- Omotunde Johnson, Jean-Marc Destresse, Nicholas Roberts, Mark Swinburne, Tonny Lybek, and Richard Abrams
- Published Date:
- March 1998
Russia is a country in economic transition. It is also the world’s largest country, with an area of 6.6 million square miles, while it is sixth in population, with 148.6 million people. Real GDP has been in decline since 1990; in 1995 per capita GDP was $2,761. However, the fall in output now appears to have ceased.
Overview of the Economic and Financial System
In Russia, during the Soviet era, the payment system was burdened with the task of tracking and recording transactions to ensure that they were consistent with the state plan. Russia’s payment system, which was slow and poorly automated, had four distinguishing features. First, it was risk-free for the users. As long as a transaction complied with the plan, it was processed, with credit automatically extended if the payer’s account had an insufficient balance. Thus enterprises did not need to assess the credit-worthiness of their counterparts. Second, there were no financial markets, so there was no incentive to expedite transactions; in effect, there was no opportunity cost of money. Third, transactions were processed individually, on a gross basis, in part to ensure that each transaction complied with the plan. Fourth, there was a strict and nearly complete separation between cashless money and cash, the latter being almost exclusively for use by the household sector.
From a technical standpoint, the key features of the system were the predominance of paper-based instruments such as payment demand orders (debit instrument) and payment orders (credit instrument); long and unpredictable transportation and processing delays (intraregional, interregional, and interstate); and a system that relied almost exclusively on the central bank branch network and on its computer facilities (most commercial banks were unable to perform their own accounting functions). Thus, when the process of economic transformation began in 1992, many of the features of the old system were found to be ill adapted to the needs of a market economy as a result of the increase in the volume and value of transactions, the rise in the number of participants, the increased exposure to risks (including fraud), and the newly discovered time value of money.
Between 1988 and 1990, the banking system was transformed from a monobank system (the Gosbank) to a two-tier banking system, by transferring the Gosbank’s commercial activities to three state-owned specialized banks, Agroprombank (agriculture), Promstroibank (industry), and Zhilotsbank (social investment). Two specialized banks, Sberbank (savings) and Vneshekonombank (foreign sector), already existed. The Central Bank of Russia (CBR) was created from the remainder of the Gosbank, which included 1,371 local branches or cash settlement centers (CSCs), 80 regional CSCs, and 30 computer centers.
At the same time, cooperatives, and later state-owned enterprises and private groups, were allowed to open banks. This led to a rapid expansion of commercial banking, to 1,580 banks by the end of 1991. By September 1994 there were 2,403 banks in Russia. However, branch banking is not well developed; in September 1994, there were only 5,203 branches, excluding those of the Savings Bank. Banks are also concentrated in Moscow.
While the largest banks are trying to expand their networks throughout the Russian Federation, the overall network of branches is not well developed, in part because many regional banks have closed their remote branches or transformed them into autonomous subsidiaries. Many small regional banks have also tended to concentrate on local activity, often with shareholder clients. Others have effectively become intermediaries between the government, the central bank, and enterprises, with much of their lending in the form of government, or central bank-directed credit. However, directed credit fell from one-half of bank system credit in 1992 to 0.25 percent in 1994, and it was abolished in 1995.
Sberbank has a special position in the banking system—with 31,182 branches, a state guarantee for its deposits, and more than half of all household deposits. In addition to its role in attracting and placing the savings of individuals, Sberbank maintains accounts in the name of, and offers credit services to, enterprises, organizations, and banks.
Money and Securities Markets
The Russian interbank market has grown rapidly in recent years; before the interbank confidence crisis of August 1995, interbank lending and borrowing accounted for 50 percent of bank assets. This level of activity declined sharply after the crisis to 13 percent of assets by end-1995. Banks now have access to only a limited number of trusted counterparts, creating a fragmented and shallow interbank pool for each bank. In shifting away from interbank exposure, banks have typically acquired other liquid assets, and the treasury bill market has grown significantly as a result.
