TARGET's First Year
Jesper Berg and Thomas Bo Christensen, Payment Systems Department
INTRODUCTION
As an element of Economic and Monetary Union the euro payment system TARGET [1] has also completed its first year. TARGET's first year was successful.
The introduction of the euro gave rise to a need for fast and safe transfer of large amounts in euro within the euro area, to support the single money market. The two main objectives of TARGET are to facilitate monetary-policy transactions in the euro area, and more generally to ensure faster, safer and cheaper cross-border payments in euro.
User surveys show that users are generally satisfied with the system, but that it could be improved in certain respects. This will be taken into account in the ongoing development of TARGET – and its Danish interface, DEBES.
Throughout 1999 the number of payments in TARGET has been large and increasing. This especially applies to payments between financial institutions (inter-bank payments), while the number of customer payments in TARGET has been limited. This reflects TARGET's primary function as a large-value payment system. The number of payments in non-euro area member states has been relatively low, since use of the euro in these countries is limited.
This article describes the volume of payments in TARGET in 1999 in DEBES and in TARGET generally. The various international user surveys conducted by e.g. the Bank of England and the European Central Bank, ECB, are then described, together with a Danish user survey carried out by the Nationalbank in December 1999. The article concludes with an outline of the system's further development in the form of additional features in DEBES and the new system, KRONOS.
USE OF TARGET
General use
TARGET is designed to process large-value payments, especially payments between financial institutions, and indeed
large amounts were processed in TARGET in 1999. This applies to the total number of transactions, to the average
transaction, to domestic or cross-border payments, or on comparing the traffic in TARGET with competing systems.
Table 1 shows the total number of payments and their value, as well as the average number of payments and their value on a daily basis. As shown in the Table, TARGET processes more than 160,000 payments per day for a total value of almost euro 1,000 billion, corresponding to six times Denmark's annual GDP.
Table 1 TRANSACTIONS IN TARGET IN 1999
| Year | Daily | |
| Number of payments, 1,000 | 42,258 | 163 |
| Value of payments, euro billion | 239,472 | 925 |
| Average amount per payment, euro | 5,666,903 |
The average transaction is for more than euro 5 million. TARGET thus does not process ordinary payments between private individuals. The number of payments in TARGET rose during the year, cf. Chart 1.
Chart 1 DAILY PAYMENTS IN TARGET IN 1999
The very large number of payments must also be viewed against the background that no less than 5,000 banks within the EU are directly linked up to TARGET. In addition, around 30,000 banks in the EU are indirectly linked to TARGET, i.e. via a direct participant.
Domestic payments have accounted for the largest proportion of payments in TARGET. However, the figure of more than 30,000 cross-border payments per day in recent months is by no means insignificant. The value of a cross-border payment is typically three times the value of a domestic payment.
Competition with other payment systems and contribution to turnover
from connected systems
Up to the introduction of TARGET there was much discussion of the competition between TARGET and a number of
large-value netting systems. In TARGET payments are processed in real time, on an individual basis, while in netting
systems they are typically collected during the day and settled collectively. In the present environment where safety is a
prime concern, TARGET has its advantages, although it is normally more expensive to use than the netting systems, cf.
Box 1.
Box 1 TYPES OF PAYMENT SYSTEMS
Payment systems for transfer of funds between banks can be divided into two main categories: real-time gross settlement systems and net settlement systems.
In a real-time gross settlement system (RTGS) the banks send their payment orders to e.g. the Nationalbank on a continuous basis. Each payment is settled immediately and finally via the banks' accounts with the Nationalbank.
In a net settlement system the banks on an ongoing basis send their payment orders to a clearing centre (e.g. PBS or VP). One or several times a day the latter calculates the net position of each bank. The banks then settle their accounts, e.g. via accounts with the Nationalbank.
The two types of system have both advantages and drawbacks. In a net settlement system the payments are not final until clearing and settlement have taken place. On the other hand, the liquidity requirement, and thereby the costs, are higher in a gross settlement system. A bank which in the course of one day is to send and receive three payments each of kr. 50 million, will have no liquidity requirement in a netting system, whereas in a gross settlement system it might require liquidity of up to kr. 150 million if the bank cannot itself determine the transmission time.
In Denmark, as of 4 January 1999 there are two real-time gross settlement systems: DEBES in euro and the DN Inquiry and Transfer System in kroner. The retail clearing and the securities clearing systems1 are examples of net settlement systems.
