Transcript 298 kb PowerPoint presentation

A Methodological Toolkit to
Reform Payment Systems
Cost-Benefit Analysis (CBA)
World Bank, Washington DC, November 5th, 2003
The Core
CONTENTS
¶ The need for CBA in payment systems reforms.
¶ A primer in CBA.
¶ An application to payment systems reforms.
¶ Concluding remarks.
The Core
2
RATIONALE FOR CBA IN PAYMENT
SYSTEMS REFORMS
• CBA concerns the maximization of efficiency given
a certain quality of output (and of quality of output
given a certain budget constraint)
• CBA allows to prioritize across several options of
payment systems reforms
• Explicit references: CPSS, IOSCO and the World
Bank/IMF call for a thorough cost-benefit analysis
(CBA) for all the key decisions that must be taken
regarding payment systems reforms
The Core
3
MAIN REFERENCES IN THE PAYMENT
SYSTEMS LITERATURE
• Core Principles for Systematically Important
Payment Systems (2001), Core Principle VIII
• Recommendations for Securities Settlement
Systems (2001), Recommendation 15
• Policy Issues for Central Banks in Retail
Payments (2003), Public Policy Goal C
• Bossone and Cirasino (2001)
• Listfield and Montes-Negret (1994)
The Core
4
CONTENTS
¶ The need for CBA in payment systems reforms.
¶ A primer in CBA.
¶ An application to payment systems reforms.
¶ Concluding remarks.
The Core
5
BIBLIOGRAPHY (MAIN)
• Brent, R., “Applied Cost-Benefit Analysis”,
Edward Elgar, 1996
• Zerbe, R. O., Dively, D., “Benefit-Cost
Analysis”, Harper Collins, 1994
• Squire, L. and van der Talk, G., “Economic
Analysis of Projects”, John Hopkins, 1975
The Core
6
CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
The Core
7
PROBLEM STRUCTURING
Issue
identification
Problem
structuring
Deterministic
Decision
structuring
Stochastic
The Core
8
ISSUE IDENTIFICATION
National Payment Council
Issue
Sub-Issue
• What do we
want?
• Which objectives / Principles /
Targets?
• What do we
have?
• Which Infrastructures / Procedures / Legal
situation?
• What organization / Role of the Central
Bank/ Stakeholders involved?
• What could we • Which are the available options?
have?
• What timing / Costs / Difficulty of
implementation?
The Core
9
ISSUE IDENTIFICATION (cont.)
National Payment Council
Issue
Sub-Issue
• What should we • How do we rank options? How do we
have?
prioritize? What’s the social welfare utility
function?
• How should we • What organization / Role of the Central
get to that?
Bank / Stakeholders to be involved?
• What funding?
• How do we manage the transition?
The Core
10
DECISION STRUCTURING
National Payment Council
Diagnostic
Systematically
Important PS
Assessing options
•Core Principles
CPSS (2001)
Short–term /
transition?
Securities
•Recommendations
Settlement Systems CPSS (2001)
Retail Payments
Decision to be made
•Public Policy
Goals CPSS (2003)
What’s best for
the system .. ?
Foreign Exchange
•Check CPSS
Settlement Systems
The Core
Long term /
Vision?
Option
A
Option
B
Option
1
Option
2
11
CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
The Core
12
PLAYERS, ROLES, AND UTILITY FUNCTIONS
IN A NATIONAL PAYMENT SYSTEM (NPS)
Main Role
Arguments of
utility function
Player
• Central Bank
Overseer*
• National Payment Council
• Safety
• Securities and Exchange
Commission
• Efficiency
• Banking supervision Authority
• Antitrust Authorities
Regulator
• Ministry of Finance
• Other specific
public issues
(competition,
customer
protection,…)
• Legislative Authorities
* Oversight, bank supervision, market surveillance
The Core
13
PLAYERS AND ROLES IN A NPS (cont.)
Main Role
System
provider
Arguments of
utility function
Player
• Clearinghouses
• Safety
• Stock Exchange
• Efficiency
(private system
providers focus
mostly on own)
• Central Security
Depository
•…
Lobbyist /
Mediator
• Banking Association
The Core
• Safety
• Efficiency
14
PLAYERS AND ROLES IN A NPS (cont.)
Main Role
System
participant
Heavy user
End-user
Arguments of
utility function
Player
• Financial Institutions
• Brokers / Dealers
• Efficiency
(own)
• Public Sector
(Treasury)
• Efficiency
• Safety (own and
overall)
• Employment
• Firms
• Profits (own)
• Consumers
• Consumption (own)
• Leisure (own)
The Core
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UTILITY FUNCTIONS
Hints
Functional
form
• Use a concave function
(linear, Cobb-Douglas, logarithmic)
• Keep it simple!
