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F ederal Reserve Bank OF DALLAS T O N Y J . S A L V A G G IO DALLA S, TEX AS F IR S T V IC E P R E S ID E N T 75265-5906 September 8, 1995 Notice 95-83 TO: The Chief Operating Officer of each financial institution in the Eleventh Federal Reserve District SUBJECT Firm Closing Time for Fedwire Securities and Modifications to the Fedwire Third-party Access Policy DETAILS The Board of Governors of the Federal Reserve System has approved a firm closing time of 3:15 p.m. Eastern Time (ET) for transfer originations and 3:30 p.m. ET for reversals for the Fedwire book-entry securities transfer system. The Board has also authorized the Reserve Banks to continue to close the Fedwire securities transfer service earlier than 3:15/3:30 p.m. ET on certain days when the U.S. government and mortgage securities markets observe partial-day or full-day holiday operations. The Board believes that the new schedule will benefit market participants by reducing uncertainty about the final closing time of the system, thus enabling participants to manage resources more effectively and control costs with greater certainty. These changes become effective January 2, 1996. In addition, the Board has approved certain modifications to its Fedwire third-party access policy to clarify its applicability and to reduce the administrative burden of several provisions. In particular, to reduce the costs imposed by the policy, the Board has limited several requirements to arrangements in which the service provider is not affiliated with the Fedwire participant. The policy’s scope has also been clarified by the Board. These changes became effective August 10, 1995. Existing Fedwire thirdparty access arrangements should comply with the revised policy by March 1, 1996. For additional copies, bankers and others are encouraged to use one of the following toll-free numbers in contacting the Federal Reserve Bank of Dallas: Dallas Office (800) 333 -4460; El Paso Branch Intrastate (800) 592-1631, Interstate (800) 351-1012; Houston Branch Intrastate (800) 392-4162, Interstate (800) 221-0363; San Antonio Branch Intrastate (800) 292-5810. This publication was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org) - 2 - ATTACHMENTS Copies of the Board’s notices as they appear on pages 42409-13 and 42418-23, Vol. 60, No. 157, of the Federal Register dated August 15, 1995, are attached. MORE INFORMATION For more information regarding Fedwire securities, please contact Nancy Barton at (214) 922-6746. For more information regarding Fedwire third-party access, please contact Jonnie Miller at (214) 922-6433. For additional copies of this Bank’s notice, please contact the Public Affairs Department at (214) 922-5254. Sincerely, Tuesday August 15, 1995 Part VII Federal Reserve System Federal Reserve Bank Services; Notices 42410 Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices FEDERAL RESERVE SYSTEM [Docket No. R-0866] Federal Reserve Bank Services Board of Governors of the Federal Reserve System. ACTION: Notice. AGENCY: The Board has approved a firm closing time of 3:15 p.m. Eastern Time (ET) for transfer originations and 3:30 p.m. ET for reversals for the Fedwire book-entry securities transfer system. Periodic extensions of this closing time may be granted only in response to significant operating problems at a major bank or dealer or to prevent market disruption. The Board also has authorized the Reserve Banks to continue to close the Fedwire securities transfer service earlier than the scheduled closing tim e on certain days w hen the U.S. government and mortgage securities markets observe partial-day or full-day holiday operations. The Board believes that' the new schedule will benefit market participants by reducing uncertainty about the final closing tim e of the system, thus enabling participants to manage resources more effectively and control costs w ith greater certainty than today. EFFECTIVE DATE: January 2, 1996. SUMMARY: FOR FURTHER INFORMATION C O N TA C T: Louise L. Roseman, Associate Director (2 02 /45 2 -27 8 9 ), Gayle Brett, Manager (2 02 /45 2 -29 3 4 ), or Lisa Hoskins, Project Leader (202/452— 3437), Division of Reserve Bank Operations and Payment Systems, Board of Governors of the Federal Reserve System. For the hearing impaired only: Telecom m unications Device for the Deaf, Dorothea Thom pson (202 /45 2 -35 4 4 ). SUPPLEMENTARY INFORMATION: I. Background In January 1995, the Board issued for comment a proposal to establish a firm closing time of 3:00 p.m. ET 1 for Fedwire book-entry securities transfer originations and 3:30 p.m. ET for reversals,-beginning in January 1996 (60 FR 123, January 3 ,1 9 9 5 ).2 The Board also requested comments on the potential benefits, costs, and market implications of opening the on-line Fedwire book-entry securities transfer 1 All tim es are E astern Tim e. For ease o f reference thro u g h o u t th is d o c u m e n t, th e closing tim e m ay be id entified as 3:00/3:30 p.m ., for exam ple. 2 C urrently, th e F e d w ire b o o k -en try secu rities transfer service h as a p u b lish e d closing tim e o f 2:30 p.m . for tran sfer o rig in atio n s a n d 3:00 p .m . for reversals. Som e R eserve B anks p e rm it th e m o vem en t o f sec u rities w ith in a p a rtic ip a n t's acco u n t (also c alle d re p o sitio n in g ) after th e close o f the reversal p erio d . service earlier in the day and on new . service capabilities that w ould give depository institutions the option of participating in the Fedwire securities transfer system during earlier hours. In addition, the Board requested comment on new service capabilities that would allow depository institutions to control their use of intraday credit during expanded and/or core business hours. The Board’s action at this tim e is limited to establishing a firm closing time for the Fedwire securities transfer service. The Board is continuing to evaluate comments received on the potential benefits, costs, and market implications of an earlier opening of the on-line securities transfer service and potential new service capabilities. Thirty-six commenters responded to the Board’s proposal. About 60 percent of the commenters were commercial banks or bank holding companies, including banks that provide government securities clearing and settlement services to dealers and other firms. The following table identifies the num ber of commenters by type of organization: Commercial Banking Organizations 3 Credit U n io n s......................................... Broker/Dealers4 .................................... Clearing House Associations ............ Clearing O rgan izatio n .......................... Trade Associations ......... ..................... Federal Home Loan Banks ................. Federal Reserve Banks ........................ State Government ................................. 21 2 2 2 1 3 2 2 1 Total public comm ents ....... 36 Thirty-one commenters addressed the issue of a firm closing time for the bookentry securities service. The major topics discussed by these commenters include: (1) benefits of a firm closing time; (2) selection of an appropriate closing time; and (3) extensions of the scheduled closing time. The following discussion provides a summary of the comments received and the Board’s analysis of the issues raised. II. Benefits of Firm Closing Time Thirty commenters supported the establishment of a firm closing time for the Fedwire book-entry securities transfer service. Almost half of these commenters stated specifically that a firm closing time w ould reduce uncertainty about the final close and allow them to better plan stiffing and other resource needs, thus improving their ability to control costs. In addition, Aubrey Lanston & Co. noted that “a firm 3 B anks, bank h o ld in g com p an ies, a n d o perating su b sid iaries of b anks or b an k h o ld in g com panies. 4 E n tities ex ten siv ely in v o lv ed in tra d in g booke n try U.S. governm ent or federal agency securities. closing time would complement advances that have been made in the last year to reduce daylight overdraft charges, thus benefitting market participants w ith little additional costs.” Roughly one-third of the commenters addressing the concept of a firm closing time expressed support for the concept if the Federal Reserve Banks would exercise flexibility in granting “emergency” extensions. A few commenters believed that the current practice of granting frequent extensions is adequate for their processing and planning needs. Market participants have made significant operational im provements over the last ten years, including increased reliability and processing capability of their autom ated systems, that have affected average daily volume patterns. In addition, a num ber of initiatives im plem ented by the Federal Reserve Banks and market participants have altered the intraday pattern of Fedwire securities transfers.5 For example, prior to the im plem entation of daylight overdraft fees in April 1994, about 20 percent of the value of securities transfers on Fedwire was processed by 10:00 a.m., 40 percent by noon, and 75 percent by 2:00 p.m. Since January 1995, roughly 36 percent of the value of securities transfers on Fedwire was processed by 10:00 a.m., 65 percent by noon and 92 percent by 2:00 p.m. Over the last ten years, the average actual closing tim e of the Fedwire securities transfer system has moved from 5:30 p.m. to 3:15 p.m. The Board believes that a firm closing time for the Fedwire securities transfer service would allow market participants and the Federal Reserve Banks to manage resources more effectively and control costs w ith greater certainty than today. A firm closing time that accommodates the large majority of actual current closing times w ill reduce the frequency and duration of extensions and thus provide increased certainty w ith respect to the final closing time. III. Selection of Appropriate Closing Time Twenty-five commenters supported the proposed closing time of 3:00/3:30 p.m. Eleven commenters noted that establishing a closing time that is later 5 Specific initia tiv e s include: a $ 5 0 m illio n m axim um tra n sac tio n lim it for F e d w ire book-entry secu rities transfers; P u b lic S ecurities A sso c ia tio n ’s “ good delivery g u id e lin e s ” d e signed to encourage earlier-in-the-day settlem e n t of large secu rities deliveries; an d th e a sse ssm e n t of fees for daylight overdrafts in c u rre d in acc o u n ts h e ld a t the Federal Reserve. Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices than the current published closing time of 2:30/3:00 p.m. w ill provide extra processing time for securities transfers, w hich may be useful for some participants. Two com menters noted that the extra tim e w ould relieve some of the pressure of acting u p o n late instructions for outright sales and repo collateral activity and w ould facilitate a smooth daily transition from securities to cash processing. One com m enter suggested that expanding the closing tim e in this m anner w ould relieve industry bottlenecks on heavy settlem ent days and help prevent “fails” 6 on num erous occasions. Seven commenters believed there w ould be no benefit to changing the current closing time of 2:30/3:00 p.m. These commenters stated that the current schedule is adequate for their processing needs and should not be changed. For example, the Public Securities Association (PSA) noted that the current closing tim e provides sufficient certainty to the m arket for participants to plan for staffing and other needs. In addition, w hile Chemical Bank stated that it did not oppose a 3:00/3:30 p.m. closing time, it indicated that it has been able to process successfully its two highest volume days on record w ithin the current 2:30 p.m. closing tim e for securities transfer originations. Chemical Bank stated that there is no need to change the closing time, as long as the Federal Reserve Banks have the flexibility to extend the closing tim e w hen there are significant systems problems for a major participant. Eight commenters believed that the Board should establish a firm closing tim e later than the proposed tim e of 3:00/3:30 p.m. While the American Bankers Association (ABA) expressed support for the proposed closing time; it noted that several of its members would support a 3:30/4:00 p.m. closing time to allow extra securities processing time. Harris Trust and Savings Bank stated that w hile its customers w ould benefit from the additional processing time associated w ith a 3:00/3:30 p.m. closing time, the bank prefers extending the closing tim e to 3:30/4:00 p.m. to facilitate its broker custom ers’ needs arising from afternoon margin calls at the exchanges. The BOTCC argued that a 6:00 p.m. closing tim e w ould facilitate: (1) the afternoon settlem ent of futures transactions by perm itting securities to be sold or pledged to meet related settlem ent obligations; (2) the collection of original margin deficits in 6 A “ fail” o ccu rs w h e n th e sec u rities an d cash are no t ex ch an g ed as agreed on th e se ttle m e n t date, usu ally becau se o f te c h n ica l p ro b lem s. the afternoon by perm itting the transfer of securities to meet margin requirements; and (3) market participants’ ability to adhere to firm closing times. In addition, the BOTCC suggested that a 6:00 p.m. closing time could benefit customers of clearing members by increasing the likelihood that they would receive the proceeds of paym ents from clearing members on a same-day basis. Some commenters observed that a later close of the Fedwire book-entry securities transfer service w ill compress further the lim ited tim e available to complete overnight batch accounting cycles in anticipation of the 12:30 a.m. opening of the Fedwire funds transfer service, beginning in late 1997. Specifically, seven commenters indicated a fairly broad spectrum of end-of-day processing requirem ents and capabilities, ranging from 4 -5 hour to 1 0 -1 2 hour processing cycles. One com menter was unable to provide an estimate of the am ount of time required for overnight batch processing because of systems changes it needed to make to accommodate interstate branch banking. In addition, one commenter noted that a later closing time could cause some participants to deliver securities “at the last m inute” and another commenter argued that a later closing tim e would delay its funds settlement process. The current published closing time has been in place since the system was im plem ented in the late 1960s. Historically, the service has routinely closed later than 2:30/3:00 p.m. to accommodate operating problems and volume backlogs incurred by major participants. Recent experience indicates that although market participants have made substantial improvem ents to their automated systems and internal operations, the increased efficiency has not enabled a stable closing time of 2:30/3:00 p.m. During the first half of 1995, the Fedwire securities transfer system was extended beyond the scheduled closing tim e on 61 out of 126 days, or 48 percent of the business days; m ost of these extensions were due to system/ operating problems at a bank or major dealer. Extensions were granted on eight occasions to allow one of the clearing banks to complete its daily volume; generally, these volume backlogs were satisfied by 3:30 p.m. In the context of reviewing changes to the final closing time, State Street Bank and Trust suggested that the Board also review the need for a dealer-turnaround deadline, w hich currently is 2:45 p.m. State Street suggested that the original reasons for granting broker/dealers additional delivery tim e to customers 42411 are no longer valid in today’s automated environm ent and stated that this interm ediary deadline becomes more difficult to justify as operating hours are expanded. State Street indicated that there are no “class” distinctions w ithin other depositories. Dealer-turnaround time was established by the PSA as an industry guideline to promote the smooth functioning of the government securities market. Operationally, broker/dealers prioritize their work based on the PSA good delivery guidelines; processing transfers during the day first to other broker/dealers and later to their customers. The dealer-turnaround deadline has been reflected in the Federal Reserve Banks’ operating circulars; however, the Reserve Banks do not police participant activity with respect to this time. W hereas the Board’s original proposal suggested a closing tim e of 3:00/3:30 p.m., the Board believes that establishing a firm closing tim e of 3:15 p.m. for transfer originations and 3:30 p.m. for reversals is consistent w ith current practice 7 and w ould enable an orderly close of the government securities market. The Board believes that these closing times w ill satisfy adequately the known processing needs of market participants w ith respect to interbank transfers. The Board believes that the new closing time provides sufficient opportunity for market participants to complete daily deliveries, absent unusual operating or com puter problems.8 In addition, the Board’s action does not preclude the continuation of an industry standard for a dealer-turnaround time if the industry believes it is needed.9 The Board also believes that this new-closing time will not interfere w ith the normal end-of-day processing requirements of market participants and Federal Reserve Banks. The Board encourages market participants to continue efforts to improve the efficiency of back-office operations, especially as these may be necessary in anticipation of expanded Fedwire funds transfer service operating hours in late 1997. The Board believes that establishing a closing tim e later than 3:15/3:30 p.m. for the Fedwire securities transfer service is not w arranted at present. It is 7 T he existin g 2:45 p.m . d e a d lin e for dealer-toc u sto m er d eliv eries effectively re su lts in a reversals-only p erio d of 15 m in u tes. 8 T hose R eserve B anks th a t p e rm it re p o sitio n in g after the close of th e reversal p e rio d m ay c o n tin u e to do so. 9 T he F e d e ra l R eserve B anks’ book-entry s ec u rities operating circ u la rs w ill be m o d ified to e lim in a te reference to a separate d e a d lin e for dealer-to-custom er d eliveries. 