Special Paper No.200
March 1991
ISSN 0067 3692
Bank of Japan
Introduction
I. Background of BOJ-NET Development
II. Services
Funds transfer service
Foreign exchange yen settlement service
JGB service
III. Other Features of the System
System architecture
Security and contingency measures
IV. Participants and Transactions
Participants
Settlement volume
V. Future Perspectives
The primary function of BOJ-NET (Bank of Japan Financial Network System) is to process transactions data between the Bank of Japan and financial institutions through its on-line network. The Bank of Japan started developing BOJ-NET in 1982 when the basic design was first discussed. After completion of various tests, on-line processing in the funds transfer service through BOJ accounts was introduced in October 1988, followed by the foreign exchange yen settlement service in March 1989, and the JGB (Japanese government bond) service in May 1990. This paper is an overview of the background of BOJ-NET development, its services, other features of the System, and how it is used.
Rapid progress in computer and communication technologies in recent years has led to the emergence of innovative instruments and transactions with lower costs. Such technologically-based development, along with market deregulation and increase in cross-border transactions, has tremendously increased the volume of transactions and of subsequent payments, and it has brought about globalization of transactions and payment networks. Japan is no exception: the volume of transactions in its major financial markets has been rapidly growing; so has the value which is processed through the major payment systems (Chart 1).
Under such circumstances, financial institutions have promoted sophistication of data-communications and processing methods to provide customers with better services. As a result, on-line payment network systems in the financial community have developed at a remarkable pace.
It is, therefore, essential for the central banks to computerize their services so as to adjust to the current financial environment, taking advantage of technological innovation. Like many other central banks, the Bank of Japan plays a crucial role in the country's payment system. To take an example, payments between firms are usually made by transfers between clearing banks, using a check, a bill or a money order; and resulting debit and credit balances among banks are settled by means of payment with finality, that is, transfers across accounts held by banks at the central bank. These accounts are also used for settling a huge amount of money market transactions between financial institutions, and also for settling central bank bonds/bills market operations as well as discount window operations. In essence, the payment system of a country is jointly operated by the central bank and financial institutions, with the former ultimately supporting the system. In this framework, computerization of various central bank services should provide more efficiency and cost-effectiveness not only to the Bank itself but also to the economic activities of the country as a whole.
It is also important for the central bank to improve the quality of its payment services so that the entire payment system is sound and safe, as the increase in the payment volume may well lead to the expansion of "unsettled balances" between financial institutions. Moreover, the present globalized payment systems involve greater number of participants. Thus, the failure of any one debtor participant would affect not only his creditor but also many other participants via networks contagiously. Transfers at the central bank accounts avoid such "systemic risk" with the irrevocable finality they provide for payments, reducing the unsettled balances. If such settlement is available to financial institutions on an on-line basis, it will contribute significantly to reducing the payment risk.
In JGB transactions, the Bank of Japan is the sole registrar and depository of the securities. In this country, payments are made only on certain dates each month (account day settlement), and the recent rapid expansion of secondary markets caused tremendous increases in the volume of traditional paper-based clerical work. The introduction of computerized processing was urged in pursuit of efficiency and stability in JGB settlement.
As can be seen above, the development of BOJ-NET commenced in the 1980s when computerized systems were spreading throughout the financial industry. To summarize, the purposes of BOJ-NET are, i) to make payments more efficient and cost-effective, ii) to assure the stability of the payment system, and iii) to establish an infrastructure for the payment system which can be accepted globally.1
Many central banks abroad, in cooperation with financial institutions, are similarly realizing various projects to improve their payment systems. BOJ-NET can be regarded as an example of such development, in addition to other existing systems, namely, Fedwire of FRB, SIC (Swiss Interbank Clearing electronic system) of the Swiss National Bank, and CGO (Central Gilts Office service) of the Bank of England.
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1 The Finance Minister's Advisory Committee, the Committee for Financial System Research, published a report titled "The Development of Technological Innovation in Financial Institutions: The Present Situation and Future Perspectives", in which they have pointed out the necessity of computerizing the central bank operations as follows: "In the era of computerization and on-line communication, the Bank of Japan should keep pace with the development in information technology, maintain banking stability and, at the same time, control money markets smoothly. The Bank of Japan has started designing a payment system linking itself with financial institutions, money market dealers, and the Treasury, by using on-line networks. It is expected that this system will be introduced in the very near future and function efficiently as Fedwire does in the United States."