• To find weights, several techniques are
available:
Weighting
arguments
- Survey
- Revealed preferences
- Estimation
The Core
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CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
Assessing costs and
benefits per player
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
Aggregating
values over time
The Core
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KEY ELEMENTS
Assessing levers
• Prices
• Quantities
• Probabilities
• Externalities
Mapping costs and
benefits onto arguments
of utility functions
The Core
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PRICES
competitive
markets
Technique
Market
Prices
Prices
non
competitive
markets
non-traded
goods
• Benchmarking
Prices from
• Survey
Ad hoc
techniques • Output of utility
maximization
problem of the agent
Shadow
Prices
traded
goods
World
Prices
The Core
19
OTHER ISSUES
Issue
Quantities
Technique
• Output of maximization
problem of the agent
• Benchmarking
Probabilities
Externalities
• Estimation (data needed)
• Benchmarking
• Careful assessment of all
levers involved
• Estimation (data needed)
• Benchmarking
The Core
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KEY LEVERS IN PAYMENT SYSTEMS
Levers
Issue
• Quantity of
transactions
• There is a critical mass that makes a
payment system an effective
network
• Pricing of
transactions to
participants
• Given the quantity of transactions, it
defines the business value of the
system provider
• Pricing of
transactions to
end-users
• Given the levers above, it defines the
number of profitable sustainable
system participants, for a certain
amount of fixed costs
The Core
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CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
Assessing costs and
benefits per player
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
Aggregating
values over time
The Core
22
DISCOUNT RATE
• It is the rate through which future outcomes
are compared with current ones
• It is the relative price of tomorrow vs. today
• It can be thought as an opportunity cost by
both the saving and the investment side of
the production
The Core
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PERSPECTIVES ON DISCOUNT RATES
Focus
Production perspective
Social
Perspective
Investment
Savings
(Private)
Private
Investment
agent
rate
(Private)
Saving
rate
Social
planner
Social discount rate
The Core
• Investment and
saving rate might be
different due to
market imperfections
• The private discount
rates do not consider
the effect of what
today has been saved
on the members of
the future generations
24
SOCIAL DISCOUNT RATE (SDR)
Discount rate
to be used
Alternative
investments
• CAPM
(Capital
Asset Pricing
Model)
The social
planner, when
investing in a
project, forgoes:
Consumption
instead of
savings today
• STPR
(Social Time
Preference
Rate)
The Core
• SDR is a weighted
average of CAPM
and STPR
• The weights are
given according to
the type of project
(if closer to a
private investment,
give a higher
weight to CAPM,
otherwise to STPR)
25
COMPUTING SDR
Discount rate
CAPM
Description
• Formula: d1 = RF+ b (RM-RF)
• Where:
-RF: risk free rate
-RM: return to the market
- b : systematic risk of the equity
STPR
• Formula: d2 = r + m g
• Where:
-r: pure rate of time preference
-g: expected growth rate in per capita
consumption
- m: negative elasticity of marginal utility
with respect to consumption
The Core
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COMPUTING SDR (cont.)
Discount
rate
CAPM
Caveat
• RF: if not available, use government
debt on foreign markets
• RM and b: if nothing else available in
the country, use S&P 500 as a
benchmark
STPR
• r: use low values (0 to 5%) to
acknowledge that the government
cares about future generations
• g: historically it might turn out to be
negative; use perspective growth
• m: estimation requires micro data; if
data are not available, use
benchmarks
The Core
•There exist high
discretionary margins
in computing both
CAPM and STPR,
especially in LDC
•A reasonable rule of
thumb sets the
minimum SDR at the
risk free rate, keeping
it as low as possible
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AGGREGATING OVER TIME
Aggregator
Project ranking criterion
• The higher the NPV (if
positive), the better
NPV
NPV
• Adding all
future streams
of costs and
benefits,
discounted at a
proper discount
rate d
• Internal Rate of Return (IRR)
It is the discount rate d* that
makes the above NPV equal
to zero
IRR
• The lower d* (if below d), the
better
The Core
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AGGREGATING OVER TIME (cont.)