In 1999 TARGET performed well in competition with the netting systems, cf. Chart 2. The largest netting systems are the private pan-European EURO 1, the Bundesbank's EAF and PNS of France. While TARGET is the most frequently used system in terms of the total number of payments, EURO 1 may be the preferred system for cross-border payments.
Chart 2 DAILY PAYMENTS IN TARGET AND COMPETING NETTING SYSTEMS IN 1999
Another interesting feature to consider in addition to market shares is the average payments in the various systems, cf. Chart 3. Payments in TARGET are somewhat larger than in the other systems. In safety terms TARGET is the most appropriate choice for large-value payments.
Chart 3 AVERAGE VALUE PER TRANSACTION IN TARGET AND NETTING SYSTEMS IN 1999
Finally, one can examine the distribution of cross-border payments in TARGET on the various national payment systems, cf. Chart 4. Not surprisingly, the large euro area member states account for the largest share, but the UK also has a large share, reflecting the status of London as a financial centre.
Chart 4 DAILY CROSS-BORDER PAYMENTS FROM NATIONAL LINKS TO TARGET IN 1999
Use of TARGET in Denmark
The number of payments in DEBES generally increased moderately throughout 1999. After a slow start in January
DEBES quickly reached the level which was maintained for the rest of the year, cf. Chart 5. More than 200
cross-border transactions per day were thus submitted. The value of the submitted cross-border transactions amounted
to around euro 5 billion per day.
Chart 5 DAILY PAYMENTS IN DEBES IN 1999
The number of domestic payments was limited to around 25 per day for a value of just over euro 50 million per day. Domestic transactions thus account for around 10 per cent of the total number of transactions, and around 1 per cent in value terms. The volume of payments reflects Denmark's status as a non-euro area member state. In the euro area the domestic payments of member states thus constitute around 75 per cent in terms of number of payments, and around 60 per cent in terms of value.
Some Danish banks obtain liquidity via their branches in the euro area member states. This saves the cost of financing intra-day liquidity at a non-euro area central bank. These liquidity payments account for just over 30 per cent of the total value of the cross-border payments, and approximately 2 per cent of the number of payments.
TARGET also distinguishes between inter-bank payments and customer payments. Inter-bank payments are transactions between financial institutions, while customer payments involve at least one non-financial institution. TARGET is designed primarily to handle inter-bank payments. This is well reflected in the pattern of payments for the Danish participants since the value of inter-bank payments constitutes just over 99 per cent of the total payments.
USER SURVEYS
The ECB's user survey
In November the ECB published a user survey concerning cross-border payments in TARGET [2]. Three conclusions
from the survey can be emphasised:
- TARGET is recognised as the de facto standard system for large-value cross-border payments.
- The users prefer TARGET because it is an attractive system, not because they feel obliged to use it.
- The relatively high price of using TARGET is not contested as long as the service level remains high.
However, further improvements are required in four areas.
Firstly, the users expect the system's stability to improve after the expected introductory problems. The ECB agrees that the current operating time is still not good enough for all components. Improvement in this area has the highest priority.
Secondly, the users call for better information on problems in TARGET. The ECB has launched a number of initiatives in this respect.
Thirdly, the users have problems in managing their liquidity between the various euro payment systems and the users' correspondent bank accounts. The users themselves have taken the initiative to prepare guidelines for liquidity management. This work is supported by the ECB.
Fourthly, especially the large international banks call for harmonisation of the national systems which are connected to TARGET. This is currently being discussed within the ESCB.
TARGET, and more generally the euro, have led to considerable changes in the payments infrastructure, especially in the euro area, and this development is expected to continue [3]. This has put pressure on the correspondent bank system, cf. Box 2.
Box 2 PAYMENT VIA CORRESPONDENT BANKS
The correspondent bank system is the classical system for transaction of cross-border payments. Under this system the banks hold accounts with each other for settlement of payments in other countries. For example, a Danish bank may settle a payment in Germany by drawing on its account with its German correspondent bank. In TARGET, the central banks become correspondent banks for euro payments as they already are in domestic payment systems. The advantage of using central banks as correspondent banks is that the credit risk is eliminated. In addition, the central banks do not compete with the banks for customers, so that observance of customer confidentiality is ensured. The disadvantage is that the central banks are less commercially oriented than the banks.
For cross-border payments more formalised systems such as those described above are used increasingly, rather than correspondent banks. More and more cross-border payments are thus processed in the same way as domestic payments. However, it is estimated that the correspondent banks still process around 150,000 payments in euro per day.