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BOJ-NET's services can be categorized into three groups: i) the funds transfer service, ii) the foreign exchange yen settlement service, and iii) the JGB service. (For the funds transfer and JGB services, paper-based transactions are still available as an option.)
Funds transfer service
As stated above, financial institutions hold accounts at the Bank of Japan, and their transactions in money markets are settled by funds transfers across these accounts. They are also used to provide final settlement for transactions processed over private payment systems, such as the Bill and Check Clearing and the Domestic Funds Transfer System. Before the introduction of BOJNET, payment instructions involved paper-based means, such as the Bank of Japan checks (i.e., checks to be drawn on financial institutions' accounts at BOJ). Now, on-line participants can effect funds transfers from one account to another, only by sending an instruction from a BOJ-NET terminal, whether the two accounts are in the same or in different branches of BOJ (Charts 2, 3).2
It should be noted that BOJ-NET has a real-time settlement service. A transfer can be deemed as final at the time when settlement is made. Transactions in the interbank markets, such as call money and bills transactions, should be expedited and settled with finality, because they are used by financial institutions to adjust their daily cash positions. The BOJ-NET funds transfer service helps satisfy such needs of the market efficiently.
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2 In addition to the above, BOJ-NET participants can report their present levels of required reserves at the Bank of Japan, and also can settle transactions of treasury funds.
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Another feature of this service is that participants have a choice of the settlement time. That is, when participants originate an instruction, they can designate the settlement time from among the following three, in addition to "real-time": "day's open" (9:00 a.m.), "bill clearing time" (1:00 p.m.), and "end-of-day" (3:00 p.m.). While real-time settlement is effective to reduce payment risks, the designated-time settlement helps in efficient adjustment of financial institutions' cash positions. The clearing time for bills cleared through accounts at the Bank was standardized nationwide to 1:00 p.m. after the introduction of BOJ-NET.
BOJ-NET participants can also make "debit transfers" between their own accounts held at BOJ Head Office and branches. A transfer is usually made in the form of a credit transfer originated by the sender through the BOJ-NET terminal. In the case of a debit transfer, however, it is the receiver who operates the terminal. By using this facility, a financial institution can concentrate funds to their head office's account by instructing a transfer from the branch office's account at the Bank of Japan to their head office's account. This has facilitated more expeditious and integrated financing of financial institutions.
Bank of Japan checks have long been used as a means of payment between financial institutions which are account holders at the Bank of Japan, and also by third parties, i.e., customer depositors of such financial institutions, to pay for wholesale transactions, as, for exampler in bonds trades. BOJ-NET now provides a service for sending a "transfer instruction with customer information" for transactions over Y300 million. This type of transfer can now replace BOJ checks circulated among third parties (Chart 4).
Foreign exchange yen settlement service
In Japan, the Foreign Exchange Yen Settlement System (also known as the Gaitame-yen Settlement System) managed by the Tokyo Bankers Association provides, same-day settlement service for yen transactions relating to foreign exchange and other cross-border financial transactions. Backed by the recent globalization of the yen, the volume of settlement in this System has expanded substantially. To cope with this situation, the Tokyo Bankers Association and the Bank of Japan agreed to process such settlement over BOJ-NET, and the foreign exchange yen settlement service was implemented as part of BOJ-NET from March l989 (Chart 5).
Prior to the commencement of the above service, the Foreign Exchange Yen Settlement System worked as follows: i) payment instructions of participating banks were exchanged in the Tokyo Bankers Association, and ii) the Association calculated the net clearing balances of the respective banks and prepared requests for clearing balance transfers in the form of magnetic tapes, which were then brought to the Bank of Japan for the final settlement across accounts of the participating banks at the Bank. But with the introduction of the new foreign exchange yen settlement service, a bank (sender) enters a payment instruction from a BOJ-NET terminal (by 1:45 p.m.), and the Bank of Japan automatically calculates the net clearing balances of respective banks for the final settlement. As a result, participants' clerical work load has been reduced remarkably, especially for the on-line direct participants of BOJ-NET (to be explained later), who can finalize their transactions by automatic processing as they receive payment instructions from overseas banks via SWIFT.
Another feature of the foreign exchange yen settlement service is the introduction of a "bilateral net credit limit" facility, which enables participants to control net receiving instruction amounts vis-à-vis other participating banks if they so wish. This "net credit limit" is the residual, on a set date, of "gross amount of received payment instructions" less "gross amount of remitted payment instructions". It is set in BOJ-NET terminals and when the limit amount is exceeded, payment instructions are rejected automatically.
