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An Application of Shapley Value Cost Allocation to Liquidity Savings Mechanisms

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  • Rod Garratt

Abstract

Liquidity demands in real-time gross settlement payment systems can be enormous. To reduce the liquidity requirement, central banks around the world have implemented liquidity savings mechanisms (LSMs). The most effective LSMs are those that economize on liquidity needs by matching offsetting payments that have been submitted to a central queue and settling these payments using only the liquidity needed to cover the net obligations. Maximizing the value of payments settled in a queue given available liquidity is computationally difficult. Existing centralized queuing systems do not always meet this objective. Even when they do, the resulting outcome does not necessarily maximize system welfare. This paper seeks to improve upon existing centralized netting queues by making two fundamental changes. First, instead of making decisions on how much liquidity to provide to the queue before netting arrangements are determined, banks receive take-it-or-leave-it offers that determine which of their payments will be settled as well as their share of the liquidity cost. Second, rather than attempting to maximize the value or volume of payments settled in the queue, I propose using information regarding the instantaneous benefits and costs of participants to define a welfare measure for any set of netted payments. The full benefits of these two changes are realized through an application of the Shapley value cost allocation method, which ensures welfare maximizing netting proposals are always accepted.

Suggested Citation

  • Rod Garratt, 2019. "An Application of Shapley Value Cost Allocation to Liquidity Savings Mechanisms," Staff Working Papers 19-26, Bank of Canada.
    • Handle: RePEc:bca:bocawp:19-26
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    References listed on IDEAS

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    1. Rod Garratt & Antoine Martin & James J. McAndrews, 2014. "Turnover in Fedwire Funds Has Dropped Considerably since the Crisis, but It's Okay," Liberty Street Economics 20140825, Federal Reserve Bank of New York.
    2. Angelini, Paolo, 1998. "An analysis of competitive externalities in gross settlement systems," Journal of Banking & Finance, Elsevier, vol. 22(1), pages 1-18, January.
    3. Morten L. Bech & Rodney J. Garratt, 2012. "Illiquidity in the Interbank Payment System Following Wide-Scale Disruptions," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 44(5), pages 903-929, August.
    4. Ball, Alan & Denbee, Edward & Manning, Mark & Wetherilt, Anne, 2011. "Financial Stability Paper No 11: Intraday Liquidity - Risk and Regulation," Bank of England Financial Stability Papers 11, Bank of England.
    5. Lindsay, Luke, 2018. "Shapley value based pricing for auctions and exchanges," Games and Economic Behavior, Elsevier, vol. 108(C), pages 170-181.
    6. Morten L. Bech, 2008. "Intraday liquidity management: a tale of games banks play," Economic Policy Review, Federal Reserve Bank of New York, vol. 14(Sep), pages 7-23.
    7. Davey, Nick & Gray, Daniel, 2014. "How has the Liquidity Saving Mechanism reduced banks’ intraday liquidity costs in CHAPS?," Bank of England Quarterly Bulletin, Bank of England, vol. 54(2), pages 180-189.
    8. Jean-Charles Rochet & Jean Tirole, 1996. "Interbank lending and systemic risk," Proceedings, Board of Governors of the Federal Reserve System (U.S.), pages 733-765.
    9. Chakravorti, Sujit, 2000. "Analysis of systemic risk in multilateral net settlement systems," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 10(1), pages 9-30, January.
    10. Norman, Ben, 2010. "Financial Stability Paper No 7: Liquidity Saving in Real-Time Gross Settlement Systems - an Overview," Bank of England Financial Stability Papers 7, Bank of England.
    11. Roth, Ae & Verrecchia, Re, 1979. "Shapley Value As Applied To Cost Allocation - Reinterpretation," Journal of Accounting Research, Wiley Blackwell, vol. 17(1), pages 295-303.
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    Cited by:

    1. Jushua Baldoceda & Anthony Meza, 2022. "Liquidity Risk and Interdependence in Payment Systems: The Case of Peru," IHEID Working Papers 01-2022, Economics Section, The Graduate Institute of International Studies.
    2. Christopher McMahon & Donald McGillivray & Ajit Desai & Francisco Rivadeneyra & Jean-Paul Lam & Thomas Lo & Danica Marsden & Vladimir Skavysh, 2022. "Improving the Efficiency of Payments Systems Using Quantum Computing," Staff Working Papers 22-53, Bank of Canada.
    3. Pablo S. Castro & Ajit Desai & Han Du & Rodney Garratt & Francisco Rivadeneyra, 2021. "Estimating Policy Functions in Payments Systems Using Reinforcement Learning," Staff Working Papers 21-7, Bank of Canada.

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    More about this item

    Keywords

    Payment clearing and settlement systems;

    JEL classification:

    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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