• Among several ranking techniques, NPV is the
one preferred
• For IRR, there may exist multiple values of d* for
the same stream of costs and benefits
• NPV outcome is very sensitive to changes in the
value of the discount rate (the lower d, the higher
the NPV)
The Core
29
CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
The Core
30
PRIORITIZING
Activity
Comments
Problem
formalization
Optimal
choice
• Each agent has now all
the elements to structure
formally her own utility
maximization problem
• Each agent then chooses her utility
maximizing strategy
-Available strategies
-Constraints
• The difficulty of the prioritization
can range from trivial (choose
project A or B) to cumbersome
• If more than one agent decides
taking into account other agents’
decisions, a game has to be played
(see Game Theory analysis)
The Core
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EXAMPLE
• For the social
planner on the right,
given the
production
possibility frontier
PPF and the social
indifference curves
U1 and U2, the
optimum social
outcome is at
point B
U1
U2
B
PPF
The Core
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CONTENTS
¶ The need for CBA in payment systems reforms.
¶ A primer in CBA.
¶ An application to payment systems reforms.
¶ Concluding remarks.
The Core
33
CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
The Core
34
CONTEXT
Attention!
The example does not
refer to any country in
particular
• A technological shock
occurs in the economy,
implying a choice also in
the payment system on
whether to upgrade it or
not
• Each player in the
economy must assess
the convenience of such
an upgrade
• The upgrade concerns
both the system
provider’s and the
participants’ procedures
The Core
35
CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
The Core
36
PLAYERS
• The Central Bank is the social planner, being:
- Overseer / Regulator / Investor
- System provider (through an ad hoc unit)
• Financial Institutions are the sole participants to the
payment systems (there are 50 in the economy)
• Consumers are the sole end-users of the payment
systems (there are 10 Millions in the economy)
The Core
37
UTILITY FUNCTIONS
Player
Shape of the utility function
Consumer
• UCON = U (Consumption, Leisure)
Participants
• UP = DCF*
Central Bank
• UCB = U( UCON + UP )
and given a nonnegative DCF* for
the System provider
* Discounted Cash Flow
The Core
38
CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
The Core
39
SIMPLIFYING ASSUMPTIONS
• Central Bank’s own costs pertain only to the system
operator activity
• (worst case scenario hp.) There are no effects (or
negligible) on:
-The velocity of circulation of money
-The overall level of consumption
The Core
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STRUCTURE OF COSTS AND REVENUES
System provider
Participants
• Levers:
Revenues
• Levers:
- Fees applied to
the participants
- Fees applied to
the end-users
- Quantity of
transactions (Q)
-Q
• Variable costs levers:
- Unit costs per
transaction
Costs
• Variable cost levers:
- Fees paid to the
system provider
-Q
• Fixed costs (G&A,
personnel, other)
-Q
• Fixed costs (G&A,
personnel, other)
• Initial investment
• Initial investment
The Core
41
EFFECTS OF THE UPGRADE ASSUMPTIONS
Player
• Big Bang
happens three
years after the
initial
investments
are made by
both the
system
provider and
the
participants
Consumers
Assumption
• Each transaction requires 1 minute
instead of 5 minutes
• Fixed costs: reduction by 50%
Participants
System
provider
• Initial investment per participant: 1.5
Millions
• Fixed costs: reduction by 25%
• Variable costs: reduction by 50%
• Initial investment: 20 Millions
The Core
42
CBA AS A STEP-WISE PROCEDURE
• Prioritizing
• Assessing
payoffs
• Identifying
players and
utility
• Assessing the functions
decisions to
be evaluated
The Core
43
UTILITY POSSIBILITY FRONTIER
• For each agent costs and
benefits are found
• A utility possibility frontier
(UPF) for the social planner
can be drawn in terms of the
extra utilities (with respect
to the current status) of both
the consumers (DUC) and
the participants (DUP) in the
economy if the upgrade is
made
DUP
Quadrant of Pareto
optimal solutions
UPF
• Each point in UPF is
supported by a fee system
(fees to participants, fees to
end-users)
DUC
The Core
44
PRIORITIZATION
Central Bank’s perspective
• The Central Bank must
pick a point in UPF by
choosing a fee system
DUP
UCB1
• Given the indifference
curves on the right side, it
would choose solution A,
where the participants’
extra DCF is close to 0
UCB2
UPF
A
DUC
The Core
45
OUTPUT
Selected information
Player
Issue
Participants
• Fees to the participants (per transaction)
• -43%
• Fees to the end-user (per transaction)
• -18%
• Transactions per consumer
• +12%
• Total costs per consumer
• - 7%
• Total time employed per consumer
• -77%
Consumers
% Change
The Core
46
CONTENTS
¶ The need for CBA in payments systems reforms.
¶ A primer in CBA.
¶ An application to payments systems reforms.
¶ Concluding remarks.
The Core
47
FINAL REMARKS
• CBA can be beneficial for payment system reforms,
mostly to Central Bank and National Payment Council
• Two main hurdles must be tackled:
-Tractability: keep it simple
-Data availability: make (at worst) judgmental
assumptions
The Core
48