Payment System Settlement and Bank Incentives

Charles Kahn and William Roberds

Center for Financial Institutions Working Papers from Wharton School Center for Financial Institutions, University of Pennsylvania

Abstract: In this paper we consider the relative merits of net versus gross settlement of interbank payments. Net settlement economizes on the costs of holding non-interest-bearing reserves, but increases moral hazard problems. The "put option" value of default under net settlement can also distort banks' investment incentives. Absent these distortions, net settlement dominates gross, although the optimal net settlement scheme may involve a positive probability of default. Net settlement becomes more attractive relative to gross settlement if bank assets have to be liquidated at less than book value.

Journal of Economic Literature Classification Numbers G21, G28.

This paper was presented at the Financial Institutions Center's conference on Performance of Financial Institutions, May 8-10, 1997.

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Related works:
Journal Article: Payment System Settlement and Bank Incentives (1998)
Working Paper: Payment system settlement and bank incentives (1997)
Working Paper: Payment system settlement and bank incentives (1996)
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Persistent link: https://EconPapers.repec.org/RePEc:wop:pennin:97-32

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