Considerable further rationalisation of the use of correspondent banks is expected. Many banks wanted to see whether the new systems could function smoothly before changing their strategies. In addition, it takes time to adjust the related IT systems, and a certain institutional inertia also exists. The correspondent bank system will continue to play a key role for a long time to come due to agreements on the reciprocity of business transactions and the wish for recourse procedures and error remediation.
Another significant factor is that the correspondent banks are still the means of access to the retail payments structure in the various countries. Unlike the market for large-value payments, the retail payments area has not yet seen the establishment of a formalised system for crossborder payments at a corresponding volume to that of the equivalent domestic systems. As a consequence, the processing of cross-border retail payments is still relatively expensive, cf. Box 3.
Box 3 CROSS-BORDER RETAIL PAYMENTS
While a number of formalised payment systems for large-value cross-border payments in euro have been established, this is not yet the case for retail payments. Most cross-border retail payments in euro are still settled via the correspondent bank system. As a result, retail payments are associated with excessive costs for the ordinary consumer and the volume is equivalently lower. The ECB describes this problem in a recent report1.
It appears from the ECB survey that the cost of even small cross-border payments in euro is between euro 3.5 and 26. Previous surveys showed an average completion time for payments of almost 5 days, which still appears to be the case.
The ECB finds that the high prices are due to the lack of formalised systems for cross-border payments, and insufficient standardisation of retail payments between countries, e.g. as regards account numbers. Both aspects entail a considerable degree of manual processing of the payments, which is expensive.
In the ECB's opinion the task of establishing the necessary structures and common standards should in the first instance be undertaken by the banks. It is noted that a number of initiatives have been launched and that the European Commission has already promoted a certain level of harmonisation by a directive.
The ECB has established seven objectives which the banks are expected to fulfil via the development of the market for cross-border payments. The seven objectives are:
- Improved systems and services must be ready by 1 January 2002.
- Cross-border credit transfers2 must be given priority.
- The price for cross-border credit transfers must be significantly reduced.
- The completion times for domestic and cross-border payments must be almost equivalent.
- All charges in connection with a credit transfer must be paid by the transmitter, unless otherwise agreed.
- Free access (for the banks) to participate in cross-border retail payment systems.
- Existing standards must be implemented without delay.
The European Commission issued an equivalent statement at the beginning of February.
| 1 | The ECB, Improving cross-border retail payment services, the Eurosystem's view, September 1999. |
| 2 | Credit transfers are payments at the request of the payment sender. Debit transfers are payments at the request of the payment recipient (such as cheques and credit cards). |
This development is appropriate since RTGS systems must be considered safer than correspondent bank systems. For a central bank a payment system should primarily minimise risk and maximise efficiency. Risk management is considerably more advanced in the more formalised systems, thereby increasing financial stability. Furthermore, the formalised systems imply considerable economies of scale, resulting in lower payment costs.
Danish user survey
Towards the end of 1999 a user survey was conducted among direct participants in Denmark. The purpose was to
chart the Danish participants' use of euro payment systems and any barriers to the use of DEBES.
Virtually all respondents use both DEBES and correspondent banks in their settlement of euro payments. Correspondent banks are clearly used most frequently, although their share is declining, and a good 60 per cent of the survey participants have reduced or expect to reduce the number of correspondent banks.
The users state price as the most important factor determining the choice of payment system. The second factor is a direct channel to the counterparty, followed by time factors and counterparty requirements, cf. Table 2.
Table 2 IMPORTANT PARAMETERS FOR CHOICE OF EURO PAYMENT CHANNEL
| Per cent of responses1 | |
| Price | 46 |
| Possibility of reaching counterparty | 32 |
| Availability | 21 |
| Counterparty requirements | 18 |
| Time | 18 |
| Liquidity | 11 |
| Source : | User survey of the 35 direct participants in DEBES, December 1999. |
| 1 | The column adds up to more than 100 per cent as the participants could state more than one factor. The responses have not been weighted in terms of the participants' varying use of DEBES. |
The users state price in particular as the main reason for not choosing DEBES. However, maintaining correspondent relations also plays a key role. Factors such as reciprocity and the importance of a good network of contacts, e.g. to solve problems with a payment, are emphasised, cf. Table 3.
