and CIPS should be a complementary relationship, not a competitive relationship. SWIFT is a global financial messaging service provider, while CIPS is a cross-border clearing system. As for the CIPS system, its direct participants are currently all domestic institutions, and foreign institutions have not yet accessed CIPS as direct participants. Therefore, foreign institutions must use SWIFT to entrust domestic institutions as direct participants to conduct business.

On the one hand, the SWIFT network has spread to more than 9,000 financial institutions in more than 200 countries or regions around the world, and has become the main channel for financial institutions’ international business communications; through SWIFT’s network advantages, the cooperation between CIPS and SWIFT is conducive to various participants in handling cross-border transactions. Border RMB business to promote the development of RMB internationalization. On the other hand, CIPS’s access to SWIFT has strengthened SWIFT’s network effect advantages and further consolidated SWIFT’s status as an international financial infrastructure. Therefore, the two are more of a complementary and synergistic relationship, rather than a competitive substitution relationship.

Is SWIFT fungible?

From the perspective of communication methods, SWIFT can certainly be substituted. For example, if a user opens an account in a banking institution that is a direct participant of CIPS, and does not involve the accounts of indirect participants and their agents, then the SWIFT information transmission channel is not involved. Furthermore, SWIFT is essentially a communication tool. As mentioned earlier, in addition to SWIFT, financial institutions can also transmit information through telegram, telex or even mail.

However, SWIFT has become the main channel for information transmission among international financial institutions. Regardless of whether the efficiency of telegram, telex, and mail is as high as SWIFT, even if we re-develope a telegram system similar to SWIFT, SWIFT’s telegram format has become an international standard. Starting a fresh start means establishing a new message standard. The country’s willingness to use the system is an important issue. Therefore, SWIFT is currently replaceable, but the cost of replacement is too high. The above-mentioned solutions can only be emergency, but cannot be sustained. This will not only reduce the efficiency of cross-border payment and settlement, hinder the internationalization of RMB, but also The country is isolated from the international settlement system.

Current RMB cross-border payment system

After several years of construction, CIPS was officially launched in 2015. So far, CIPS, CNAPS and SWIFT have jointly constituted China’s RMB cross-border clearing system, which is similar to the US “CHIPS+Fedwire+SWIFT” system. On the other hand, in order to achieve the transition from the original cross-border clearing model, after CIPS is launched, the correspondent bank model still exists, and participants can choose to use the CIPS channel or continue to use the correspondent bank model channel; the clearing bank model has slightly changed —Overseas clearing banks no longer connect with CNAPS and instead access the CIPS system. In fact, overseas clearing has become a direct participant of CIPS, which is not much different from the CIPS channel model. Therefore, there are currently three main renminbi cross-border payment channels (the latter part is omitted), as follows:

• Path ①: User 1—CIPS indirect participant—SWIFT—CIPS direct participant—CIPS—CNAPS
• Path ②: User 2—CIPS direct participant—CIPS—CNAPS
• Channel ③: User 3— Overseas Participating Bank—SWIFT—Correspondent Bank—CNAPS (formerly Correspondent Bank Model)

Analysis of the impact of central bank digital currency on the international settlement system

In October 2020, the central bank digital currency DC/EP developed by the People’s Bank of China was tested in large-scale scenarios in Shenzhen through airdrop red envelopes. With the smooth progress of domestic pilot work, China is expected to become one of the few countries in the world that issue central bank digital currencies in the short term. At the same time, in the context of the increasingly complex international political and economic situation, people’s doubts about SWIFT have gradually increased, and the advantages of using central bank digital currency for cross-border transactions are indeed very obvious. Therefore, many people hope to use central bank digital currency to get rid of SWIFT dependency. To this end, we may wish to discuss two important issues.

Can the central bank digital currency replace SWIFT?

SWIFT is positioned as a provider of global financial telecommunications services, and the central bank’s digital currency is positioned as an electronic cash payment system. Therefore, using the central bank’s digital currency to replace SWIFT is similar to not using the phone when contacting the two parties, but to open an online game and use the game voice to make calls. As mentioned above, SWIFT has become the main channel of information transmission between international financial institutions and is the infrastructure of international finance. Unless major changes occur or financial communication technology changes, other similar systems can hardly replace SWIFT. Therefore, it is impossible to replace SWIFT with central bank digital currency.

In fact, according to the paper published by the Digital Currency Research Institute of the People’s Bank of China, the DC/EP system messages adopt the ISO 20022 standard. Just as we mentioned above that CIPS adopts the ISO20022 message standard, DC/EP adopts this standard to facilitate the connection with international financial infrastructure, including SWIFT. After DC/EP’s messages are in line with international standards, it can improve the direct connection with other international financial systems, reduce transaction costs, improve transaction efficiency, and facilitate the use of DC/EP internationally.

Of course, although the central bank’s digital currency cannot replace SWIFT, it is entirely possible to alleviate a country’s dependence on SWIFT. This involves another question-how does the central bank’s digital currency affect the current cross-border payment pattern?

What is the transformation of the central bank’s digital currency to the international settlement system?

In the current international clearing system, we can find that cross-border payments rely heavily on accounts: users need to open an account with a bank, direct participants of CIPS need to open an account with CIPS, and overseas banks need to open accounts with domestic correspondent banks and overseas clearing banks. and many more. However, the central bank digital currency has the characteristics of loose coupling of bank accounts. That is, in the actual use of the central bank’s digital currency, the digital currency does not need to be bound to the relevant bank account, and transaction transfer does not depend on the bank account. Therefore, the emergence of central bank digital currency is likely to change the current cross-border payment pattern based on the relationship between correspondent banks and clearing banks distributed around the world and in various time zones.

Although there are many controversies about how to use the central bank’s digital currency, from a practical point of view, as capital has not yet been opened in China, in order to meet regulatory requirements and maximize the advantages of the central bank’s digital currency, the most likely use NRA account model.

NRA accounts are domestic foreign exchange accounts of overseas institutions. Under the NRA account model, overseas users do not need to open an account in an overseas bank, but directly open an NRA account in a domestic bank, and use the NRA account for liquidation.

The difference is that in the context of central bank digital currency, there is no concept of accounts, but only the concept of digital wallets. Taking DC/EP as an example, because DC/EP adopts a “two-tier operating system”, overseas companies can register and install central bank digital currency wallets developed by domestic banks without the participation of overseas bank accounts. When cross-border payments are required, domestic banks provide operational services and directly transfer funds to the counterparty’s wallet, while the central bank is responsible for daily supervision. At the same time, in order to prevent the outflow of funds through the system, quota management can be set. Of course, under these conditions, if domestic and foreign companies do not use SWIFT for cross-border payments such as fund collection and centralized allocation, and bill collection, they will get rid of their dependence on SWIFT.