Working Capital

The Federal Reserve has provided payment and settlement services for more than a century. But FedNow, the instant payments service rolled out in late June 2023, is the first new Fed payments rail in fifty years. Though payment and settlement are crucial pillars of economic transations and global money flows, disinterest persists regarding these financial pipelines.

Tim van Bijsterveldt is Executive Director-Liquidity & Account Solution Specialist at JPMorgan Chase & Co. Based in Singapore, he helps corporates free up cash and improve their cost base. In this interview, van Bijsterveldt and Elham Saeidinezhad discuss the structure of the wholesale payment system and the role of corporate treasurers in navigating and transforming it. Read Saeidinezhad’s overview on risk management and the payments system here.

An interview with Tim van Bijsterveldt

ELHAM SAEIDINEZHAD: Would you please walk us through what you do daily at JPMorgan Chase—who are your clients, what are their problems, and how do you help them resolve them?

TIM VAN BIJSTERVELDT: Broadly, I’ve got two types of clients: traditional corporates and digital businesses. They’re interested in balancing short-term and long-term investments while ensuring payment obligations are met. For a corporate treasurer, aligning investment timelines with the corporate debt maturity profiles is a classic payment consideration.

However, risk management has been added to payment-related concerns in recent years. Before, treasurers were concerned with moving money around. Today, they’re tasked with ensuring that the money is in the right currency and amount, exactly when they need it. It is worth emphasizing that the recent supply chain disruptions have added to the need for risk management. Traditionally, companies did cash forecasting on a forty-five-day or thirteen-week period. After the disruptions resulting from COVID, including the Suez Canal blockage, they’ve begun to ask whether it’s possible to bring forecasts down to one to three days. Corporate treasurers have started to look not just at risks but also at risk management strategies, such as mitigation and automation.

This has happened across traditional corporate and digital economy clients, despite the different stakes in the supply chain issues. Digital supply chains don’t always contain goods; some may sell licenses, meaning their client will never own that product.

On the other hand, manufacturers purchase from independent factories and sell their products to their customers. In doing so, they legally swap ownership from one party to another. As a result, traditional manufacturers generally are better positioned to forecast demand for their commodities, such as automobiles, agricultural products, etc.

ES: A firm’s business model, traditional versus digital, shapes its sales and hence, its liquidity management strategies. There needs to be more understanding, in academia as well as policy circles, of the different techniques that corporate treasurers use to manage liquidity. A fragment of monetary theory, called Money View, pioneered by Perry Mehrling, which studies liquidity management in broader macroeconomic conditions, thinks of corporate treasurers’ function as primarily balancing between elasticity and discipline—the flexibility to meet daily payments without holding too many liquid assets. That is in the spirit of what Hyman Minsky called “the survival constraint.” What do you make of that?

TvB: This understanding of corporate treasurers’ payment solutions, meeting daily survival constraints, is useful but somewhat incomplete. Treasurers operate with three buckets of cash. The first serves operational needs—what we need to get through the day. Based on what happened yesterday, we account for any big anticipated payments or cash influxes. If I’m short on money but know I have a cash inflow coming in later, I will likely delay my payment run rather than borrowing externally. The less external borrowing, the better. This is meeting survival constraints.

However, corporate treasurers have other types of cash management concerns. Their solutions to these concerns might have broader implications for the modern ecosystem. The second bucket of cash is precautionary—what we keep under the mattress in case the business, or the market, suddenly falls short of liquidity. Notably, precautionary cash management is beyond deciding whether the company is liquid enough to meet today’s cash flows. Indeed, corporate treasurers regularly change payment solutions to manage precautionary cash, even when they have enough short-term liquidity. This sort of pocket cash is placed somewhere accessible, a bank account or money market fund, which we can redeem early. The corporate treasurer’s job is regularly changing how much money to hold in such funds and accounts.

Finally, we have the reserve cash, which is invested for long-term acquisition or long-term debt payment. These might be placed in structured deposits like the FX market. In this case, the corporate treasurer might be certain that the firm can meet its daily survival constraint in the domestic currency. The firm might also have enough liquid assets in money market funds and similar institutions. Still, it is the job of corporate treasurers to manage long-term payments, for instance, the ones denominated in foreign currency, by undertaking long-term investment strategies that include structured products.

It is important to note that risk management solutions are embedded in the second and third types of cash management strategies. In the second type, the corporate treasurer wants to safeguard the payments against funding shocks in the financial market or disruption in the supply chains. In the third type, most treasurers explicitly try to protect their firms’ cross-border payments against fluctuations in the foreign exchange market.

ES: As you described, risk management is embedded in modern payment solutions. Traditional risk managers are usually among the corporates’ most innovative groups, whenever market conditions change. Given that corporate treasurers, traditionally tasked with managing payments, are also doing risk management, how might their approach to their job change?

TvB: One clear example is the  change in the interest rate trajectory. Many treasurers kept their money in bank accounts, when the interest rates were near zero. It was cheaper to borrow externally than spend your own money. Since interest rates have increased, we see them using their money more. This is a change in liquidity management, induced by interest rates.