42412 Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices not clear that the potential benefits of closing later than 3:15/3:30 p.m. are sufficient to outweigh the costs of a later close. The existing characteristics of the Fedwire securities transfer service, especially the inability to control the receipt of securities transfers delivered against paym ent, compel on-line participants to actively m onitor their accounts throughout the operating day. It is difficult to justify requiring participants to incur the additional expense associated w ith monitoring their Fedw ire securities activity when there is relatively little volume to be processed later in the day.10 W hile the BOTCC pointed out that a significantly later close of 6:00 p.m. would facilitate the afternoon settlem ent of futures transactions and perm it the transfer of securities to meet margin requirem ent, there are significant costs associated w ith delaying the back-end processing that takes place at depository institutions after the close of the Fedwire book-entry securities transfer service. In addition, a 6:00 p.m. closing tim e for the Fedwire securities service may require a later third-party deadline and final close for the Fedwire funds transfer service. Also, decreasing the tim e betw een the close of the Fedwire book-entry securities transfer service and the close of the Fedwire funds transfer service allows less tim e to accommodate securities-related extensions w ithout resulting in Fedwire funds transfer extensions. The Board is concerned about the possibility of securities-related extensions affecting the ability of the funds transfer service to close tim ely in light of its decision to open the Fedwire funds transfer service at 12:30 a.m. ET, beginning late 1997. Despite these concerns, the Board is willing to consider later closing times for the book-entry securities transfer service in the future and w ill continue to assess changes in market behavior and intraday volume patterns, as well as im provem ents in the efficiency of back office operations, that may call for such modifications. IV. Extensions of the Scheduled Closing Time Nine com m enters em phasized the need for Federal Reserve flexibility in granting extensions for unusual circumstances. In addition, five commenters encouraged the Board to provide guidance as to w hat circum stances w ould w arrant extension of the scheduled closing time. 10 R ecent d a ta in d ic a te th a t, o n average, less th an one p e rc en t o f th e aggregate v alue o f sec u rities transfers p ro c e sse d over F ed w ire re m a in s to be pro c e sse d after 3:00 p.m . Specifically, some commenters argued that extensions should be granted only to accommodate significant operating or com puter problems at a depository institution or major dealer or to prevent market disruption. PSA suggested that extensions also should be granted to accommodate the processing volume of large market participants. Two com m enters stated that the Board should develop more “equitable” guidelines for granting extensions, arguing that the criteria should be more relevant to the industry as a whole. For example, State Street Bank and Trust observed that the “current extension guidelines ($500 m illion or more in straight sells) favor the few banks which process the majority of securities transfers.” Although market participants have im proved significantly their automated systems over time, operational problems occasionally arise that interfere w ith the tim ely settlem ent of a participant’s Fedwire securities transfers. An operating problem at a participant that originates and/or receives a significant volum e of daily Fedwire securities transfers could affect the government securities market broadly by contributing to settlem ent gridlock. Settlem ent gridlock, if prolonged, could lead to systemic liquidity problems among dealers and other financial institutions, w hich could contribute to increased credit risks. The Board believes that it is essential for the Federal Reserve Banks to have the flexibility to extend the closing time of the Fedwire book-entry securities transfer system on an as-needed basis to facilitate the smooth functioning of the government securities market and to m inim ize the systemic risks that may arise due to significant operating problems at one or more depository institutions or major dealers. The Board believes that granting extensions in such circum stances provides for the orderly functioning of the government securities m arket and minim izes the num ber of failed trades. Because the Board expects all on-line participants to invest in the necessary autom ation resources to process peak volumes as w ell as normal volumes, the Federal Reserve Banks generally w ill not grant extensions based on circum stances arising from volume backlogs at a participant. V. Other Issues Commenters raised several other issues relating tc the closing time for the Fedwire book-entry securities transfer service. Specifically, these suggestions include im plem enting a free delivery period, considering an earlier close on certain days, and m onitoring/ disciplining participants for im proper actions during the reversal processing period. A. Free Delivery Period Bank of America suggested that in conjunction w ith implementing a firm closing tim e of 3:00/3:30 p.m., the Board should consider allowing depository institutions to make bank-to-bank transfers free-of-payment (also called “free deliveries”) for an hour after the close of the reversal period. Bank of America noted that depository institutions and their customers could use this processing w indow (i.e., from 3:31 p.m. to 4:30 p.m) to resolve major difficulties, such as correcting any operational errors or financing securities that inadvertently rem ained in the dealer’s account. The bank stated that if payment were required for a securities transfer to be delivered during this period, the buyer could send the payment via the Fedwire funds transfer system. Bank of America believes that this new service should be implem ented in January 1996. At present, the Federal Reserve Banks’ Fedwire book-entry securities transfer applications are unable to establish different closing times for interbank transfers that are “free” versus those that are against payment. The Federal Reserve Banks plan to im plem ent new software for the book-entry securities transfer service, called the National Book-Entry System (NBES), beginning in 1996. NBES w ill have the capability to differentiate certain types of transactions by time-of-day, w hich w ould enable the Reserve Banks to establish a special period for free deliveries of securities, for example. The functionality for processing “free” bankto-bank transfers after the close of the period for delivery-versus-payment transfers may be made operational in the future pending additional analysis. B. Earlier Close on Certain Market Holidays Crestar Financial Corporation suggested that the Board should consider closing the Fedwire book-entry securities transfer service earlier on days w hen the government securities market is closed and/or closes early. Crestar stated that “typically these are days w hen staff schedules vacations and there might be significant system wide savings if coverage did not have to be provided.” Each year, PSA announces a holiday schedule recom m ending full-day and partial-day closings of markets for U.S. government and mortgage securities and money market instrum ents. Typically, there is little Fedwire securities transfer volume to be processed on such days. As a result, the Federal Reserve Banks Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices generally have been able to close the should not send a transfer message for Fedwire securities transfer system the first time during the reversals-only period by using a reversal code and earlier than 2:30/3:00 p.m. on certain provides the receiver of such a transfer days designated in the PSA holiday w ith the ability to request an as-of schedule, such as Good Friday. For adjustment for im proper use of the example, on April 1 4 ,1 9 9 5 (Good Friday), depository institutions in the reversal code. The circular notes that use of the reversal code to resend a Second Federal Reserve District originated a combined total of about 650 transfer initially sent during the securities transfers, w hich were all origination period and im properly completed by noon, compared w ith reversed is not a misuse of the reversal average volum e of over 38,000 securities code. The Board believes that this transfers originated per day during provision provides sufficient protection to receivers of im proper transfer March 1995. Thus, the Federal Reserve Banks were able to close the system at messages and, as a result, it is not 1:30 p.m. on that day. necessary to institute additional As noted earlier, the characteristics of measures at this time. the Fedwire securities transfer service, VI. Effective Date of Proposed Changes especially the inability to control the Almost all of the commenters receipt of securities transfer delivered responding to the proposal believed that against payment, compel on-line January 1996 is a reasonable effective particip an ts to actively m onitor their date for establishing a firm closing tim e accounts throughout the operating day. for the Fedwire book-entry securities It is difficult to justify requiring transfer service. One commenter, participants to incur the additional however, suggested that it w ould be expense associated w ith m onitoring more prudent to establish an effective their Fedwire securities activity on date that is after the im plem entation of those days w hen no volume is the National Book-Entry System. processed later in the day. The Board believes that the benefits The Board believes that it is associated w ith establishing a firm appropriate for the Federal Reserve closing time of 3:15/3:30 p.m. for the Banks to continue to close the Fedwire Fedwire securities transfer service securities transfer service earlier than justify a near-term effective date that the published closing tim e on all or some days designated by the PSA as full perm its institutions to make any necessary internal operational/ or partial market holidays, w hen there procedural changes. The Board believes is relatively little volume to be that an effective date of January 2, 1996 processed. Shortly after the PSA is reasonable because the new closing publishes