In simple terms, what is a payment and settlement system?
Payments
Asked by Question Bot01/Feb/20161 answer
1 Answer
F
Faisal Khan
Answered 01/Feb/2016
A payments & settlement system is like an accountant. It keeps track of who owe whom and how much. To cite it as an example, think of the following scenario (this is one of many examples, the scenarios can change, the players can change, but the basics are still the same):
Then, the following customers as depicted in the image above.
Here is what happens on a particular day, assuming everyone starts the day with a US$ 300 balance.
Now this may seem pretty simple, nine people transacting during the course of one day. But think about the same picture, 100 banks and 10,000 people. The accounting and keeping tabs can get pretty large and hard to keep up, quite fast.
A payment & settlement system keeps track of who owe who, and how much.
It is this uber-fast, automatic money wizard that is keeping track of all the transactions that are happening.
At the end of the day (for example) this system will say...
Whilst there is much more to a payments & settlement system, one key element of a payment & settlement system is that it is a trust-vehicle. All the financial institutions connected to it (i.e. Banks, in the example above) will trust what it says.
The customers trust their bank. The banks trust the payment & settlement system.
Also read this answer to understand it a bit better: Faisal Khan's answer to How does the settlement of payments work in banks? Specifically, how do payment systems that are connected to multiple banks actually settle the amount between two banks?
Consider the following Banks:
- Bank A
- Bank B
- Bank C
Then, the following customers as depicted in the image above.
Here is what happens on a particular day, assuming everyone starts the day with a US$ 300 balance.
- Bob gives Jim $150
- Sam gives Andy $54.30
- Andy pays Chuck $8
- Chuck pays Sam $9
- Chuck also pays Tom $9
- Harry owes everyone $18.50
- Paul owes Bob, Jim and Andy 85 cents each
- Rob owes Harry $7
- Sam is to be paid by Bob and Andy $4.33 each.
Now this may seem pretty simple, nine people transacting during the course of one day. But think about the same picture, 100 banks and 10,000 people. The accounting and keeping tabs can get pretty large and hard to keep up, quite fast.
A payment & settlement system keeps track of who owe who, and how much.
It is this uber-fast, automatic money wizard that is keeping track of all the transactions that are happening.
At the end of the day (for example) this system will say...
- Bob, in total you have paid X1 received Y1 and your balance is Z1
- Jim, in total you have paid X2 received Y2 and your balance is Z2
- Tom, in total you have paid X3 received Y3 and your balance is Z3
- and so on and so forth.
Whilst there is much more to a payments & settlement system, one key element of a payment & settlement system is that it is a trust-vehicle. All the financial institutions connected to it (i.e. Banks, in the example above) will trust what it says.
The customers trust their bank. The banks trust the payment & settlement system.
Also read this answer to understand it a bit better: Faisal Khan's answer to How does the settlement of payments work in banks? Specifically, how do payment systems that are connected to multiple banks actually settle the amount between two banks?