CIPS – China’s Hybrid Net Settlement Clearing System

CIPS will replace the current arrangement for offshore CNY which uses designated clearing banks. CIPS does not replace SWIFT, but  uses SWIFT messaging and formats. The net result is faster and more reliable cross-border CNY payments for all users.

What is CIPS?

We all thought CIPS stood for China International Payment System. But ever keen to keep us on our toes, China has apparently renamed it China Cross-border Inter-Bank Payment System. Thankfully they have kept the acronym CIPS. The new name does spell out some important aspects of CIPS: namely that CIPS is cross-border and interbank.

In essence, CIPS provides controlled cross-border access to the onshore CNY clearing system CNAPS2 (China National Automated Payment System version 2) for use in offshore and cross-border CNY payments, so that offshore CNY settlement can access onshore liquidity directly. It is modelled on USD CHIPS, i.e., it is a hybrid net settlement clearing system.

As such CIPS will gradually replace the nominated clearing banks in various financial centres (BOC in Hong Kong, ICBC in Singapore, CCB in London and so on) with controlled access to CNAPS2. (In the old model the designated clearing banks provided controlled and unstandardised access to CNAPS2.) CIPS is an important step in making CNY more useable globally and another step on the way to SDR and eventually full convertibility (but allowing the People’s Bank of China [PBoC] to keep things under control for now).

As its new name implies, CIPS is an interbank clearing system with final settlement onshore. Corporates will not join CIPS – we will use CIPS through banks just as we use FedWire or SEPA. CIPS has eleven Chinese and eight  global direct access banks, plus hundreds of indirect access banks (who go through the direct access banks).

CIPS is not replacing SWIFT

For some reason the press have got hold of the idea that CIPS will replace SWIFT, probably because this makes for more exciting headlines. In reality, CIPS uses SWIFT messaging as well as SWIFT standards – specifically ISO20022 XML which supports Chinese and other extended character sets.

CIPS helps corporates

Despite being an interbank system which is primarily aimed at financial institutions (the implications are exciting fund managers and other investors), CIPS also helps corporates in several ways, including:

Extending CNY cut-off time by three hours

CIPS extends offshore CNY cut- off time from the current 17:00 to 20:00 China time. This is later than the CNAPS2 cut-off time, so I am not sure how that will work. One commentator suggested that the CNAPS2 cut-off will probably be extended accordingly. This helps CNY settlement in far-off time zones – though 08:00 New York time is probably not enough to bring same day value to America’s CNY settlers.

Partially resolving the problem with POP codes

CIPS promises to deal with the problem with POP (Purpose of Payment) codes in the current arrangement. (See http://tiny.cc/r6cy7x for details.)  Under the current arrangement of designated clearing banks, each clearing bank invented its own POP codes, meaning that corporates have to maintain different POP codes for each designated clearing bank. (Don’t ask me why!)

Under CIPS the POP code is given by the beneficiary in China, who can give the correct domestic POP code. The problem is that, under CIPS, the POP code is given by the beneficiary upon receipt of funds – some banks do not credit funds until the beneficiary has given them the POP code, leading to lost value days; better banks credit immediately against a promise to receive the POP code within a week. So corporates need to make sure that their onshore subsidiaries make appropriate arrangements with their bank to get credited with good value against a promise to provide POP codes within five working days.

Improving STP

CNAPS2 has over 100,000 bank branch codes, and getting payments to the correct branch has been a big problem. Technically I do not understand why this is so difficult because CNAPS2 branch codes are numeric so should pass easily from MT103s to CNAPS2. But it is a problem, and CIPS will go part way to fixing this problem with BIC codes that cover 3000+ branches in CNAPS2. (I would have liked to be in the room when they dreamed this one up!)

Obviously these new BIC codes only cover 3% of Chinese bank branches. Many other countries have bank branch codes (e.g., sort codes in GB, BSB in AU) and they are able to handle them quite easily in both FIN (MT103 et al) and ISO20022 (pain.013 et al) so one has to wonder about the design choices here. Maybe this will be sorted out in CIPSv2?

Reducing manual repair at banks

A SWIFT representative said that the global repair rate on USD payments is 5%. This left me gobsmacked – 1 in 20 USD payment needing manual intervention?  I would have guessed 0.05%, and that’s still far from six sigma. For CNY it is 15%. SWIFT expects CNY under CIPS to be as ‘good’ as USD, and initial data support this expectation. Manual repair may also be an excuse for holding payments to earn float. CIPS will reduce the banks’ ability to blame theft of value days (aka float) on clearing system deficiencies.

Eliminating float on CNY flows

Many but not all corporates report that they commonly lose one value day on CNY cross-border payments in float – aka legalised highway robbery by banks. There is no intrinsic reason why this should be the case. It may be related to the manual repair that banks often report to be necessary in the old clearing arrangement.

This will be eliminated or at least greatly reduced by CIPS, largely by reducing the complexity inherent in the current arrangements and by improving and standardising connectivity (as described above). Obviously we will need to see CIPS in practice to verify this, but treasurers are optimistic.

Conclusion

It may take a while to get to the level of automation and STP we see in G3 currencies, but CIPS is definitely a big step in the right direction for CNY internationalisation.