The Eurosystem is gearing up for wholesale settlement trials for DLT networks using central bank money. It opened the call for applications in December, with tests to start in earnest in May. Last month it held its sixth meeting of the industry contact group. As with most previous sessions, various companies outlined potential use cases. One of them was Onyx by JP Morgan.
This sixth contact group meeting will be the last until June, which will be an in-person meeting, presumably to get feedback about the trials.
When the DLT initiative first launched, the emphasis was on securities settlement. As tokenized deposits and deposit tokens have moved up the agenda, there are likely to be multiple use cases where central bank money (CeBM) will be used to settle interbank payments. In the most recent contract group meeting, two groups proposed this use case – the ABI Lab which is part of the Italian Banking Association and Onyx by JP Morgan.
With stablecoins or central bank digital currencies (CBDC), when a payer sends the tokens to a recipient, that’s the end of the story. However, with tokenized deposits, that’s only half of the transaction. Additionally, The sender’s bank has to pay the recipient bank. That can be done conventionally via a real time gross settlement (RTGS) system, or it can use a wholesale CBDC. Hence, there is a need for central bank money (CeBM).
These Eurosystem trials are not in a sandbox environment. They will involve using real money settled in the T2 RTGS system. As a result, participants are limited to regulated entities, as described previously.
Onyx by JP Morgan use cases
JP Morgan proposed two use cases. The first one describes a simple customer payment involving a deposit token. When the recipient (who uses a different bank) converts the token back into a conventional bank balance, the banks must settle up. Central bank money is used for interbank settlement.
A second use case involves an interbank foreign exchange transaction. One leg of the transaction uses a deposit token, and the other uses central bank money.
Italy’s ABI Lab and DLT
Italy’s Spunta Banca DLT has been in production for several years already. Most of Italy’s banks automate their interbank settlement using DLT. One of the key drivers was the reduction in operational risk. After launching in 2020, so far its DLT infrastructure has processed 750 million transactions.
Now the ABI Lab wants to take it a step further with Project Leonidas. Once interbank reconciliations are complete, the banks are required to settle up. And they want to do that using central bank money. However, at this stage, the plan with the Eurosystem is to do simulations rather than use real money. The ABI Lab has already run similar trials in a Bank of Italy sandbox.
Apart from the two interbank settlement solutions, asset managers also had their say. AXA Investment Managers and Union Investment, two of the more prolific asset managers in the tokenization space, outlined their views on the benefits of using CeBM for settlement, particularly for bonds. They believe CeBM will cut transaction costs, reduce credit risk, and increase the efficiency of payment and settlement. That’s in part because there are fewer manual reconciliation processes.
Experimental CeBM solutions
As previously outlined, there will be three solutions involved in the experiments. One is Germany’s Trigger payment solution that will trigger payments on the T2 RTGS. Another is Italy’s TIPS Hashlink solution and a third is France’s wholesale CBDC. The latter two will require funds to be escrowed via the national central bank before credit is given on the central bank money platform. Unused escrowed balances should be returned at the end of the day.
However, if the Eurosystem decides to proceed with any of the solutions, they will also have different treatments. The Trigger solution will use normal central bank reserves. But the other two would each require separate central bank reserve pots. So, from a fragmentation perspective, as currently designed, that puts them at a disadvantage.