its annual holiday schedule, the Federal Reserve Banks w ill issue a time does not represent a material notice identifying the days on w hich it change from average actual experience. plans to close the securities transfer VII. Competitive Impact Analysis service earlier than 3:15/3:30 p.m. In The Board assesses the competitive addition, the Federal Reserve Banks w ill im pact of changes that may have a notify participants of the scheduled substantial effect on paym ent system early close approxim ately two weeks in participants. In particular, the Board advance of the particular date that Fedwire w ill be closed early, coincident assesses w hether a proposed change w ould have a direct and material with PSA’s rem inder notices for the adverse effect on the ability of other recom m ended market holiday. service providers to compete effectively C. Monitoring Improper Actions w ith the Federal Reserve Banks in During Reversal Period providing sim ilar services and w hether Two commenters expressed concern such effects are due to legal differences about the practices of some institutions that send securities transfer originations or due to a dom inant market position during the reversals-only period. One of deriving from such legal differences. Other providers of securities transfer these commenters inquired about the services do not provide services that are Federal Reserve’s ability to m onitor directly comparable to the Fedwire and/or report such practices, indicating that the Federal Reserve should penalize book-entry securities transfer service, because only the Federal Reserve Banks institutions for im proper use of the can provide final delivery-versustransfer reversal code. payment of securities settled in central The Federal Reserve Banks’ bookbank money. There are other privateentry securities services uniform sector systems, however, such as the operating circular sets forth the terms Government Securities Clearing and conditions governing access to the Corporation and the Participants Trust Fedwire book-entry securities transfer Company, that facilitate prim ary and service. In particular, paragraph 21 of secondary market trades of U.S. this circular indicates that a participant 42413 Treasury and/or agency securities. Other transactions involving U.S. government securities may be cleared and settled on the books of depository institutions to the extent that the counterparties are customers of the same depository institution. The Board does not believe that the establishment of a firm closing time for the Fedwire securities transfer system would have a direct and material adverse effect on the ability of other service providers to offer similar services. The Federal Reserve Banks, however, w ould m aintain their unique position of providing risk-free central bank settlement. By order of the Board of Governors of the Federal Reserve System, August 9, 1995. William W. Wiles, Secretary o f the Board. [FR Doc. 9 5 -2 0 1 2 7 Filed 8 -1 4 -9 5 ; 8:45 am) BILLING CO D E 8210-01-P 42418 Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices FEDERAL RESERVE SYSTEM [Docket No. R-0890] Federal Reserve Payment System Risk Policy Board of Governors of the Federal Reserve System. ACTIO N : Policy statement. AG ENCY: The Board has approved certain m odifications to its Fedwire third-party access policy to clarify its applicability and to reduce the administrative burden of several provisions. Some depository institutions have entered into arrangements under w hich a third party provides operating facilities for their Fedwire services; under such arrangements, the third party’s actions may result in a debit to the institution’s reserve or clearing account at a Federal Reserve Bank. The policy provides im portant safeguards to both depository institutions participating in third-party access arrangements and to the Reserve Banks. Among other things, the policy requires depository institutions to impose prudent controls over Fedwire funds transfers and book-entry securities transfers initiated, received, or otherwise processed on their behalf by a third-party service provider. These policy modifications are interim modifications, pending the com pletion of a broader review of supervisory policies that should be applicable to outsourcing arrangements. The review may result in further modifications to the policy; however, the Board believes that any further modifications w ill be in the same general direction as those made today. The Federal Reserve Banks w ill not approve any new third-party access arrangements involving a foreign service provider, pending further analysis of issues associated w ith such arrangements. EFFECTIVE D ATE: August 10, 1995. SUMMARY: FOR FURTHER INFORMATION C O N TAC T: Gayle Brett, M anager (2 02 /4 5 2 -2 9 3 4 ) or Lisa K. Hoskins, Project Leader (202/ 4 5 2 -3 4 3 7 ), Fedwire Payments, Division of Reserve Bank Operations and Payment Systems; for the hearing im paired only: Telecom m unications Device for the Deaf, Dorothea Thom pson (2 02 /45 2 -35 4 4 ). SUPPLEMENTARY INFORMATION: I . B a c k g ro u n d Fedwire is the largervalue payment mechanism ow ned and operated by the Federal Reserve Banks. Fedwire provides depository institutions w ith real-time gross settlem ent in central bank money of funds transfers and book-entry securities transfers made for their own account or on behalf of their customers. Typically, each depository institution that holds an account at the Federal Reserve processes its own transfers and accesses Fedwire directly. In some cases, however, a depository institution accesses Fedwire through a third-party access arrangement in which a service provider, acting as agent for a depository institution, initiates payments that are posted to the institution’s account at the Federal Reserve. Third-.party access arrangements are a form of outsourcing. Depository institutions use service providers to perform a num ber of functions, including customer accounting, check and automated clearing house (ACH) processing, and the processing and/or transm ission of large-value funds and securities transfers. Depository institutions have increasingly viewed outsourcing arrangements as one way to reduce operating costs. During the m id-1980s, the Board and Reserve Banks became concerned about the credit exposure faced by depository institutions that contracted w ith a thirdparty service provider to process Fedwire funds transfers on their behalf. Due to the concerns raised about the legal, supervisory, and payments system risk im plications of such arrangements, a moratorium on approving additional arrangements was im posed in 1985 until these issues could be reviewed and guidelines established. In July 1987, the Board approved a set of conditions under w hich Fedwire third-party access arrangements could be established, as part,of its payment system risk reduction policy (52 FR 29255, August 6 ,1 9 8 7 ). Specifically, the Board adopted a policy placing certain conditions on the ability of a service provider to initiate Fedwire transfers from a participant’s reserve or clearing account'held at the Federal Reserve.1 The Board’s original policy addressed two types of arrangements. Where the service provider and the participant are not affiliated, the participant m ust authorize each individual transfer before it is sent to a Reserve Bank. Where the service provider and the participant are affiliated, the participant may establish lim its w ithin w hich the 1 T he original issues su rro u n d in g th ird -p arty access arran g em ents arose in th e context of funds tran sfer arran gem ents, a n d the language o f the o rig in al p o licy reflected th is orien tatio n . B oard staff su b seq u en tly in te rp rete d the policy to in clu d e F ed w ire book-entry sec u rities tran sfer arrangem ents w ith in its scope. B oard staff also in te rp rete d the po licy to cover all situ a tio n s w here transfer in stru c tio n s are n o t c o m m u n ic ated directly to the R eserve B ank by the s e n d in g bank, b u t ra th e r are tra n sm itte d in d irec tly th ro u g h a n o th e r entity. service provider is authorized to act. For purposes of the policy, an affiliated service provider is defined as an organization that has at least 80 percent common ownership w ith the participant. Since the third-party access policy w ent into effect, the Federal Reserve Banks have approved approximately 500 third-party service arrangements.2 During this time a num ber of issues and requests for clarification have been raised with respect to the policy. These questions relate to: (1) the circum stances under w hich line-ofcredit arrangements can be used; (2) the responsibility of a participant to m onitor its reserve or clearing account in line-of-credit arrangements; (3) the need for a participant to have backup capabilities in the event the Federal Reserve Bank term inates the arrangement; and (4) the duties that may be assigned to personnel employed by the parties to the arrangement. Issues also were raised about the scope of the policy. Questions of scope include: (1) w hether the policy applies to arrangements for book-entry securities transfers as well as funds transfers; (2) w hether the policy applies to arrangements in w hich a service provider serves as a communications link but does not process the transfers; (3) w hether the policy applies when an institution contracts w ith a third party to process transfers that subsequently are routed through the participant to the Reserve Bank; and (4) w hether the policy applies to arrangements in which the service provider is located outside the United States. In considering m odifications to the Fedwire third-party access policy, the Board has determ ined that it w ould be useful to undertake a broader review of supervisory policies that should be applicable to a larger range of outsourcing arrangements. The staff has begun to review broader issues relating to outsourcing generally, including, for example, the extent to which term ination backup requirements should apply to other critical functions outsourced by banks and w hether foreign service provider arrangements should be subject to special conditions. It is possible that the Board w ill modify further the Fedwire third-party access policy following com pletion of the 2 T h e n u m b e r of c u rre n t arrangem ents is less th a n th e n u m b e r a p p ro v e d because of m ergers a n d changes in re la tio n sh ip s be tw ee n p a rtic ip a n ts and service providers. B ecause som e of th e ap p ro v ed a rran g em en ts in v o lv ed m u ltip le p a rtic ip a n ts using th e sam e service p ro v id e r, how ever, th ere m ay be m ore th a n 5 0 0 F e d w ire p a rtic ip a n ts c u rre n tly using th ird -p arty service p ro v id e rs for Fedw ire processing. Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices study. The Board believes, however, that any additional m odifications to this policy are likely to be consistent w ith the changes m ade today to reduce further the costs imposed by the policy. II. Provision-by-Provision Analysis The following identifies each provision of the revised Fedwire thirdparty access policy and discusses how and why it differs from the original policy provision. A. Scope Revised Provision The Board w ill allow third-party access arrangements whereby a sending or receiving institution (“the participant”) designates another depository institution or other entity (“the service provider”) to initiate, receive, and/or otherwise process Fedwire funds transfers or book-entry securities transfers that are posted to the participant’s reserve or clearing account held at the Federal Reserve, provided the following conditions are m et:3 Original Provision The Board w ill allow, under certain conditions, arrangements by w hich a depository institution or other entity (“the service provider”) could initiate Fedwire transfers from the Federal Reserve account of another depository institution (“the participant”). Such arrangements w ill be perm itted provided: The original policy applied to arrangements where funds transfers or book-entry securities transfers were charged or credited to a depository institution’s reserve or clearing account held at the Federal Reserve and for w hich the depository institution did not provide its transfer instructions directly to the Federal Reserve, but rather transm itted its instructions indirectly through another entity. The revised policy applies to the arrangements described above, as well as arrangements w here an institution contracts w ith a third party to process transfers that subsequently are routed through the participant to the Reserve Bank. The Board believes that, w henever a service provider plays a role in processing Fedwire funds transfers or book-entry securities transfers that affect the participant’s reserve or clearing account, the arrangement should be subject to the third-party access policy. The revised policy governs all 3 T h is p o licy a p p lie s to th ird -p arty access a rran g em en ts in w h ic h an office o f th e p a rtic ip a n t lo cated o u tsid e th e U .S. acts as serv ice p ro v id e r by in itia tin g , receiv in g , or o th erw ise p rocessing F ed w ire tran sfers o n b eh alf o f th e U.S. p artic ip a n t. arrangements in w hich a service provider has the operational ability to add or modify transfer instructions that will be posted to the participant’s reserve or clearing account held at the Federal Reserve. As a result, com m unications carriers whose sole job is to transm it transfer instructions between entities are excluded from this policy. The original policy is silent on w hether the service provider can be located outside the United States. The Reserve Banks have not approved any such arrangements; however, several inquiries have been received dining the last few years. Such arrangements raise a num ber of supervisory issues. In addition, because the original thirdparty access policy applies only to arrangements where the service provider is a separate legal entity from the participant, a Fedwire participant could designate an office of its bank located outside the U.S. to process Fedwire transfers on its behalf without obtaining prior approval from the Reserve Bank. The Reserve Bank and the prim ary regulator may be unaware of such an arrangement until discovered in the course of an examination. The Board believes that m any of the issues that arise w ith respect to foreign service providers also arise w hen a foreign office of a Fedwire participant processes that participant’s Fedwire transfers. Consequently, the Board has broadened the scope of the policy to include such arrangements. Any existing arrangements involving a foreign service provider m ust be reported prom ptly to the participant’s Reserve Bank. The Reserve Bank w ill work with the participant and its primary supervisor to determ ine the extent to w hich the arrangement complies w ith the policy and the appropriateness of the arrangement. No new arrangements involving the outsourcing of Fedwire processing to a foreign service provider w ill be approved by the Reserve Banks pending the completion of the Board’s analysis of issues associated with foreign service provider arrangements. B. Control o f Credit-Granting Process Revised Condition (#1) The participant retains operational control of the credit-granting process by (1) individually authorizing each funds or securities transfer, or (2) establishing individual custom er transfer limits and a transfer limit for the participant’s own activity, w ithin w hich the service provider can act. The transfer limit could be a com bination of the account balance and established credit limits. For the purposes of this policy, these arrangements are called “line-of-credit arrangements.” 42419 Original Condition (#1) The institution whose account is being charged (the “ institution”) retains control of the credit-granting process by individually approving each transfer or establishing credit lim its w ithin w hich the service provider can act. Original Condition (#12) No individual w ith decision-making responsibilities relating to the funds-transfer area may hold such a position in more than one affiliated institution participating in an approved arrangement. The Board believes that it is im portant for the participant to retain operational control of the credit-granting process under a third-party access arrangement. The revised language (1) clarifies that this condition applies to both funds transfer and book-entry securities transfer arrangements; (2) removes the restriction that line-of-credit arrangements are permissible only where the service provider an d participant are affiliated organizations;4 and (3) deletes the condition in the original policy that no individual w ith decision-making responsibilities related to Fedwire may hold such a position in m ultiple institutions participating in the arrangement. The Board believes that the participant can retain operational control of the credit-granting process either by individually authorizing each transfer based on specific parameters (e.g., custom er account balance and/or available credit line) or by permitting the service provider to make the same decisions the participant would have made based on the specific parameters established by the participant. Therefore, the Board does not believe it is necessary to lim it the circumstances in w hich line-of-credit arrangements can be used. The revised policy clarifies further that the transfer limits in line-ofcredit arrangements m ust be established by the participant for individual customer activity and for the participant’s own activity. Some participants may prefer to establish lines of credit for certain categories of transfers (e.g., custom er activity), but to authorize individual transfers for other categories (e.g., the participant’s own activity). The original provision prohibiting an individual w ith Fedwire-related responsibilities from holding such a position in m ultiple institutions participating in the arrangement was intended to ensure that a participant retains control of its reserve account and of its credit-granting function and does 4 In o riginal c o n d itio n 2, line-of-credit a rra n g e m e n ts w ere lim ited to p a rtic ip a n ts th a t used affiliated service pro v id ers. 42420 Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices not effectively relinquish control of these functions to the service provider. The Board believes that this condition has posed problems in cases where an individual w ith Fedwire-related responsibilities is an officer of m ultiple holding company affiliates that wished to establish Fedwire third-party access arrangements. The Board has deleted this specific provision from the revised policy, but continues to believe that it is important that the participant retain operational control of the establishm ent of criteria for approving Fedwire transfers handled by the service provider. C. Transfers That W ould Exceed the Established Transfer Lim it Revised Condition (#2) In funds transfer line-of-credit arrangements, the service provider must have procedures in place and