On 17 March 2014, the Bank of England (BoE) published its “Supervision of Financial Market Infrastructures Annual Report”. The report provides an account of how the BoE has exercised its responsibilities in respect of financial market infrastructure supervision and sets out issues the BoE expects to focus on over the coming year.

The report states that over the past year, the UK retail payment systems BACS and Faster Payments Service (FPS) have developed plans to eliminate settlement risk through participants ‘pre-funding’ their payments with cash held at the BoE. Although none of the recognised payment systems act as principal to the payment transactions they process (and do not, therefore, face counterparty credit risk), their design and rules still impact the credit and liquidity risk borne by their members. Members in deferred net settlement systems (DNS) face credit and liquidity risks where payments are credited to recipient accounts before interbank settlement has taken place. The BoE says in its reports that this risk can be mitigated through all members ‘pre-funding’ the payments they make, so that, should a member fail before settlement occurs, the pre-funded resources can be used to cover any cash shortfall arising from payments already made.

What this means for you

The BoE has made it a supervisory priority that settlement risk is removed for members of the United Kingdom’s recognised retail payment systems and requires the members of BACS and FPS to completely prefund their outward payments with cash held at the BoE by the end of 2014.