The primary market for government securities in Russia has grown in recent years, but it remains relatively concentrated among a few banks and dealers, including the Savings Bank. The development of the retail market has been constrained as interest by individual savers has waned following some spectacular losses in the past. In February 1996, the CBR issued regulations establishing rules for nonresident participants in government securities, who are allowed to participate through designated intermediaries. Increased competition in the market for government securities could assist in reducing the premium—given the spreads between the borrowing costs of the government and the interest rates paid to depositors—now being paid by the budget on government securities.
As regards the development of the secondary market for government securities, daily volumes amount to approximately Rub 100 trillion ($20 billion). There are approximately 200 direct participants. The CBR engages in open market operations, but, owing to the limited number of trades, there are concerns that intervention results in inordinate fluctuations in interest rates. The CBR planned to establish a primary dealer system for government securities in the second half of 1996, in order to facilitate secondary activity.
A new method for determining the daily official exchange rate took effect on May 17, 1996. The rate is now determined by the CBR on the basis of the bid and ask rates of a sample of about 20 large commercial banks participating in the interbank market. From these rates sampled at 9:30 a.m. each morning as well as its own assessment of exchange market pressures, at 10:00 a.m. the CBR announces, as the official rate, a central exchange rate around which a daily margin of ¾ of 1 percent on either side is allowed.78
Communications, Transportation, and Geographical Factors
Russia’s size causes a number of payment problems. Perhaps the most difficult is that Russia spans 11 time zones. In some areas, climatic conditions also pose difficulties. For example, in Siberia permafrost prevents the use of ground lines, so satellite telecommunications must be developed. In addition, the level of available technology differs among regions. However, the importance of these factors should not be overestimated—not only because payment flows are relatively concentrated in the large cities, but also because Russia has the technical capabilities needed to develop the requisite telecommunication systems.
Institutional and Organizational Framework
In 1992 major problems arose in the Russian payment system, including the emergence of a high CBR credit float following the elimination of payment demand orders, a dramatic increase in delays and fraud, and a sharp rise in interenterprise arrears. These difficulties necessitated strong and immediate action from all parties involved in the payment system.
The growing awareness of the Russian authorities of the need to act, and their desire to cooperate with international organizations and the commercial banks in this venture, resulted in the creation in June 1993 of the International Steering Committee (ISC). The ISC was designed to coordinate the various payment system initiatives and projects. Its objectives include providing guidance on the program of reforms; building consensus among central bank and commercial bank officials on payment system policies and design; and coordinating the technical assistance and training support of the international members of the ISC.
The ISC is headed by a senior official of the CBR. Russian members include CBR officials from different departments and regional offices, and representatives of commercial banks and private sector payment services providers. Its international members are representatives from the IMF’s Monetary and Exchange Affairs Department, four cooperating central banks (U.S. Federal Reserve, Bank of France, Bundesbank, and Bank of England), the European Union, the EBRD, the Financial Services Volunteer Corps, the OECD, and the World Bank. The ISC was initially supported by eight working groups of Russian officials, which were formed to develop the detailed design of various payment system projects and to oversee their implementation, namely: (1) Large-Ruble Transfer System, (2) Interbank Clearing, (3) New Payment Instruments, (4) Intrabank and Settlement, (5) Information and Technology, (6) Training, (7) Standards and Formats, and (8) Legal Issues. Each working group was assigned a lead counterpart agency from among the international participants that provide technical assistance. As of July 1996, the structure had been changed to include only working groups 1, 2, and 8, with a view to refocusing on implementation of payment system reforms decided by the CBR on April 1, 1996.
By July 1996, the ISC had met six times. The meetings reviewed the progress of the working groups; agreed on their future work programs and their technical assistance needs; and coordinated their activities, notably by identifying common technical and policy issues affecting several payment system projects.
The Legal Framework
The legal framework is embryonic. The CBR has started working on the most urgent issues, which include the creation of a legal framework for electronic payments, collateral, netting, consumer protection for banks’ customers, and correspondent banking arrangements.