the operational ability to ensure that a funds transfer that w ould exceed the established transfer limit is not perm itted w ithout first obtaining the participant’s approval. In book-entry securities transfer line-of-credit arrangements, the service provider m ust have procedures in place and the operational ability to provide the participant w ith timely notification of an incoming transfer that exceeds the applicable limit and must act upon the participant’s instructions to accept or reverse the transfer accordingly. Original Condition (#3) The service provider m ust not perm it or initiate transfers that w ould exceed individual credit limits w ithout first obtaining the institution’s permission. The Board believes that it is important to retain the condition that customer credit limits are operationally binding on the service provider and that the service provider may not exceed those lim its w ithout the participant’s permission. The language of this condition has been revised to distinguish between arrangements involving Fedwire funds transfers and book-entry securities transfers. In a funds transfer, the participant’s reserve or clearing account held at the Reserve Bank is debited w hen the transfer is processed; therefore, transfer lim its or controls m ust be in place before the transfer is made. In a book-entry securities transfer, however, the participant’s reserve/clearing account is debited for each incoming transfer; therefore, transfer lim its can only be m onitored in an ex post fashion. As a result, the service provider m ust be able to notify the participant in a timely m anner about incoming transfers that exceed the applicable lim it so that the participant can instruct the service provider to accept or reverse the transfer accordingly. D. Posting Transfers and Responsibility fo r Account M anagement Revised Condition (#3) Transfers will be posted to the participant’s reserve or clearing account held at the Federal Reserve, and the participant will rem ain responsible for managing its Federal Reserve account, w ith respect to both its intraday and overnight positions. The participant m ust be able to m onitor transfer activity conducted on its behalf. Original Condition (#5) All funds-transfer activity m ust be posted to the institution's account, and the institution w ill rem ain responsible for its account; Original Condition (#9) The institution m ust have the ability to m onitor transfers being made on its behalf. The revised condition (1) eliminates the language that lim its the condition to funds-transfer activity; (2) clarifies that responsibility for management of the participant’s reserve or clearing account, including control over daylight overdrafts, rem ains w ith the participant; and (3) incorporates the requirem ent that the participant be able to m onitor its transfer activity. E. Board o f Directors’ Approval Revised Condition (#4) The participant’s board of directors must approve the role and responsibilities of a service provider(s) that is not affiliated w ith the participant through at least 80 percent common ownership. In line-of-credit arrangements, the participant’s board of directors m ust approve the intraday overdraft lim it for the activity to be processed by the service provider and the credit limits for any inter-affiliate funds transfers.5 Original Condition (#4) The service provider m ust have the operational ability to ensure that the aggregate funds-transfer activity of the institution does not result in daylight overdrafts in excess of the institution’s cap. Original Condition (#6) The institution’s board of directors must approve the specifics of the arrangement, including (a) the operational transfer of its funds-transfer activity to the service provider, (b) the net debit cap for the activity to be processed by the service provider, and (c) the credit lim its for any inter-affiliate funds transfers. The Board has modified this condition to: (1) Limit the participant’s board of directors’ review of the roles 5 In cases w here a U.S. b ra n c h of a foreign bank w ish es to be a p a rtic ip a n t in a n a rran g em en t subject to th is p o licy , a n d its b o a rd of d irecto rs h as a m ore lim ite d ro le in th e b a n k ’s m anagem ent th a n a U.S. b o a rd , th e role a n d re sp o n sib ilitie s of the service p ro v id e r sh o u ld be re v ie w ed by sen io r m anagem ent a t th e foreign b a n k ’s h e ad office th a t exercises a u th o rity over th e foreign b a n k eq u iv a len t to the au th o rity ex ercised b y a b o a rd of directors over a U.S. d e p o sito ry in stitu tio n . and responsibilities of the service provider to arrangements where the service provider is not affiliated with the participant; (2) elim inate the language that lim its the condition to funds-transfer arrangements; (3) clarify that certain issues to be considered by the board of directors are pertinent only to line-of-credit arrangements; and (4) encompass arrangements where more than one service provider handles a participant’s transfer activity. The Board also acknowledges that the board of directors of a foreign bank might have more lim ited responsibilities than those typical of a U.S. board and has indicated that whatever body exercises similar authority in these situations w ould be the appropriate decision-maker with respect to the provisions of this policy that fall w ithin the purview of a participant’s board of directors. F. Backup Revised Condition (#5) The Board expects all participants to ensure that their Fedwire operations could be resum ed in a reasonable period of time in the event of an operating outage, consistent with the requirem ent to m aintain adequate contingency backup capabilities as set forth in the interagency policy (FFIEC SP-5, July 1989). A participant is not relieved of such responsibility because it contracts w ith a service provider. Revised Condition (#6) In cases where the service provider is not affiliated w ith the participant through at least 80 percent common ow nership, the participant m ust be able to continue Fedwire operations if the participant is unable to continue its service provider arrangement (e.g., in the event the Reserve Bank or the participant’s prim ary supervisor terminates the service provider arrangement). Original Condition (#8) The institution m ust have adequate backup procedures and facilities to cover equipm ent failure or other developm ents affecting the adequacy of the service being provided. This backup must provide the Reserve Bank with the ability to terminate a service-provider arrangement. The original backup requirem ent had two facets: (1) contingency backup to enable recovery in the event of an operating outage and (2) the ability of the participant to continue transfer activity in the event the arrangement w ith the service provider is terminated. The Board expects all Fedwire participants to m aintain adequate contingency backup capabilities in accordance w ith the policy adopted by the federal banking regulatory agencies; a participant is not relieved of such responsibility because it contracts with a service provider. Revised condition #5 references explicitly the interagency policy that requires a depository Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices institution to have contingency backup capabilities m ore broadly than for Fedwire processing. The original “term ination backup” requirem ent provided the participant’s Reserve Bank w ith the flexibility to term inate an arrangement if it determ ined that the service provider was in a precarious financial condition, was performing its responsibilities in an unsafe and unsound m anner, or was otherwise jeopardizing the condition of the participant. The term ination backup requirement can be satisfied either by (1) retaining the capability to perform the functions internally that have been delegated to the service provider; or (2) making arrangements w ith an alternate service provider to take over these functions in the event that the arrangement m ust be terminated. The Board recognizes that the term ination backup requirem ent may have m ade third-party access arrangements impractical for some large institutions, due to the expense required either to have the internal capability to take over the functions of the service provider or to arrange w ith a backup service provider that has the capability and necessary software to assume these functions on short notice. This condition could prevent some institutions from benefiting from the cost savings that could be derived from a third-party access arrangement. The Board has limited the term ination backup requirem ent to arrangements in w hich the service provider is not affiliated w ith the participant. Most of the arrangements that have been approved to date involve affiliated parties. In arrangements where the service provider is affiliated w ith the participant, the participant is likely to have inform ation about the service provider that w ould enable the participant to take actions to foster im provem ents in the financial condition and/or operating controls of the service provider before the situation deteriorates to the point that the Reserve Bank or the participant’s primary supervisor w ould be likely to term inate the arrangement. The Board believes it is necessary at this tim e to retain the term ination backup requirem ent for unaffiliated service provider arrangements in order to provide the Reserve Bank or the participant’s prim ary supervisor w ith a higher level of supervisory control over such arrangements. The Board notes that