Table 3 PARAMETERS STATED AS REASONS FOR NOT CHOOSING DEBES
| Per cent of responses1 | ||||
| Price | 75 | |||
| DEBES fails to meet requirements | 43 | |||
| Of which - Insufficient functionality | 16 | |||
| - Insufficient own development of systems | 16 | |||
| - Insufficient user-friendliness | 3 | |||
| - Other | 9 | |||
| Correspondent bank relations | 64 | |||
| Of which - Agreements with counterparty | 9 | |||
| - Reciprocity | 35 | |||
| - Other (service and network of contacts) | 20 | |||
| Direct participant in an in-country is used | 29 | |||
| Of which - Lower funding costs | 9 | |||
| - Reliability | 3 | |||
| - Better systems | 6 | |||
| - Insufficient own development of systems | 9 | |||
| - Other | 3 | |||
| Source : | User survey of the 35 direct participants in DEBES, December 1999. |
| 1 | The column adds up to more than 100 per cent as the participants could state more than one factor. The responses have not been weighted in terms of the participants' varying use of DEBES. |
By price is meant the price of each payment, as well as the price for intra-day liquidity payable by the participants. In order to reduce the costs of obtaining liquidity just over 40 per cent of the respondents resort to their own branches in a country participating in EMU, or are connected to a direct TARGET participant in a country participating in EMU. The costs of intra-day liquidity are thereby avoided. Furthermore, the use of TARGET can be increased by improving the queue functions [4] in connection with settlement of payments.
THE FUTURE
Further development of TARGET and DEBES
Since TARGET commenced, in close dialogue with the system's users the Nationalbank has launched new initiatives
and made certain adjustments after a few minor initial difficulties. To ensure maximum system stability, new measures
are implemented in packages since experience shows that ongoing upgrading can result in unintentional errors.
In 1999 a package was implemented which primarily consists of remediation of the initial difficulties in the system. During the 1st quarter of 2000 another package is implemented, focusing on further stabilisation of operations, while also accommodating the requirements of the users. The existing queue function is improved, among other factors. In November 2000 a new message type for customer payments will be implemented, in compliance with e.g. the requirements of an EC directive (97/5/EC) on transparency of customer payments vis-à-vis customers.
During 2001 a new krone payment system will be launched – KRONOS – to partly replace the existing DN Inquiry and Transfer System. KRONOS will also take over the functionalities of DEBES and act as a payment system in both kroner and euro. This means that no new measures to improve the DEBES system are planned to be implemented after 2000.
A key objective of further development is to facilitate the inter-linking of the banks' systems and TARGET. Experience shows that manual interlinking procedures are cost-intensive and give rise to errors.
SUMMARY
All payments statistics and user surveys in 1999 clearly indicate that the financial sector in Europe has embraced TARGET. This applies in particular to the countries which have adopted the euro, where TARGET facilitates monetary-policy transactions and ensures faster, safer and cheaper cross-border payments in euro.
The use of TARGET has been more moderate in Denmark, which is hardly surprising. This is also reflected in the marginal use of TARGET for domestic payments compared to the total payments transmitted by Danish participants, while the domestic payments account for the largest share in the countries participating in EMU.
In the user survey of Danish TARGET participants a few central factors which could increase the use of TARGET were emphasised. The main factors are the price per transaction, the price for using intra-day liquidity, and the opportunity to place future payments in a queue.
The future development of DEBES, the Danish part of TARGET, partly accommodates the requirement of improved queue functionality. At the same time, a new payment system, KRONOS, is under way. It will be able to handle payments in kroner and euro alike, and will take over DEBES' role as the euro payment system in Denmark during 2001. In the development of KRONOS the focus is on facilitating inter-linking with the banks' systems, thereby avoiding manual procedures to the greatest possible extent.
Footnotes
[1] TARGET is an acronym for Trans-european Automated Realtime Gross settlement Express Transfer system. The system is described in further detail, together with its Danish component – DEBES – in Thomas Angelius, Søren Lundsby Hansen and Jesper Mærsk, DEBES – the Danish Part of TARGET, Danmarks Nationalbank, Monetary Review, 2nd Quarter 1998.
[2] ECB, Cross-border payments in TARGET: A users' survey, November 1999.
[3] Bank of England, Practical Issues arising from the euro, December 1999.
[4] Payments to be transmitted later, or payments awaiting funds before they can be dispatched, are placed in a queue.
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Version 1.0 March 2000 Nationalbanken.
Published by Danmarks Nationalbank March 2000, http://www.nationalbanken.dk