By Molly Cyrus 
Introduction
It is an inevitable consequence that the modern monetary world is more dependent on payment systems that could facilitate the fast and safe movement of money from person to person business entity to business entity and institutions. Among the different modern payment systems one of the most vital systems used today to transfer high value transactions is the real time gross settlement which has become an important support base for the banking industry and global finance.
The RTGS system enables near instant reliable and irrevocable inter operations between banks and financial institutions which facilitates reducing settlement risks and ensuring higher general financial stability. This article will discuss the history of how it operates its main features benefits and potential risks that are associated with the RTGS payment system. Knowledge of the adoption of this system across the globe will also be gained.
The technological drivers that have shaped its evolution and finally its prospects in the future within the financial arena.
Mechanics of RTGS Payment System
The RTGS payment system is a mechanism under which money or securities transfer takes place in real time involving one bank to another transaction on a gross basis. This term real time essentially refers to the fact that it does not involve any waiting period and therefore transactions are typically settled at the instant at which they are initiated. Gross settlement refers to the fact that this transaction is individually processed without being consolidated with any other transactions and hence there will be no accumulation of funds.
This is because it is applied to high value transactions. In most cases the system is exploited by all the countries central banks in favour of interbank transfers to ensure liquidity in case the financial institutions have to settle their funds in real time. The system greatly reduces the risk of default because it settles transactions at the time they occur so there is no possibility of experiencing a backlog or a delay in settlement.
History and Development of RTGS
RTGS was born out of the need for better efficient and risk free settlement of large value transactions. Payments prior to RTGS could be settled via net settlement systems whereby a number of transactions between banks made during any given day would be accumulated and then settled at the close of the business day. This approach increased the risk of systemic failures because a delay or a default by one side had the potential to block the whole financial system.
The Central Bank of the United Kingdom introduced the first RTGS system in 1984. Since then multiple central banks worldwide have adopted it as part of their financial infrastructure. The spread of RTGS acquired considerable speed during the 1990s due to globalization increased trade and an expansion of financial markets thereby a faster and more reliable payment system was required. Today RTGS is deemed an important tool for the smooth functioning of modern financial markets.
How Does RTGS Payment System Work?
Central banks or monetary authorities generally operate RTGS systems. The working of RTGS involves several key steps. The first is the initiation of the transaction namely when a bank initiates a high value transaction through a payment instruction to the RTGS system. This is typically done through an electronic payment system that is connected to the central bank.
Verification and Authorization
The system checks whether the initiating bank has required liquidity or sufficient funds to complete the transaction. This means that the transaction will be authorised if the funds are available and then it will move on to the next process.
Real Time Settlement
After authorization the transaction is settled in real time. The amount gets deducted immediately from the account of the sending banks and the same amount gets credited to the account of the receiving banks.
RTGS settlements are settled in real time. This implies that a transaction once settled is irreversible thus both parties have a surety.
Intermediary Notification
Not only the originating but also the receiving bank is notified of the completion of the transaction. This usually takes a couple of minutes which makes RTGS one of the fastest payment methods available in the world.
Liquidity Management
Central banks usually offer liquidity management tools to the participating institutions so that they are appropriately financed for their potential RTGS obligations. They can be intraday credits or collateralized loans. Some central banks provide intraday credit or other forms of credit through which other institutions can meet their net settlement positions. Central banks offer liquidity management tools to participating institutions so that they are appropriately financed for their potential RTGS obligations.
They can be intraday credits or collateralized loans. It provides a few unique features that make the RTGS system different from other payment systems.
Immediate Settlement
The transactions are settled almost immediately in real time.
Gross Settlement
Each transaction is settled on a one to one basis which reduces the risk associated with net settlement systems where multiple transactions are aggregated and settled later.
Irrevocability
A transaction settled in the RTGS system cannot be reversed once such settlement has occurred. This gives certainty and security both to the sender and the receiver.
High Value Transfers
Normally RTGS is used for large value interbank transfers thus placing them at the hub of the financial infrastructure.
Liquidity Management
In most central banks facilities are often provided to manage liquidity for smooth operations without interrupting the banks everyday processes.
Central Bank Operation
Most RTGS systems are operated and administered by the central banks to ascertain strict security and reliability standards.
Benefits of the RTGS Payment System
RTGS payment systems provide several benefits both to the financial institutions and the economy at large.
Elimination of Settlement Risk
RTGS is free of settlement risk since it settles transactions in real time. That means that the possibility of failure for instance because there is no sufficient balance or other reasons is eliminated from the transaction. Where large values are involved a delay or failure can cause echoes across the financial system.