JGB service
The Japanese government bond service was introduced in May 1990 and provides on-line processing of JGB delivery for the secondary market transactions as well as bidding for newly-issued JGBs (Charts 6, 7).
In Japan, government bonds are settled through one of three methods: i) physical delivery, ii) the registration system, and iii) the book-entry system. Most settlements are made through either ii) or iii).4
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3 The foreign exchange yen settlement service nets out the debits and credits of daily transactions for each participant at a clearing time, and makes settlement at the end of the day by transfers across accounts at the Bank of Japan. Therefore, creditor banks bear the risks that other participants may become insolvent, until the final settlement is made by transfers through accounts at the Bank. The "net credit limit" is a selfcontrol measure against such risks. A similar cap system is incorporated in the U.S. CHIPS.
4 The JGB registration system was introduced in 1906 in compliance with the "Government Bond Law", and the Bank of Japan is the registrar. Under the system, customers make registrations in the registrar's book rather than resorting to physical delivery, and transfers are made on the book. The bond issuer also gains the advantages of reduced issuance cost and a work load (not only for issuance but also for servicing and redeeming of government obligations) compared to the case of physical delivery. The JGB book-entry system (modelled on other countries' systems) was introduced in 1980, for the purpose of facilitating the increased bonds circulation and their settlement. Under this system, customers deposit bonds in participating financial institutions, who concentrate and redeposit them in the depository (BOJ). Settlement is made by transfers between bond
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In the JGB service of BOJ-NET, participants originate on-line instructions of transfer registrations, as well as of transfers in the book-entry system. If BOJ-NET is not used, a paper application is required for transfer registrations and both the assigner (seller) and the recipient (buyer) sign and seal a single application form, and then bring it to the registrar. By contrast, if they are participants of the BOJ-NET JGB service, the only procedure necessary for the seller is to enter instructions via a BOJ-NET terminal with a "Government Bond Message Authentication Code (MAC)" (encrypted code the seller receives by facsimile from the buyer). This government bond MAC is a numerical value which is calculated by using algorithms together with application details and keys provided beforehand by the Bank of Japan. It is used as a means of confirming the buyer's intention to apply, in place of a paper application form signed and sealed by the parties concerned.
As in the funds transfer service, both "real-time" and "end-of-day" (3:00 p.m.) settlement are available for JGB registrations and book-entry transfers. For the end-of-day processing, participants are allowed to make advance inputs which are accepted from 20 days before the settlement day. This measure is designed to spread the work load of the participants. Another risk countermeasure in the JGB service is to reject any instruction on the settlement day which would produce a negative net balance. This is necessary for two reasons: i) there are a range of specifications available for JGBs, each with an account of relatively small amount, which is not allowed to be in overdraft at the end of the day, and ii) the central bank does not function as the lender of last resort in securities markets, i.e., does not cover negative balances to finalize settlements.
Conversion between the two forms of JGBs, i.e., registered bond
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accounts, which enables the participants to settle promptly with a smaller volume of paper certificates (Chart 8).
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to book-entry bond, or vice versa, can also be operated with a single input over BOJ-NET, which contributes to streamline conventional procedures. Other services available to participants over BOJ-NET include an automated reporting facility on transfers, by denomination and by net balance on the day after settlement, and other information upon inquiry. These services help participants' risk management.
In the conventional method before the introduction of the BOJ-NET JGB service, there had been a 14-day "moratorium" before the day of interest payments for registered bonds, during which no application for transfer registration was accepted. With the start of the JGB service in May 1990, interest payment procedures were modified and the "moratorium" was shortened to seven business days, giving more liquidity to registered bonds.
Bidding procedures for new JGB issues can also be handled over the new System, responding to the increase in the number of tender offers and tenderers and the consequent need for streamlining these procedures. BOJ-NET participants can now perform all bidding procedures on-line. To explain this further: i) the Bank of Japan first sends a direct on-line message to participants' terminals on the day's tender offers (notification of offer), ii) after receiving the notification, participants respond by entering subscription details (e.g., amounts of purchase) by the close of bidding, and iii) participants receive notification of successful bids through their terminals, and this completes the series of bidding procedures. Introduction of BOJNET has two major advantages over the previous procedures: i) physical delivery of bidding documents has been eliminated, and ii) participants can watch market movements until the very last moment before making their final bidding decision at the close of bidding. This introduction of on-line bidding was the first in the world, and our services include bidding for treasury bills (TBs), medium-term and 20-year JGBs (since May 1990), as well as bidding for a part of 10-year JGBs (since December 1990).