federal banking regulators currently do not require depository institutions to provide equivalent term ination backup capabilities for other critical functions, such as custom er deposit accounting (e.g., demand deposit accounting, or DDA) and loan processing, which provide management w ith information that may be necessary to approve Fedwire funds transfers and securities transfers. The Board plans to evaluate, as part of its broader review of outsourcing generally, the extent to w hich the “term ination backup” requirem ent should apply to other business applications/functions that are outsourced to a third-party service provider, especially where there are dependencies between such functions and the Fedwire funds transfer and securities transfer services. G. Consistency With Corporate Separateness and Branching Restrictions Revised Condition (#7) The participant m ust certify that the arrangement is consistent w ith corporate separateness and does not violate branching restrictions. Original Condition (#10) The institution m ust provide an opinion of counsel that the arrangement is consistent w ith corporate separateness and does not violate branching restrictions. The third-party access policy raises potential concerns regarding m aintenance of separate corporate identities betw een the service provider and the participant. Moreover,, given the definition of “branch” as a location at w hich deposits are received, checks paid, or m oney lent, certain third-party access arrangements may raise questions regarding w hether the location of the service provider is deem ed a branch of the participant. The Board believes that the participant should carefully review the arrangement for consistency w ith corporate separateness and state branching restrictions. Although the participant may desire an opinion of counsel to make this certification, the Board believes that the participant’s certification that the arrangement is consistent w ith corporate separateness and branching restrictions is sufficient and that the Reserve Bank need not require a copy of an opinion of counsel addressing these issues. H. Compliance With Applicable Laws and Regulations Revised Condition (#8) The participant m ust certify that the specifics of the arrangement will allow the participant to comply w ith all applicable state and federal laws and regulations governing the participant, including, for example, retaining and making accessible records in accordance w ith the regulations adopted under the Bank Secrecy Act. Original Condition None. 42421 In clarifying the scope of the policy, the Board believes it is im portant that the participant in a third-party access arrangement certify that the arrangement will be established in such a way to allow the participant to comply with all applicable state and federal laws and regulations, particularly those associated w ith record retention and availability of records, as required under the Bank Secrecy Act regulations (31 CFR Part 103). If, subsequent to establishing an arrangement, the Reserve Bank receives information that the operations or activities of the participant or its service provider do not comply w ith applicable state and federal laws and regulations, the Reserve Bank may terminate the thirdparty access arrangement. I. Primary Supervisor Revised Condition (#9) The participant’s primary supervisor(s) m ust affirmatively state in writing that it does not object to the arrangement. Original C ondition (#11) The prim ary supervisor m ust not pbject to the arrangement. The Board believes that it is im portant for the participant’s primary supervisor(s) to review, and affirmatively not object to, each proposed third-party access arrangement. The provision has been modified further to recognize that some state-chartered institutions m ust inform both state and federal supervisors. /. A u d it Program Revised Condition (#10) The participant must have in place an adequate audit program to review the arrangement at least annually to confirm that these requirem ents are being met. Original Condition (#13) The institution m ust have in place an adequate audit program to review the arrangements at least annually to confirm that these requirem ents are being met. The Board continues to believe that, because an agent is effecting transfers to and from the participant’s reserve or clearing account held at the Federal Reserve and because the arrangement originally approved may change over time, it is in the interest of the participant to have its auditors confirm compliance w ith proper procedures. 42422 Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices K. Service Provider Examination Revised Condition (#11) The service provider m ust be subject to exam ination by the appropriate federal depository institution regulatory agency(ies).6 Original Condition (# 2 )7 The service provider m ust be an affiliate of the institution, or, if the institution approves each individual transaction, an unaffiliated company. All service providers m ust be subject to examination. Depository institution service providers are subject to exam ination by the institution’s primary supervisor. Service providers that are nonbank subsidiaries of a bank holding company are subject to exam ination by the Federal Reserve. Service providers that are not depository institutions or affiliates of bank holding companies may be subject to exam ination pursuant to the Bank Services Corporation Act.8 Service providers that are subsidiaries of banks are subject to examination by the parent bank’s prim ary supervisor(s). The Board believes that the service provider m ust acknowledge that it is subject to exam ination by the appropriate federal depository institution regulatory agency(ies). The requirem ent that the service provider be subject to exam ination also applies to arrangements where the participant’s service provider arranges for a separate service provider to handle the participant’s Fedwire transfer^. L. Agreements Revised Condition (#12) The participant and the service provider(s) m ust execute an agreement w ith the relevant Reserve Bank(s) incorporating these conditions. Original Condition (#7) The institution and the service provider m ust execute an agreement w ith the relevant Reserve Banks delineating the terms of the agreement. This condition was revised to reflect the possibility that a participant’s transfer activity may be handled operationally by more than one service 6 T h e U .S. federal d e p o sito ry in stitu tio n reg u lato ry ag en cy (ies) m u st be ab le to ex am in e any asp e c ts o f th e service p ro v id e r as m ay be necessary to assess th e ad eq u acy o f th e o p e ra tio n s an d fin a n c ia l c o n d itio n o f th e serv ice p ro v id er. 7 T h e “ a ffiliatio n ” re q u ire m e n t for line-of-credit a rra n g e m e n ts is d iscu ssed in th e c o n tex t of revised c o n d itio n 1. 8 S e c tio n 7 (c ) o f th e B ank Services C orporation A ct p ro v id e s th a t “ * * * w h e n ev e r a b an k th at is reg u larly e x am in ed by an a p p ro p ria te Federal ban k in g agency * * * cau ses to be perfo rm ed for itself, by co n tract or o th erw ise, an y services a u th o riz e d u n d e r th is A ct, w h e th e r o n or off its p re m ise s * * * su ch p erfo rm an ce sh all be subject to re g u la tio n an d ex am in atio n by su ch agency to the sam e ex te n t as if su ch services w ere being p erfo rm ed by th e ban k itself o n its o w n p re m ise s.’’ provider in a given third-party access arrangement. The Reserve Banks have indicated that the conditions under w hich these arrangements could be established w ill be set forth in uniform appendices to the Fedwire funds transfer and book-entry securities transfer operating circulars. The uniform operating circular appendices w ould replace the individual com prehensive legal agreements that are currently used in most districts; would be easier to modify; and w ould govern arrangements of w hich the Reserve Bank otherwise may not be aware (for example, arrangements where transfers are processed by a service provider but transm itted to the Reserve Bank by the participant). The appendices to the operating circulars will include a model letter certifying com pliance w ith circular requirem ents that w ould be signed by the participant and the service provider(s). Such a letter could be useful in the event that a service provider, especially a non-depository institution, may not have agreed to abide by the terms of the Reserve Bank operating circular through the general agreement. The Board believes that it is not necessary for Reserve Banks to obtain new agreements for existing arrangements because the revised policy is less restrictive than the original policy. M. Review and Approval o f Proposed Arrangements Revised Condition (Closing Paragraph) The Federal Reserve Bank is responsible for approving each proposed Fedwire thirdparty access arrangement. In a proposed arrangement in w hich the participant is not affiliated through at least 80 percent common ow nership w ith the service provider and w here the participant is ow ned by one of the 50 largest bank holding com panies (based on consolidated assets), the Directors of the Division of Reserve Bank Operations and Payment Systems and the Division of Banking Supervision and Regulation m ust concur w ith the arrangement. Original Condition (Closing paragraph) In order to ensure consistency w ith the Board’s policy, each new arrangement should be reviewed by the Director of the Division of Federal Reserve Bank Operations prior to approval by the Reserve