Role of the Central Bank in Interbank Settlement

D. 1) If a customer cannot pay a bill, he must inform his supplier immediately. The example of it is the letter, written by the customer who asks for his bill of exchange to be extended for another 60 days.

C. Study the letter with a request to a bank to accept a bill.

The Australian importer mentioned in the previous letter now writes to his bankers to tell them to accept the bill.

____________J.K.G. Products Pty.______________ President: D. Bruce Managing Director: L. Thompson Directors: l.R. Marsh. T.L. Bradman Bridge House. 183-9 Kent Street. Sydney NSW 2000   Telephone: [phone] Telex 212160   Date 18 July 20— The Manager National Australian Bank 632 George Street Sydney NSW 2000   Dear Sir,   You will shortly be receiving a bill of exchange for £2,163 and relevant documents from Panton Manufacturing Ltd., England. Would you please accept the draft on our behalf, send us the documents, and debit our account?   Yours faithfully,   L. Corey J.K.B. Products Pty.

What are the requests made by Mr. Corey?

2) Study the letter:

L. Franksen PLC Prince of Wales Road, Sheffield S9 4EX   Telephone: [phone] Fax: [phone]   Mr. D. Bishkin 19 May 20— Zenith S.A. Haldenstrasse 118 3000 Bern 22 SWITZERLAND   Dear Mr. Bishkin,   I am sorry to tell you that I will not, be able to meet my bill. No, BE7714, due on 6 June. My government has put an embargo on all machine exports to Zurimba, and consequently we have found ourselves in temporary difficulties as we had three major cash consignments for that country. However, I am at present discussing sales of these consignments with two large Brazilian importers, and am certain that they will take the goods. Could you allow me a further 60 days to clear my account, and draw a new bill on me, with interest of, say 6% added for the extension of time? I would be most grateful if you could help me in this matter. Yours sincerely,   L. Franksen  

3) Answer the questions:

1. What expression does Mr. Franksen use instead of pay?

2. What is an embargo?

3. How does he intend to get the money for the cargo he cannot sell?

4. What solution does he suggest to the problem?

5. How does he propose to compensate Mr. Bishkin?

6. Which words in the letter correspond to the following: paid for goods; make out a draft?

E. When a bill is not paid and no notice has been given the supplier usually writes to the customer before protesting the draft as it is shown further. Note the expression “ Refer to Drawer ” which means the bank is returning the bill to the drawer. The same expression is used when a dishonored cheque is returned. Also notice that a formal protest is to be made which means that the drawer will contact a lawyer to handle the debt, if payment is not made within the specified time. So, study the given below letter and give your comments on it.

Panton Manufacturing Ltd.   Panton Works, Hounslow, Middlesex, TW6 2BQ   Tel: [phone] Registered No. England 266135 Cables: PANMAN Telex: 21511 Fax: [phone]   Mrs. B. Haas, 10th April 20— B.Haas B.V., Heldringstraat 180-2 Postbus 5411 Amsterdam 1007 NETHERLANDS Dear Mrs. Haas, B/E No.1671   The above bill for £860.00 was returned to us from our bank this morning marked 'Refer to Drawer'. The bill was due on the 5th April and appears to have been dishonored. We are prepared to allow you a further three days before presenting it to the bank again, in which time we hope that the draft will have been met. If the account is still not settled, we will have to make a formal protest, which we hope will not be necessary.   Yours sincerely,   D. Panton Managing Director  

XVI. A) Study the text given below and make your comments on it:

In a complex banking system with many participants, it is inefficient for banks to establish large numbers of bilateral relationships and to hold many nostro accounts. Maintaining nostro accounts can be expensive, as the vostro banks will assess fees for the account and payment services they provide. More important, however, nostro accounts can absorb large amounts of liquidity when nostro banks try to maintain the precautionary balances needed to settle obligations and to meet minimum balance re­quirements established by vostro banks. Accordingly, there is a finite limit to the number of nostro accounts that banks will want to hold, which stimulates competition among the vostro banks.

However, every bank must be prepared to satisfy its customers' needs to send money to or receive money from any other economic actor hold­ing an account at any other bank in the system. This calls for a specialized, central institution that provides account services to virtually the entire banking system. This, of course, is an important role of the central bank.

In the banking vernacular introduced earlier, commercial banks hold nostro accounts with the central bank. The central bank, however, does not hold nostro accounts with commercial banks, at least not with respect to its domestic currency.

The central bank is a very important vostro bank because it holds accounts for almost the whole banking industry.

The nostro accounts that commercial banks hold with the central bank can be used to make interbank payments using "central bank money." Payment using central bank money is a unique form of payment, because such payments result in a claim on an institution that cannot fail and that, because of its money creation powers, will never suffer a shortage of liquidity. Consequently, recipients of payments in the form of central bank money assume no counterparty credit or liquidity risk. Moreover, payments made with instruments issued by the central bank are com­pletely convertible, because all banks hold accounts directly with the central bank that they use to settle interbank payments or with vostro banks that themselves use central bank payment services.

The central bank establishes terms and conditions for the vostro ac­counts it provides. Balances held in central bank vostro accounts are almost always noninterest bearing. Further, many central banks establish minimum reserve requirements that commercial banks must meet, at least in part, by maintaining balances in their nostro accounts with the central bank. Central banks may also charge explicit fees for their payment ser­vices. Further, central banks can provide liquidity to individual commer­cial banks by granting central bank credit, which contributes significantly to the efficiency of a nation's payment system and is an important element in determining conditions in the domestic money market. By using central bank credit when liquidity is tight, commercial banks can ensure comple­tion of payments on schedule. In a modern payment system, central bank daylight credit is especially important as a source of intraday working capital to banks. Short-term "daylight loans" to banks by the central bank, if not repaid by the end of the day, become overnight loans. Thus, there is a direct connection between a central bank's providing intraday credit and the management of its Lombard facility.

In a generalized model of the banking system, commercial banks that hold nostro accounts with the central bank should be divided into two groups—those that are eligible to use central bank credit and those that are not. In some countries, for example, certain classes of banking institu­tions, such as savings banks or bank-like institutions that are not required to hold reserves, may not be granted direct access to central bank credit. In any event, central bank credit to banks with access to this source of liquidity will be rationed, either by price or administratively.

B). Explain in English the following:

a) a nostro account	g) liquidity risk
b) a vostro account	h) noninterest bearing
c) liquidity	i) minimum reserve requirements
d) precautionary balances	j) money market
e) money creation powers	k) liability
f) recipients of payment	l) interbank settlement obligation

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