Results of JGB tender subscription had been announced at 8:30 a.m. on the day following the offers. The introduction of the BOJ-NET service streamlined data collection, and the announcements are now made at 4:30 p.m. on the same day (since July 1990) for TBs, medium-term and 20-year JGBs. Consequently, tenderers are able to know their subscription results in time to trade in the JGB secondary markets on the bidding day.
System architecture
BOJ-NET is an on-line network system which links the BOJ-NET Center of the Bank of Japan to the Bank of Japan's Head Office, its branches and the participating institutions. Its basic function is the terminal-to-terminal transactions between participants and the BOJ-NET Center. A direct CPU-to-CPU link (host computers of some institutions are directly connected with those at the BOJ-NET Center) is now also available to frequent users to facilitate a large volume of foreign exchange yen settlements (Chart 9). There are altogether 1,010 BOJ-NET terminals, and 10 institutions are linked directly (CPU-to-CPU) as of December 1990.
The host computer systems at the BOJ-NET Center are duplexed for the purpose of load distribution and risk diversification. Both systems, Systems A and B, are of the same model, and each system comprises an operating machine and a back-up machine on standby. Thus, virtually speaking, four host computers are always ready for operation. Most of the peripheral equipment (communication control unit, etc.) and the data base are duplexed to ensure safety.
Participants can choose from two types of BOJ-NET terminals according to the volume they handle, i.e., the cluster type (suitable for high-volume institutions) or the stand-alone type (suitable for low-volume institutions).
The System network is based on leased lines and DDX (Digital Data Exchange) packet-switching lines. Leased lines are used to connect terminals in Tokyo and basically all direct CPU-to-CPU link transactions to BOJ-NET, while DDX packet-switching lines are used for terminal-to-terminal links outside Tokyo. For safety, these two types of lines are also duplexed between the branches and the BOJ-NET Center. Similarly, every public line connecting BOJ Head Office, its major branches and the Center is connected to two telephone exchanges. (In addition, participants are provided with back-up lines if they wish.)
Security and continaency measures
As noted above, BOJ-NET and the connected facilities, i.e., the Center, the lines, and the telephone exchanges, are duplexed, and contingency measures are incorporated to forestall hardware and software malfunctions. Operation of the System is constantly monitored at the Center to detect and recover from failures in their early stages. Transactions can be originated from terminals at the BOJ Head Office or branches in cases of failures in participants' terminals. Furthermore, BOJ has developed the so-called "miniature ledgers", which will indicate the outstanding balances as at the moment before any failure, so that manual processing can be done based on these figures.
All operators are registered at the Center and issued a password in order to protect against fraudulent use of the System and to assure authenticity of transaction data. Only authorized operators with an ID card can send messages over the System. In addition, all transaction data are encrypted to prevent any tampering or tapping of data. Encryption keys are automatically changed daily and reset in the terminal.
On-line transactions do not leave any documents which might serve as evidence for transactions. Therefore, BOJ sends a "notification of transfer" to the participants concerned every time an input is made through BOJ-NET. Participants can have access through the lines, at any operating time, to detailed data concerning receipts/payments or balances. Messages sent and received at the Center are all kept to be referred to later if necessary.
Participants
BOJ-NET has been in operation since October 1988 without any major troubles. At the beginning, it had 332 participants, when only the funds transfer service was offered. The number has increased by 30% to 448 at the end of 1990 as the foreign exchange yen settlement service and the JGB service were added to the range of business. Participants to the above services as of end-l990 are: i) 335 for the funds transfer service, about half of 661 institutions holding accounts at BOJ, ii) 162 for the foreign exchange yen settlement service, all the participants of the Foreign Exchange Yen Settlement System, and iii) 373 for the JGB service, comprising underwriting syndicate members, tenderers, and participants of JGB book-entry system (Table 1).