Bank. The Reserve Banks are responsible for approving proposed Fedwire third-party access arrangements before they become operational. Under the original policy, approval of all proposed arrangements was subject to review by Board staff. The Board believes that, given the num ber of existing third-party access arrangements, establishm ent of such arrangements has become more routine. Therefore, the Board has elim inated the requirem ent for Board staff review of most third-party access arrangements. The Board has retained, however, the requirem ent that Board staff review arrangements where the service provider is unaffiliated w ith the participant, and the participant is owned by one of the 50 largest bank holding companies (based on consolidated assets) before Reserve Bank approval. The Board believes that greater scrutiny of this subset of arrangements is warranted due to the significant value of the Fedwire transfers that would be handled by a service provider that is not affiliated w ith the participant. III. Effective Date The revised Fedwire third-party access policy becomes effective immediately. Existing Fedwire arrangements m ust comply by March 1, 1996. All arrangements established after the effective date m ust comply w ith the policy w hen established. IV. Competitive Impact Analysis The Board assesses the competitive im pact of changes that may have a substantial effect on payment system participants. In particular, the Board assesses w hether a proposed change w ould have a direct and material adverse effect on the ability of other service providers to compete effectively w ith the Federal Reserve Banks in providing similar services and whether such effects are due to legal differences or due to a dom inant market position deriving from such legal differences. The Federal Reserve Banks’ Fedwire funds transfer and book-entry securities transfer services provide real-time gross settlem ent in central bank money. While these services cannot be duplicated by private-sector service providers, banks can make large-dollar funds transfers through other systems, such as CHIPS, or through correspondent book transfers, although these transactions have attributes that differ from Fedwire transfers. Similarly, there are privatesector securities clearing and/or settlem ent systems, such as the Government Securities Clearing Corporation and the Participants Trust Company, that facilitate primary and secondary market trades of U.S. Treasury and agency securities. Other transactions involving U.S. government securities may be cleared and settled on the books of banks to the extent that the counterparties are customers of the same bank. The Board’s third-party access policy places conditions on arrangements in w hich a Fedwire participant may contract w ith another organization to Federal Register / Vol. 60, No. 157 / Tuesday, August 15, 1995 / Notices initiate, receive, or otherwise process Fedwire transfers. The Board has revised the policy to clarify its scope and reduce its adm inistrative and operational burden. Neither the original nor the revised policy adversely affects the ability of other service providers to compete w ith the Federal Reserve Banks to provide funds transfer or securities transfer services. V. Policy Statement The Board has am ended its “Federal Reserve System Policy Statem ent on Payments System Risk” under the heading “I. Federal Reserve Policy” by replacing “G. Third-party access arrangem ents” w ith the following: G. Fedwire Third-Party Access Policy The Board will allow third-party access arrangements whereby a sending or receiving institution (“the participant”) designates another depository institution or other entity (“the service provider”) to initiate, receive, and/or otherwise process Fedwire funds transfers or book-entry securities transfers that are posted to the participant’s reserve or clearing account held at the Federal Reserve, provided the following conditions are m et:1 1. The participant retains operational control of the credit-granting process by (1) individually authorizing each funds or securities transfer, or (2) establishing individual customer transfer lim its and a transfer lim it for the participant’s own activity, w ithin w hich the service provider can act. The transfer limit could be a com bination of the account balance and established credit limits. For the purposes of this policy, these arrangements are called “line-of-credit arrangem ents.” 2. In funds transfer line-of-credit arrangements, the service provider must have procedures in place and the operational ability to ensure that a funds transfer that would exceed the established transfer limit is not perm itted w ithout first obtaining the participant’s approval. In book-entry securities transfer line-of-credit 1 T h is p o lic y a p p lie s to th ird -p arty access a rran g em en ts in w h ic h an office o f th e p a rtic ip a n t lo cated o u tsid e th e U n ited States acts as service p ro v id e r by in itia tin g , receiving, o r o th erw ise p ro cessin g F ed w ire transfers on b e h a lf o f th e U.S. p a rtic ip a n t. arrangements, the service provider m ust have procedures in place and the operational ability to provide the participant w ith timely notification of an incoming transfer that exceeds the applicable limit and must act upon the participant’s instructions to accept or reverse the transfer accordingly. 3. Transfers will be posted to the participant’s reserve or clearing account held at the Federal Reserve, and the participant will remain responsible for m anaging its Federal Reserve account, w ith respect to both its intraday and overnight positions. The participant m ust be able to monitor transfer activity conducted on its behalf. 4. The participant’s board of directors m ust approve the role and responsibilities of a service provider(s) that is not affiliated w ith the participant through at least 80 percent common ownership. In line-of-credit arrangements, the participant’s board of directors m ust approve the intraday overdraft lim it for the activity to be processed by the service provider and the credit lim its for any inter-affiliate funds transfers.2 5. The Board expects all participants to ensure that their Fedwire operations could be resum ed in a reasonable period of time in the event of an operating outage, consistent w ith the requirement to m aintain adequate contingency backup capabilities as set forth in the interagency policy (FFIEC SP-5, July 1989). A participant is not relieved of such responsibility because it contracts w ith a service provider. 6. In cases where the service provider is not affiliated with the participant through at least 80 percent common ow nership, the participant m ust be able to continue Fedwire operations if the participant is unable to continue its service provider arrangement (e.g., in the event the Reserve Bank or the participant’s primary supervisor 2 In cases w h e re a U.S. b ra n c h of a foreign bank w ish es to be a p a rtic ip a n t in a n arra n g e m e n t subject to th is p o lic y , a n d its b o a rd of d irecto rs has a m ore lim ited ro le in the b a n k ’s m an ag em en t th a n a U.S. b o ard , th e ro le an d re sp o n sib ilitie s of th e service p ro v id e r sh o u ld be review ed by sen io r m anagem ent a t th e foreign b a n k ’s h ead office th a t exercises a u th o rity over the foreign b a n k e q u iv a len t to the a u th o rity ex ercised by a b o a rd of d irecto rs over a U.S. d ep o sito ry in stitu tio n . 42423 term inates the service provider arrangement). 7. The participant must certify that the arrangement is consistent with corporate separateness and does not violate branching restrictions. 8. The participant must certify that the specifics of the arrangement will allow the participant to comply with all applicable state and federal laws and regulations governing the participant, including, for example, retaining and making accessible records in accordance with the regulations adopted under the Bank Secrecy Act. 9. The participant’s primary supervisor(s) m ust affirmatively state in writing that it does not object to the arrangement. 10. The participant m ust have in place an adequate audit program to review the arrangement at least annually to confirm that these requirem ents are being met. 11. The service provider m ust be subject to examination by the appropriate federal depository institution regulatory agency(ies).3 12. The participant and the service provider(s) m ust execute an agreement w ith the relevant Reserve Bank(s) incorporating these conditions. The Federal Reserve Bank is responsible for approving each proposed Fedwire third-party access arrangement. In a proposed arrangement in w hich the participant is not affiliated through at least 80 percent common ow nership w ith the service provider and where the participant is owned by one of the 50 largest bank holding com panies (based on consolidated assets), the Directors of the Division of Reserve Bank Operations and Payment Systems and the Division of Banking Supervision and Regulation must concur w ith the arrangement. By order of the Board of Governors of the Federal Reserve System, August 9 ,1 9 9 5 . William W. Wiles, Secretary o f the Board. (FR Doc. 9 5 -2 0 1 3 6 Filed 8-14 -9 5 ; 8:45 am] BILLING C O D E 6210-01-P 3 T h e U .S. federal d e p ository in stitu tio n regulatory ag en c y (ies) m u st be able to exam ine any a sp ects of th e service p ro v id e r as m ay be n ecessary to assess th e a d eq u acy of the o p eratio n s a n d fin an cial c o n d itio n of th e service provider.
@FedFRASER