Major Providers of Payment Services
The major providers of payment services are the CBR and the commercial banks (Figure 5). The CBR provides a range of payment services. Traditional clearing and settlement services are performed by the 1,400 CSCs, which, inter alia, maintain the accounts of the local branches of the commercial banks and process payment orders presented by the commercial banks on behalf of their customers on a gross basis. A few CSCs have also been transformed into clearinghouses, which clear on a multilateral net basis. A CBR-operated Large-Ruble Transfer System (LRTS) is being developed to serve as an RTGS system.
The private sector also provides payment services. Much of this is done through correspondent banking arrangements, which have expanded rapidly over the past few years, in part because of inefficiencies in the CBR system. Private clearinghouses have also been developed, settling daily on a multilateral net basis using central bank money.
Major Users of Payment Systems
Enterprises are the main users of the payment system. There is a strong potential demand for payment instruments for individuals, who still function largely on a cash basis, and there have been a few pilot experiments with checks and electronic purses. Some banks in the main cities have started to issue debit cards for cash withdrawals in the issuing banks’ ATM networks and for payments in affiliated shops.
Payment orders are by far the most widely used payment instrument since the payment demand order, which was a debit instrument, was discontinued in 1992.79 For a payment order, the payment instruction, which can be paper-based or electronic, is sent from the payer’s bank to the beneficiary’s bank through the CSC network. Their popularity springs from the fact that most enterprises now insist on prepayment in good funds before delivery.
CSCs process payment orders on a gross basis. Processing lags have been reduced in the past two years but still range from one or two days (when the sending and receiving banks have accounts with the same CSC) to one to three weeks (when the CSCs are in different regions). Even when the payment is in electronic format, which is increasingly the case, especially in Moscow, paper processing continues in parallel at certain stages, both for control purposes and because of the lack of a legal framework for electronic payments.
Few data are available on payment flows. However, one survey has indicated that 1 percent of the yearly volume accounted for 90 percent of the overall value. A survey conducted in 1993 using data collected from CSCs also gave indications regarding the volume of payments and their geographical distribution (although the quality of the data is open to question). The estimated yearly volume of payment orders processed by CSCs was around 200 million for the Russian Federation as a whole. However, this seems low compared with previous estimates of around 1 billion cashless payments annually, based on objective criteria (population, GDP, number of enterprises, number of banks, and so forth) and international comparisons. The difference could arise from payments that do not go through CSCs and are processed through either bilateral correspondent banking arrangements or intrabank networks.80
Payments appear very concentrated in the same CSCs. More than two-thirds of payments involve banks having accounts with the same CSC. In addition, Moscow and the Moscow region account for more than one-third of the total volume of payments.
Many instruments other than payment orders exist in Russia, but use of most of these is either in its infancy (plastic cards) or has been discontinued, notably because of fraud (checks).
Major Russian banks are progressively involved in issuing plastic cards. Some now distribute and maintain international cards (such as Visa and Eurocard/MasterCard), while others are establishing systems of domestic cards. According to CBR statistics, bank deposits of legal entities (enterprises) earmarked for payments by plastic cards rose from Rub 3 billion in May 1994 to Rub 97 billion in November 1994, while individuals’ deposits so earmarked increased from Rub 0.3 billion to Rub 107 billion over the same period. Most cards are debit cards, although some include limited overdraft facilities.
Checks are used to a very limited extent because the procedures for their issuance, exchange, and settlement continue to be long and cumbersome. A new check, called “checks Russia,” was introduced in 1992 as a cash alternative for retail consumers and businesses. However, the project was quickly discontinued because a number of printed checks were stolen and marked with stolen or counterfeited bank seals. In any case, the procedures for “checks Russia” were no less cumbersome than those for earlier forms of checks. Thus, the need for a simple debit instrument for individuals and businesses is still not met.