Improved Liquidity Management
With immediate settlement the transactions promote better liquidity management for banks. Other instruments provided by central banks with intraday credit or collateralized lending make sure that banks have enough liquidity to absorb their RTGS transactions.
Improved Confidence in the Financial System
RTGS provides a secure and reliable mechanism for transferring large sums of money thereby building greater trust and confidence in the financial system. The irreversibility of RTGS ensures that once a payment is made it cannot be reversed so both parties have certainty.
International Trade and Investment Support
An integrated world economy also needs companies and financial institutions to transfer enormous sums of money across borders quickly and safely. RTGS achieves this by availing a real time secure payment system that can readily handle cross border transactions.
Financial Stability
RTGS helps to contribute to overall financial stability through the minimization of systemic failure risks. RTGS achieves this through immediate and gross settlement of transactions thereby minimising the possibility of a settlement default by one party resulting in the shutting down of the entire financial system.
Risks Involved with RTGS Payment System
Although the RTGS payment system has many benefits it also poses some risks and challenges associated with it such as
Liquidity Risk
Since RTGS requires transactions to be settled individually and in real time banks must always be liquid enough to meet their payment obligations. If a bank is not so fortunate it would have liquidity problems that would lead to consequent delays or defaults on other transactions.
Operational Risk
RTGS systems are highly dependent on technology and electronic communication. Any technical failure cyberattack or system collapse might be considered capable of disturbing the proper working of the RTGS system as a result of delays or failed transactions.
Heavy Costs
Infrastructure and human costs pertaining to the installation development and maintenance of the RTGS system are quite huge. Similarly the banks high cost of maintaining adequate liquidity to serve their RTGS obligations is also envisaged. Central banks operate most RTGS systems Therefore the policies and regulations governing them come from the central banks. That means any monetary policy or regulatory changes would likely affect the RTGS system.
Global Adoption of RTGS
RTGS has been widely adopted throughout the world. The Central Banks of more than a hundred countries have implemented their own RTGS systems. The most important RTGS systems in the world are
Fedwire (USA)
The Federal Reserve operates a national system called Fedwire for large value US dollar transactions. Fedwire processes millions of transactions that aggregate billions of dollars every day.
Eurozone
The European Central Bank operates this system which is used for large value transactions of the euro.
In India it is the reserve bank running the RTGS for high value transactions in rupees. The system has been highly adopted and plays a key role in the country’s financial infrastructure.
Technological Advancements and Future of RTGS
The RTGS system has witnessed great changes since its inception with the advancement of technology. These improvements enhance the speed security and reliability of RTGS systems thus accommodating a large volume of transactions and complex payment scenarios.
Integration with Digital Currencies
One of the most exciting developments about RTGS is its potential to merge with the world of digital currencies mainly the central bank digital currencies (CBDCs). Following some central banks various uses of CBDCs in RTGS systems has huge potential for changing the processing of large value payments.
Blockchain and Distributed Ledger Technology
The use of blockchain technology allows enhanced security and efficiency levels of an RTGS. An RTGS could become highly resistant to cyberattacks and operational failures while saving costs using DLT.
Increased Automation
Automation and AI would also greatly impact the future of RTGS systems helping automate all liquidity management activities maximize process efficiency in transactions and minimise operational risks.
RTGS Payment System Relevance
The term RTGS payment system unmistakably conveys with it high value transactions which permit banks as well as other financial institutes to transfer funds immediately safely and irrevocably. Whereas the RTGS systems have existed for decades as an integral part of the financial structure new technological developments and changes in the banking industry tend to form its future.
Modern Applications of RTGS
Traditionally it was regarded as a solution for high value interbank transfers. Still with time the role of the RTGS system has expanded and is now used for many other different scenarios. These include
Corporate and Business Payments
Most large corporations rely on RTGS for safe and instantaneous transfers. For instance companies involved in mergers and acquisitions or substantial purchase settlements require the use of RTGS in order to effect immediate settlement without the risk of delay or default. Such transactions could be essential in making time sensitive business decisions such as funding new ventures or concluding international trade deals.
Government and Public Sector Transactions
Government agencies need RTGS for large payments such as tax revenues public sector salaries and debt repayments. Public funds are pretty sensitive and their handling needs to be transparent and fast therefore RTGS provides a suitable system to ensure that transactions are settled without any delay or risk of fraud.
