Facebook’s proposed digital currency Libra got most of the attention during Federal Reserve Board Chairman Jerome Powell’s appearances before Congress last week, but a related topic looms even larger on the chairman’s plate. In the coming weeks, Powell will have to determine what role the Fed itself might begin to take as a processor of real-time payments for the financial system.

Powell took several questions during his Humphrey-Hawkins testimony before the House Financial Services Committee and the Senate Banking Committee about a proposal the Fed announced in October 2018 to begin operating a real-time gross settlement system which would allow virtually all payments to clear almost instantaneously.

There is universal consensus that a real-time platform that provides immediate access to funds would bring tremendous benefits to consumers. It would be particularly important for those at the lower end of the income spectrum, who may instead turn to payday lending or incur overdraft fees while waiting for payments to clear. The question for policymakers is who should provide this network.

The private sector already offers a commercial real-time payments network, RTP, rolled out in November 2017 by The Clearing House Payments Co. By the end of last year, RTP had grown to include 11 of the largest banks with roughly half the nation’s deposits. Real-time payments also are increasingly available through a variety of closed payment networks, digital payment networks, mobile payment services, and blockchain payment services.

 

The Fed entering the real-time payments market would mean it would serve as a direct competitor with firms over which it is also a regulator. That is unusual, though not unprecedented. Indeed, it is precisely the situation that has persisted for nearly 50 years between the Fed and The Clearing House in the area of ACH clearing services. But under the Monetary Control Act of 1980, the Fed is only supposed to act as a competitor to provide services “that other providers alone cannot be expected to provide with reasonable effectiveness, scope and equity.”

Powell said his primary concern is that the United States lags other countries, including the United Kingdom and Mexico, whose central banks already have established real-time payments networks. Nonetheless, he insisted that no decision had yet been made on whether to move forward with the proposal, and he declined to offer a time frame for when one might be forthcoming. He said the Fed is continuing to review hundreds of comment letters and that there would be several factors he would consider moving forward.

“One is just the requirements under the Monetary Control Act, and there’s also just the big policy question, which is, is there a role here? There are people who feel strongly that there is a role here for us, and there are others who feel not,” Powell said.

The Fed’s efforts stem from its Faster Payments Task Force, which was established in 2015 and handed down a final report in 2017. Under questioning during the House hearing from Rep. Ayanna Pressley, D-Mass., Powell conceded that the Fed would not meet the task force’s goal of a “faster, ubiquitous, broadly inclusive, safe, highly secure and efficient” payments system by 2020.

Indeed, should the Fed decide to move forward with creation of a real-time platform, most anticipate it will take at least three to five years. There are significant questions about what would happen to the market while banks wait for that rollout. The progress of private sector efforts could be held back while the Fed explores whether it should, or even can, provide a platform of its own.

There also should be significant skepticism that The Clearing House and Fed platforms will ever be interoperable. The current situation in Europe is that dual real-time payment systems operated separately by the European Central Bank and private banks do not communicate with one another, making instantaneous clearing more difficult and forcing financial institutions to run multiple systems. This was a point highlighted during the House hearing by Rep. Denver Riggleman, a Republican from Virginia, a former Air Force officer and National Security Agency contractor.

“Based on my experience in big data, when you are talking about what I have had to do in the military with electronic warfare actually trying to interoperate systems, I think this would create enormous inefficiencies and impose needless cost on the American taxpayer and the private sector,” Riggleman said.

The Fed’s record as a competitor in the ACH market is also very much a mixed bag. During the Senate hearing, Sen. Chris Van Hollen, a Democrat from Maryland, expressed skepticism of The Clearing House’s stated commitment to charge level prices for clearing services to all depositories, regardless of size. But the status quo in the ACH market is that the Fed already practices price discrimination, giving volume discounts to bigger institutions.

Moreover, while current law requires the Fed to use a Private Sector Adjustment Factor to calculate the cost of the services it provides as if it were a private sector actor, it does not make the methodology for that calculation transparent. Given the size of the Fed and the power it has in the market, it has ample opportunity to underprice private sector competitors using taxpayer support. The last time the Fed made an audit of its Private Sector Adjustment Factor accounting public was in 1984.

To be sure, real-time payments is an important priority and there are a number of ways the Fed could support its broader adoption. But unless or until a genuine market failure is found, Chairman Powell should take care not to fix what he himself testified is not broken.

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