Settlement volume
Volume of funds and JGB transfers using BOJ-NET are in steady uptrend. The expansion of the funds transfers over BOJ-NET is mainly due to the growth in call and bill markets and other money markets (e.g., those for CDs and CP), and the daily average number of transactions is 22,000, with a daily average value of Y264 trillion on a turnover basis in October 1990. Compared with private funds transfer systems (the Bill and Check Clearing and the Domestic Funds Transfer System): more payments are made through private systems in terms of the number of transactions, as firms use these systems for small-value commercial/trade payments; while in value, almost 70% of the total payments are settled by the funds transfer service, as large-value money market transactions are settled over this System (Table 2). The number of on-line transfers between BOJ accounts via BOJ-NET, (i.e., percentage of the number of transactions originated by BOJ-NET terminals to the total number of transactions) has continued to grow and is now at the 80% level reflecting the increase in the number of on-line participants (Table 3).
As for the BOJ-NET foreign exchange yen settlement service, both the number and value of the transactions are growing as a consequence of the expansion in the underlying foreign exchange and Euro-yen trades. (Only BOJ-NET participants are allowed access to the Foreign Exehange Yen Settlement System, and therefore all foreign exchange yen settlements are processed through BOJ-NET. Table 4)
The JGB service over BOJ-NET was implemented in May 1990. While total JGB turnover has been sluggish since fiscal 1988, the number of on-line registrations (via BOJ-NET) has increased to over 70% of the total. In book-entry transfers between JGB accounts, more than 90% of the total instructions are processed over BOJ-NET, since treasury and financial bills traded/held by banks and securities companies are only in book-entry form. In addition, major bidders in JGB tender offers are BOJ-NET participants, and most of the bidding procedures have been conducted over BOJ-NET since May 1990.
BOJ-NET is still in its third year, and further improvements are expected to follow.
One example is the ongoing project for an on-line treasury bills service to process tender offers, subscription, securities delivery, and funds clearing relating to the TB transactions resulting from Bank of Japan operations. This will greatly reduce the manual and paper work of both participants and BOJ, thereby realizing same-day settlement of TB operations which will contribute to timely monetary controls.
Further computerization of JGB bidding procedures and subsequent funds payment is also in progress. In addition to the existing services, documentation, payments (by BOJ checks), and other procedures will eventually be processed under one service, and this will benefit all participants, i.e., underwriting syndicates, bidders, and BOJ.
On top of the above developments in services, emphasis should be placed upon safeguard measures, as one failure can be disruptive to the whole System. One recent example was the power failure on Wall Street last August, which affected, although temporarily, the entire U.S. financial system. Financial institutions, who are entrusted with the payment systems of a nation, learned from this lesson that it is one of their responsibilities to maintain safety and reliability of computer systems. In this regard, security and contingency measures for BOJ-NET, the core of the whole nation's payment systems, are of the highest importance. With such recognition, the measures outlined earlier have been taken so far and transfer to the new Operation Center which has greater processing capacity is in preparation. We will continue our efforts to improve security and contingency measures for both the System itself and its management.
BOJ lnvites comments from participants whenever necessary in order to apply what is learned from them to daily operations and maintenance of the System. This should contribute to further enhance the efficiency of BOJ-NET.
Payment system issues have now come to attract more attention recently, against the background of rapid innovation in telecommunication and computer technology, and with the continued expansion of volume ln financial transactions. One such example was the publication of nine recommendations on the securities clearing systems worldwide from the Group of Thirty, a private advisory organization, in March 1990. Efficient and reliable payment systems are the indispensable infrastructure for sound financial and economic activities, and it is indeed necessary to continue efforts to improve these systems in view of technological innovation and subsequent improvements overseas. The most important task before the establishment of globally-accepted payment systems corresponding to the Japanese presence in the world's financial community. Bearing this in mind, the Bank of Japan will continue to work for the improvement of BOJ-NET in a relationship of understanding and cooperation with the financial world.
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Chart 1 Volume and Value of Payments and Financial Transactions
Chart 2 Before and After BOJ-NET
- Procedures of Funds Transfers
Chart 3 BOJ-NET Transfers across Accounts Held at BOJ
Chart 4 "Transfer Instructions with Customer Information" by BOJ-NET
Chart 5 Before and After BOJ-NET
- Procedures of Foreign Exchange Yen Settlement
Chart 6 Before and After BOJ-NET
- Procedures of JGB Settlement
Chart 7 Before and After BOJ-NET
- Procedures of JGB Bidding and Issuance
Chart 8 Registration System and Book-entry System of JGBs
Chart 9 System Architecture of BOJ-NET
Table 1 BOJ-NET Participants
Table 2 Volume and Value of Payments Volume of Settlement through BOJ-NET
Table 3 Volume of Settlement through BOJ-NET
Table 4 Value of Foreign Exchange Yen Settlement
(Followed by Charts and Tables)