Financial Market Infrastructure
RTGS plays a core role in the settlement of trades on the stock market bond markets and other available financial exchanges. For example whenever securities are purchased and then sold settlement has to be realtime in order not to interfere with the stabilising of the market. Consequently RTGS ensures money associated with large trades moves in the shortest time possible so as to limit the risk involved in disrupting the market.
Cross Border Payments
The increase in international trade in turn raises the demand for more efficient cross border payment systems. Real Time gross settlement RTGS systems enable either directly or through partnerships between the central banks of the respective countries instant settlement across borders. This method ensures that sums of money can be transferred between jurisdictions without any risk of delay or volatility in exchange rates to multinational companies and governments.
Technological Advancements Enhancing RTGS Systems
Advances in technology play a central role in the development of RTGS systems. All these innovations bring forward a very effective revolution into the future of high value payments in speed and efficiency security and scalability as well.
Digital Transformation of Payment Systems
Upgrades of RTGS systems are being invested in many countries including digital capabilities. The improvement in terms of interoperability means enhancing interoperability between RTGS and other payment systems including mobile payment platforms ecommerce solutions and faster payment networks. This integration of RTGS with other systems allows for the free flow of money between channels and serves to heighten the convenience of businesses and also of individuals.
Availability of RTGS
Traditionally RTGS systems have always operated only within certain banking hours limiting their availability. However a number of nations have either already implemented or are considering 24/7 RTGS systems. This would grant round the clock payments making it possible for businesses and individuals to find ways to transfer funds at almost any time which may become an indispensable necessity in a global economy that never sleeps.
Distributed Ledger Technology (DLT)
DLT largely known as blockchain technology may not just change the face of RTGS but can really change it in terms of decentralisation and resilience. Others look at blockchain to enhance the tracing and transparency as well as security of RTGS payments. It can change the speed of settling payments reduce operational risks and lower the cost.
Cloud Based RTGS Systems
This brings the RTGS systems into even more scalability and cost effective cloud based computing. The cloud solutions enable greater flexibility and volume of transactions to be processed for the RTGS systems while curtailing the costs of maintaining physical data centres.
Cross Border RTGS Road to Internationalisation
There has always been a spurt in the pace of globalisation but cross border payments have always moved at a breakneck speed. RTGS aims to bridge this gap as well. Despite its decades long history these RTGS systems have mainly been domestic operations. Still in recent times it has not been an unthinkable scenario to see cross border real time gross settlement.
Bilateral Agreements Between Central Banks
Several countries have signed bilateral agreements that allow crossborder RTGS. These arrangements enable direct linking of the RTGS systems of two or more countries which facilitate the real time settlement of intercountry transactions in different currencies. Such an arrangement will be extremely useful for countries that have significant trade ties as it reduces not only the overall delay but also the risks associated with the exchange.
International Systems for Cross Border Payments
International cooperation as by the Bank for International Settlements (BIS) continues to collaborate with central banks to standardise cross border RTGS payments worldwide. As a result it aims at developing a more united global payment system that allows for real time payments across different countries and currencies.
Outlook for the Future of RTGS
As is true with most successful systems some challenges need to be overcome to ensure the long term viability of RTGS systems.
High Implementation Costs
The setting up and running of RTGS systems require costly infrastructure especially for small central banks or financial organisations. The transition to a 24/7 system or DLT technology is expensive as many investments in technology and cybersecurity must be made.
Regulatory Issues
As RTGS systems become integrated into the rest of global payment systems regulatory challenges continue to appear more frequently especially considering cross border payments. Jurisdictions present a disparate set of regulatory frameworks and aligning them to create a seamless operating environment for RTGS can be quite complex.
Operational Risk Mitigation
In operational risk mitigation system failure or cyberattacks remain an important feature of RTGS systems even as a threat in the future. Central banks and financial institutions should remain committed to investing in resilient technology infrastructure and cybersecurity measures.
Future Integration with Digital Currencies
Many central banks are now contemplating the issuance of CBDCs and the introduction of RTGS will certainly be the next logical step in ensuring the effective use of this method. Integrated RTGS and CBDCs will thus paint a totally new picture as far as the real time settlement of digital currencies is concerned.
Conclusion
Real time gross settlement has become an important constituent of the global financial profile. Its suitability for implementing safe instantaneous and irrevocable transactions has made high value interbank transfers adopt it as the obvious alternative. The settlement risks liquidity management and overall financial stability have been promoted by the reduction that has resulted from the implementation of RTGS systems.
As with any other system however RTGS has its risks and challenges such as liquidity risks operational risks and high costs. In the future as technology evolves there are promises that RTGS will be integrated with many concepts such as digital currencies and blockchain technology.