* Neil B. Murphy, CTP, AAP, is a Professor of Finance in the
Department of Finance, Insurance, and Real Estate School of Business at the
Virginia Commonwealth University. The
research for this paper was funded through a grant by the FDIC.
1 The payment system as a whole comprises a number of component
payment systems; thus the word “system” is used in this paper sometimes to
refer to the overall system and sometimes to refer to the individual
4 For a discussion of wholesale payment systems in general, see
Folkerts-Landau (1997); and for a discussion of risk management for Fedwire,
see Coleman (2002). The CPSS best
practices, or “core principles,” are appropriately applied to “systemically
important payment systems,” and Fedwire is certainly such a system. Recently the Federal Reserve published a
“Self Assessment of Compliance with the Core Principles for Systemically
Important Payment Systems” (2001).
5 For an extensive discussion of the network characteristics of
payment systems, see Lacker and Weinberg (1998).
6 Not all debit transfers are checks, for debit transfers occur in
the Automated Clearing House (ACH) system in the United States. That is, a payer authorizes a payee to
transfer funds through the ACH system by having the payee’s bank present an
electronic debit through the ACH and deduct funds from the account of the payer
in the payer’s bank. There is still
counterparty risk in that the payer must have sufficient funds.
7 Whether something is called a credit transfer or a debit transfer
depends on the action of the receiving financial institution. If the receiving financial institution debits
the payer’s account, it is a debit transfer.
If the receiving financial institution credits the payee’s account, it
is a credit transfer. It should be noted
that only credit transfers occur on the large-value RTGS payment
8 The exception to this, of course, is the RTGS large-value payment
systems in which settlement occurs instantaneously. However, if the central bank advances funds
to participants during the day (daylight overdraft), that transaction involves
some credit risk if the bank to which credit has been advanced cannot bring its
account back to zero at the end of the settlement period.
9 There may be some debate as to whether a credit card transaction
and the credit card networks constitute a payment system, since the payer’s
demand deposit account is not debited as a result of the transaction. However, payment does occur over an interbank
network, and the Committee on Payment and Settlement Systems, the ultimate
arbiter of things related to payment systems, includes credit card transactions
in its data on different countries’ payment systems in its “Red Book.”
12 For a discussion of the legal and regulatory environment of
payments in the United States, see CPSS (2003).
13 In Gerdes and Walton (2002), it is noted that the proportion of
“on-us” checks has not increased much even though the industry has
consolidated. They attribute this to the
reduction in checks written for cash (these are being replaced by ATM
withdrawals) while on-us checks sent to payees have increased.
14 For a thorough discussion of the methods and rationale for
calculating the private sector adjustment factor (PSAF), see Green, Lopez, and
15 It is not the usual practice for the central bank to operate
substantial segments of retail payment systems, nor is the Federal Reserve’s
role as both operator and regulator without controversy. The Federal Reserve undertook an extensive
review of its role several years ago and concluded that present arrangements
are satisfactory. See Board of Governors
of the Federal Reserve System (1998).
16 For an excellent review of comparative developments of payment
practices in major industrialized nations, see Humphrey, Sato, Tsurumi, and
18 Their projections were based on data available up to 1996, even
though the publication date of the article is 2000.
19 One casualty of this decline is the Federal Reserve System itself,
which announced in February 2003 that it was consolidating its check-processing
operations, eliminating this activity from 13 offices and reducing staff by a
projected net of 400 employees. See
Federal Reserve Bank of Boston (2003).
20 See Board of Governors of the Federal Reserve System (2003a,
21 See NACHA—The Electronic Payments Association (2003).
22 See Check 21 Act, Public Law 108-100, October 28, 2003.
23 Many banks and thrift institutions have already truncated checks
by not returning them to customers. This
act will stop the movement of paper earlier in the process. Moreover, for many years, credit union
legislation and regulation have made truncation of credit union share drafts
39 It should be noted that the United States ranks high in per capita
deployment of EFTPOS (electronic fund transfer point-of-sale) terminals in
comparison with other developed countries.
See CPSS (2003).
48 A classic review of how payment systems operate in Europe, Japan,
and the United States can be found in Humphrey, Sato, Tsurumi, and Vesala
49 The link between pricing, regulation, and electronic funds
transfer is discussed in Murphy (1977).
50 It should be noted that the total cost of making the
transaction is important to the payer, including postal costs if the mails are
involved as well as the time and transportation costs involved in making the
transaction. The switch to electronic
payments by consumers may reflect changes in the total cost even though the
explicit transaction costs are not charged directly to them.
51 The Federal Reserve conducts an annual survey of retail fees of
depository institutions. For a summary
of the findings of these surveys, see Hannan (2002). See also Stavins (1999).
56 See Humphrey, Kim, and Vale (2002). Other studies of cross-country analyses of
payments failed to find significant relationships between pricing and use
because of poor data and little application of per-item pricing. See Humphrey, Pulley, and Vesala (1996).