Clearing and Settlement Systems
The general organization of the clearing and settlement systems is described in Figure 5. It relies essentially on the network of CSCs, some of which are being transformed into public clearinghouses; a planned CBR-operated LVTS system; a developing network of private clearinghouses; and traditional correspondent banking arrangements.
Figure 5.Russia: Organization for the Provision of Payment Services
Note: CBR, Central Bank of Russia; CSC, cash settlement center.
Retail Payment Systems
Both public and private clearinghouses are being developed to handle small-value payments. They clear on a multilateral net basis. In comparison with the CSCs, where payments are processed on a gross basis, this reduces the workload of the settlement agent and the demands on banks’ liquidity. If risks are properly managed, these systems could significantly improve the speed and efficiency of the processing of payment transactions and, hence, contribute to a reduction in float.
Private clearinghouses function within a regulatory framework laid out by the CBR. There are two types of clearing licenses. One uses a pre-funding technique, in which participants must transfer funds from their CSC account to the clearinghouse’s CSC account before each clearing cycle. The other settles directly on the books of the CBR. In the latter, the net results of the clearing are calculated by the clearinghouse and transmitted to the CSC for settlement across the banks’ CBR accounts.
The principles are the same for both types of licenses. First, settlement is daily and made in central bank money. Second, access is free and open to all banks. Third, risk control measures rely on membership criteria (the participants must comply with CBR prudential rules) and, initially, revocability clauses. One clearinghouse, the Interbank Financial House (IFH), will also have more sophisticated risk control measures from the outset. Indeed, the IFH has developed specific risk management procedures that are very similar to the CHIPS system and meet the Lamfalussy standards.
Currently, the payment instruments exchanged in private clearinghouses are payment orders (credit transfers) in electronic format. However, the software in use in many clearinghouses can handle debit instruments if needed.
Five of the seven clearing institutions licensed by the CBR currently operate (licenses are renewed each year). All use the prefunded model of license. However, the IFH, which is in Moscow, will use a nonprefunded license model when it starts operations. Clearinghouses have been authorized by the CBR to hold government securities as collateral and to sell them if necessary to cover an unsettled net debit position. The CBR has conducted (November 1995) on-site inspections of four clearinghouses.
The CBR plans to transform selected CSCs into public clearinghouses by clearing payment instructions received on a multilateral net basis. One pilot project has been under way in Tula since December 1994. As of mid-1996, seven commercial banks were participating in that experiment. On the basis of the last available data (November 1995) this clearinghouse handled 6.4 percent of the value of payments exchanged in the region.
An overall strategy for developing public clearinghouses is still to be defined by the CBR. In any case, this strategy will need to be discussed in the framework of the ISC, so commercial banks will be informed in advance about the future CSC network design and the locations of public clearinghouses.
Partly as a result of the CBR’s problems in processing payments in 1992, Russian commercial banks rapidly developed their own payment arrangements, both internally and with other banks, to increase speed and reduce processing and other transaction costs. These arrangements have apparently contributed to marked improvements in the efficiency of the payment system, although the volume and value of payments processed through these channels is not known. The CBR, without restricting or impeding this activity, is trying to take measures to monitor and contain the risks related to correspondent banking arrangements.
Large-Value Transfer System
There is no system specifically designed for large-value payments in Russia. Currently, such payments are processed by the CSC network or through correspondent arrangements (see Figure 5). However, the CBR is well aware of the urgent need for a same-day settlement system for large-value transfers and other time-critical payments, such as clearinghouse settlements within and between Russia’s major financial centers.
The CBR is planning an LVTS system that will be based on several LRTS projects currently being tested by the central bank. The system is expected to ensure same-day settlement for all large-value payments. It will be based on the propagation in the regions of two different projects, one being tested in Ryazan and the other in Tula. The Ryazan system, based on mainframe hardware (centralized), will eventually be implemented in most regions, while the Tula system, based on network hardware (decentralized), will be implemented in a limited number of regions. However, the centralized system requires an upgraded communication network, which could delay its implementation for some time. The CBR has tested and approved encryption and electronic signature procedures for both systems.