Regarding market events, we see much more placed in the precautionary bucket and far less in the reserve bucket. Translating this into the risk management perspective means that corporate treasurers are mostly concerned about supply chain and funding market disruptions, due to the change in the interest rate environment, rather than fluctuations in the foreign exchange market. Even reserve cash companies are increasingly looking for products they can redeem early if needed.

ES: Is there a  way to tackle such problems?

TvB:  At the core of this problem is that many treasurers do not have a complete view of their money across entities and the world. They have different banking relationships; they have no choice in some markets. For example, you often cannot decide where people will pay in Korea. Instead, the payee tells you which bank they will pay into. And not all of these local banks are connected to global payment networks like SWIFT. For example SWIFT messages do not carry Chinese characters—that means you have a lot of banks in China that are not connected. One e-commerce company that I work with in Asia, because of what they do, they will always need local banking partners. They’ve enabled everyone they can on SWIFT, but it only gives them 60 percent visibility.

Most of the time, we start asking how we can increase visibility and then shift to thinking about increasing control—often through cash consolidation. The level of control you have as a treasurer depends on your banking partner, but it also depends on your internal organization. Suppose you’re a company that has grown through acquisition. In that case, the financial controller of the acquired company might continue to hold onto the money, particularly if they have been doing well. In many emerging markets, we also have family-owned companies where relatives do not always want to share ownership of liquidity. In that case, you need to consider family issues—you may not have access to a company’s liquid assets.  Locations where you operate also determine whether you can mobilize cash effectively between companies, often supported by intercompany loans.

We often look at cash on the balance sheet to assess liquidity. We look at the level of short-term debt versus long-term debt, the weighted average cost of capital. How costly is it for them to attract capital if they need it? That gives us a sense of how creditworthy the company is but also the value-add of cash consolidation. We then look at where they operate: whether in markets with fungible currencies like the US, Europe, Singapore, Australia, Hong Kong, etc.; in semi-restricted markets like Thailand, Indonesia, Chile, or some countries in the Middle East, where it’s fairly easy to move foreign currency in and out but not the local currency; or in highly restricted markets like Argentina, India, Vietnam and quite a few in Sub-Saharan Africa, where it can be challenging to get money out.

ES: So capital control measures in different jurisdictions affect payments and firms’ ability to manage their cash. We don’t normally recognize the impact of capital controls on payments in international finance literature. Can you elaborate?

TvB: Capital controls affect firms’ payment solutions and ability to mobilize cash. Sophisticated treasury organizations are moving towards what we call an “in-house” bank. Using the company’s resources for financing, an in-house bank consolidates treasury functions—such as funding, FX, and cash management—into one central entity, rather than having each subsidiary work through a different local bank. It allows corporates to observe banking, currency risk, and payments centrally, with little restrictions for fungible currencies.

 A firm operating in semi-restricted markets can consolidate intercompany loans through strategies such as in-house banking. Such concentration means most loans are denominated in US dollars rather than the local currency. Nonetheless, this challenges local branches of such firms because they suddenly face new US dollar exposures. This is why even when companies decide to take money out of a semi-restricted country, it is recommended to prioritize risk management strategies such as natural hedging—ensuring that the payments and collections offset each other and only taking out excess structural expenses.

We observe a shift towards commercial arrangements between different companies rather than intercompany loans. In this case, for example, a local firm becomes the service provider to the in-house bank or central entity. In the process, this payment strategy changes the business model for the parent company. Before, the firm would deal with its clients in different countries through local entities. But now, a company in an open economy would invoice clients directly while another local company in a closed economy would provide the service to the other company’s client. For example, as a chair producer, I may not want to deliver chairs from Singapore (an open economy) to Thailand (a closed economy). Instead, I would pay a local Thai company to make and deliver the chairs the person bought. I have funded the Thai entity for its operations through commercial arrangements.

This arrangement, called “cost-plus-funding,” doesn’t fall under inter-company loan regulations. It is a commercial flow, as if I bought something from the company. Because it’s a commercial flow, there are no capital controls.

ES: You mentioned the benefit of a natural hedge—ensuring that the inflow and outflow match. How often do companies use this strategy to hedge against risks such as foreign exchange?

TvB: Primarily, companies try to operate in a single currency. For example, oil and gas companies mostly care about the US dollar. They are more likely to accept the risk of a fluctuation in the value of the local currency to the dollar and hold 80-90 percent of their balance sheets in dollars. The risk is preferable to the cost of actively managing the funds in other currencies that may apply to their downstream businesses.

However, matching the currency denomination of the cash inflows and outflows is sometimes possible and preferred for other industries, where local entities often have payment obligations and collections in the same currency. In such instances, a company should only consider structural excess to be made available to the in-house bank to avoid unnecessary conversions.

ES: New trends like the growing global commodities market segmentation seem to make natural hedges more difficult. Indeed, the Russia-Ukraine war gave rise to severe dislocations in many commodity markets.