Role of the Central Bank
Organization of Payments Activity at the Central Bank
As with many central banks, payment activities are carried out by a number of different sections or departments within the CBR. The main ones include the Methodology Department, which is in charge of licensing payments activities, issuing payments-related regulations, and overseeing private clearinghouses; and the Information Technology Department, which is in charge of developing the software and hardware used in the CBR network, and setting standards for electronic payments. The CSC network, which is largely autonomous, maintains the accounts of the commercial banks and performs the actual processing of payments.
As noted, oversight of clearinghouses is carried out by the Methodology Department, which makes on-site inspections to verify that the operations of the clearinghouses meet regulatory requirements. As also noted, the CBR is also considering setting a regulatory framework for correspondent banking to control and limit risks caused by such arrangements. This will be carried out jointly by the Methodology Department and the Banking Supervision Department.
The CBR’s technological equipment has until now been diverse, with different types of hardware, software, and telecommunication links performing the same functions in different regions. The CBR has recently decided to gradually reduce the number of existing configurations, with the ultimate objective of having a single hardware and software platform throughout the country.
As regards standards, a message format for electronic payments and a new bank identification coding structure have been developed.
Account Structure, Required Reserves, and Credit Facilities
The CBR has a system of logical and physical decentralization of commercial banks’ accounts. There are several accounts per bank, each being maintained by a separate CSC on an independent system. Each commercial bank branch has its own account with the local CSC, with the CBR network often used for intrabank payments for those banks lacking an intrabank network. Many branches are unable to perform their own accounting functions. Thus, the CSC often maintains the accounts of the branch and the accounts of its customers. This system requires multiple layers of transit accounts, which delay the processing of payments and also requires a bank to divide its liquidity among various accounts.
The holding period for required reserves at the CBR is one month; reserves are based on the daily average of reservable balances of the previous month. Within a particular month, commercial banks are allowed to withdraw reserve funds upon CBR approval and within predetermined limits—if developments in deposits during the month indicate that reserves held at the CBR are in excess.
Credit auctions were introduced in February 1994. In the first half of that year, 20 percent of the increase in gross CBR credit to the banking system was sold in the auctions. However, intraday and overnight liquidity remains a problem for the payments system because the CBR does not yet have in place a collateralized credit facility. This absence is due to concerns about credit risk, linked to the lack of bank soundness, to the lack of an appropriate legal framework for collateral, and to technical constraints.
For a time, consideration was being given to the creation of an Interstate Bank to clear and settle the transactions in rubles between Russia, the Baltic States, and other participating countries of the former Soviet Union. However, the project appears to have stalled because of political obstacles and because many countries have decided to issue their own currencies.
Major Ongoing and Planned Payment System Projects
The CBR has endorsed a payment system development strategy for Russia based on the work of the ISC. The strategy was published in April 1996 and foreshadows a comprehensive reorganization of the payment system over the coming years. The CBR is committed to introducing laws to support electronic payments and to developing a communications infrastructure that can support development of real-time processing of electronic payments. The CBR will have a major role in offering settlement services in the new system but recognizes that the private sector should be encouraged, subject to suitable prudential guidelines, to develop clearing arrangements for a range of payments. To encourage such developments the CBR will start to charge for its services on a cost recovery basis.
Some of the specific objectives embraced by the CBR include: (1) consolidation of institutions’ settlement accounts with the CBR; (2) enforcement of a policy of no overdrawing of settlement accounts (enforced in real time) backed by a policy of offering intraday collateralized loans to facilitate settlement; (3) requirements for certain payments—mainly high-value payments related to transactions in organized financial markets—to be routed through a CBR real-time settlement system (the settlement system will be linked to securities transfer systems so that securities markets conform to DVP principles); (4) establishment of a unified system of standards conforming to international best practice; and (5) encouraging development of card-based payments by specifying principles to be followed by card issuers in matters such as standards—especially for security and the rights of users.