TvB: Such sudden fragmentation of physical markets have potential payment repercussions and important implications for the ability of corporate treasurers to use natural hedges. This is an important consideration for the payment, and I am still waiting to see it being discussed extensively.

ES: Now, I want to connect the hedging with the currency hierarchy. The idea is that not all currencies are created equally in global trade. Reserve currencies, such as the US dollar, are at the higher layer of the hierarchy and are the most stable, while the rest are at the lower layer. Let us, for the moment, accept such a characterization. From a corporate treasurer’s perspective, can we argue that the higher up the ladder of currencies your interests are, the less likely you are to hedge?

TvB: It’s more about proportion than hierarchy. For example, if I’m between 70 to 90 percent dependent on a single currency, I might not want to invest time in managing the risk. On the other hand, if I have large commercial flows denominated in different currencies or operations, I want to manage this risk more actively.

Every time firms do a Forex transaction, they might be subject to value dating. In Forex trading, the value date is a future delivery date on which counterparties to a transaction agree to settle their respective obligations by making payments. For example, converting USD to Thai Baht takes two days, simply because of the time zone difference. The converting company loses two days’ worth of money in the process. In addition, the prices can fluctuate. FX swaps help the corporate treasurers fix the rates in advance.

So to have same-day access to Thai Baht, a company needs to open an account in Thailand. And a natural hedge helps reduce the number of time FX transaction is required. We help companies develop strategies to access foreign currencies straightaway. One is sweeping: the automated transfer of funds between two accounts. The other is notional pooling, where I can have one account in deficit if another account is in surplus. So if I have a negative Singaporean dollar but a positive US dollar, my access to Singaporean dollars is not seen as borrowing. Companies can take out a basket of fungible currencies, and as long as the overall remains positive, they can draw down against it at preferential rates. This solution also removes the risk of settlement or payment disruption because automated payments will continue to go through as long as they have sufficient money in any currency.

ES: Let’s shift to looking at the payments system more broadly. In a loose characterization, the first step is when the payment happens, and that’s the job of treasurers. In the second stage, the clearing, the exchange of payer-payee information occurs. And in the last phase, the final settlement happens between banks. We’ve been discussing the first stage and how JP Morgan helps treasurers navigate their complex options. But once these decisions are made, the clearing and final settlement should also happen. Can you talk more about the relationship between these three stages?

TvB: The funding of the payment obligations is indeed the responsibility of treasurers. There are different payment methods for payment initiation or collection. One is wires, either domestic or cross-border, which is often used for high-value and urgent transctions. Another is real-time payments such as FedNow but there are transactional limits on these that are often not high enough for companies to pay their invoices. Alternatively, they may use ACH for less urgent, bulk payments or leverage direct debits to collect funds.

Each of these has a different mechanism for clearing with central banks but each also have a different processing time and risk profile. The Fed wire doesn’t require too much explanation. Cross-border wires have changed a lot in recent years. It used to take up to a week from the US, but now technologies are available that effectively wire within two minutes, using blockchain. ACH often can cancel because it gets executed the day after it is ordered, while real-time payments are guaranteed and irrevocable. Payment types may therefore feed into risk management practices.

Some countries have a mandate system‚ where a debit authorization needs to be in place for direct debits. By contrast, in the US, anyone can just debit you, and you can go and complain afterward. You can be debited in real time if we’re employing direct debits. This makes corporates very nervous, because direct debits have no transactional limits. But companies like to set up direct debits for recurring costs, so treasurers can account for them easily with little intervention.

Some banks have now initiated additional measures to protect clients, where they can automatically deny payments above a given amount. Banks also want to make sure they can settle all the payments that come in daily, so they are interested in limiting payments on the upper end.

ES: I want us to talk about the liquidity transformation at the heart of the payment system. The first payment stage is often made through credit-based instruments or cash, while the last step happens through the highest quality form of money, i.e., reserves. From a financial stability perspective, how concerned should we be about this transformation?

TvB: This is more of a concern now with the rise of digital payment providers. We have the proliferation of payment service providers which are not FDIC secured. Instead, in the US, we have “posthumous deposit insurance.” This means that after a firm collapses, government agencies have no option but to extend their clients’ deposit insurance. If I’m a client of a bank, I pass that insurance to my own clients in the US. But this doesn’t exist in Singapore or Australia. It’s on the account holder to have that additional insurance.

These payment service providers have started to work together to expand their reach and to move money in a cost-efficient way. It does not necessarily reduce transparency, because they still need to report on what’s happening. They are often still required to get a license in the places where they operate, but central banks do have less direct control or visibility over the transactions taking place, especially when the company operates offshore.

Central banks have responded to this through onshoring regulation, at least on my side of the world. China, Japan, Taiwan, Korea, and Indonesia, among others, created strict rules on who can access data. As I mentioned, they also require the entity to be locally incorporated. This is really the next stage in protecting the consumer. We also see the introduction of local alternatives to global payment methods like Visa or MasterCard. With these local options, central banks have become even more active risk managers in the market.