The Australian Payments System
Alan L Tyree*
Abstract: The Australian payments system has, in common with those of other countries, undergone major changes in the last decade. This article outlines the problems that led to the changes and the current state of the payments system. The reforms have led to improvements in the traditional payments system, but there has been no coherent treatment of new payment systems.
1 Relevant legislation
This article makes reference to Australian legislation. Australian legislation is available on-line from the Australian Legal Information Institute, AustLii at http://www.austlii.edu.au. The most important legislation, the so-called Wallis reforms, are:
- the Australian Securities and Investments Commission Act 1989 - amendments made in 1998 provide for the Australian Securities and Investment Commission to regulate consumer protection in the financial system
- the Banking Act 1959 - amendments made in 1998 provide for regulation of authorised deposit taking institutions;
- the Cheques Act 1986 - amendments made in 1998 provide for the turnback of certain cheques, permit cheques to be drawn on non-banks, and clarifies electronic presentment;
- the Payment Systems (Regulation) Act 1998 - gives the Payment Systems Board certain powers to regulate payment systems;
- the Payment Systems and Netting Act - legitimises multi-lateral netting and deals with the “zero hour rule” (see below);
- the Reserve Bank Act 1959 - amendments made in 1998 provide for the establishment of the Payment Systems Board;
Until 1985, the Australian payments system reflected the structure of the Australian financial industry. That structure could best be described as a closed shop. No new banking licence had been issued between 1945 and 1985 and over 80% of deposits and customers were controlled by the four major banks. Current accounts paid no interest, and lending was subject to direction from the Reserve Bank of Australia (“RBA”).
One of the reasons that current accounts paid no interest was that the cheque was the only serious general purpose third party payment instrument. Australians were, and remain, heavy users of cheques, writing nearly four million cheques each day.1 Most bank customers required cheques to make third party payments, and interest free accounts were the price paid for the “free” cheque facility.2 Larger institutions had access to bulk direct debit or credit payments, but there was no equivalent of the GIRO for retail customers.
Clearing was effected through the Australian Clearinghouse, an organisation owned and strictly controlled by the participant banks. Building societies and credit unions could not gain direct access, and could only provide their customers with a third party payment instrument by way of “agency cheques” through an arrangement with a major bank. Settlement was done, as now, by means of Exchange Settlement Accounts held by clearing institutions with the RBA.
This cozy arrangement has been dramatically altered by two major developments. First, the financial industry has undergone two distinct rounds of “deregulation”.3 Secondly, and more importantly, technological developments meant that non-banks could no longer be excluded from providing third party payments.
The first round of deregulation followed the report of the Campbell Committee  in 1981 and the later Martin Review  of 1984. In 1983 the Australian dollar was floated and most exchange controls abolished. In 1985, sixteen new banking licences were issued and virtually all restrictions on bank lending were removed.
The result was a disaster. Bankers who had worked most of their lives in a sheltered workshop environment suddenly found themselves in the high-pressure world of the late 80s and early 90s. Lending practices developed that seemed to ignore any concepts of good banking practice. The “Gentleman’s Club” style of regulation by the RBA failed to notice any problem until major disaster threatened. At least eight major financial institutions failed in the 1987-92 period, including the State Bank of South Australia and the State Bank of Victoria.4 The country’s largest bank, Westpac, posted a $1.6 bn loss in 1992.
The developments in technology are well known. Australians were early and enthusiastic uses of electronic banking. There was bitter rivalry as the banks attempted to control access to the electronic network in much the same way that they had controlled the clearinghouse. The Australian Payments Systems Council (“APSC”) was established as a forum for discussing problems with the payments system.5 Records of its early years show that discussion centered almost exclusively on access to networks.6
The first round of deregulation did not deal with the problem of multiple regulators. The banks remained supervised by the RBA, but building societies and credit unions were supervised (since 1992) by the Australian Financial Institutions Commission (“AFIC”). Further, the definition of “cheque” still required that the instrument be drawn on a “bank”. The Cheques and Payment Orders Act 1986 introduced the concept of a “payment order” which was a cheque in all respects save that it was drawn on a building society or credit union. Payment orders never gained widespread usage.
Clearing arrangements also changed in 1992. The Clearinghouse was abolished and a new organisation, the Australian Payment Clearing Association (“APCA”), took responsibility for payment clearing.
3 The Wallis report
March 1997 marked a significant turning point in the structure of Australian financial regulation. The Report of the Financial System Inquiry, known as the “Wallis Report”, recommended changes to the regulatory structure. As noted above, the Australian financial system at the time was regulated on the basis of status rather than function.
The Wallis Report recommended the establishment of new regulators and the creation of a new financial entity, the Authorised Deposit-taking Institution (“ADI”). It further recommended legislation to ensure the stability of the clearing and settlement system and to provide a legislative framework for the regulation of the payment system.
3.1 New regulators
The Wallis Report not only recommended that regulation be function-based, but also that new regulatory bodies be given responsibility. The principle reason for this was the perception that the Reserve Bank of Australia (“RBA”) was too closely associated with the banks. To counter this perception, the Australian Prudential Regulatory Authority (“APRA”) was created and given the responsibility, previously exercised by the RBA, of prudential supervision.7
The RBA continues to be responsible for the protection of the soundness and stability of the financial system as a whole. Importantly, the Board of the RBA was split into two separate Boards. The Board continues to have responsibility for most RBA functions, but the Payment Systems Board (“PSB”) is given responsibility for decisions which concern the payment system and, in particular, for the exercise of powers given to the RBA by the Payment Systems (Regulation) Act 1998. The PSB is composed of the Governor of the RBA, one other representative from the RBA, one representative from APRA and up to five other members. 8
A third agency was given powers to promote and regulate appropriate standards of market conduct by financial institutions. The Australian Securities and Investments Commission (“ASIC”) also administers the Electronic Funds Transfer Code of Conduct.9
The concept of a “bank” was replaced with that of an “authorised deposit taking institution” (“ADI”). An ADI is a body corporate that has received an authority from APRA under s9(3) of the Banking Act 1959 which permits it to carry on the “business of banking”.
Australian law, in common with other common law jurisdictions, has always had trouble with the concept of the “business of banking”. Unfortunately, the only definitive Australian judicial interpretation of the concept held that the essential characteristics were
- the collection of money by receiving deposits on loan, repayable as agreed upon; and
- the utilisation of the money so collected by lending it again in such sums as are required.10
The Banking Act adopted this definition, but also imported all the old problems at the same time. According to s5 of the Act, “banking business” means:
- (a) a business that consists of banking within the meaning of paragraph 51(xiii) of the Constitution; or
- (b) a business that is carried on by
a corporation to which paragraph 51(xx) of the Constitution
applies and that consists, to any extent, of:
- (i) both taking money on deposit (otherwise than as part-payment for identified goods or services) and making advances of money; or
- (ii) other financial activities prescribed by the regulations for the purposes of this definition.
For our purposes, the most unfortunate omission from the definition is the lack of any reference to a payment mechanism. All modern payment systems involve the transfer of an institutional liability,11 and the total exposures of the participating institutions are immense. Failure to recognise payments as one of the salient characteristics of modern banking business is one of the principle failings of the Wallis reforms. It is also, as will be seen below, the source of some confusing ad hoc regulation.12
3.3 Payment system regulation
The Payment Systems (Regulation) Act 1998 provides the PSB with statutory powers to address some of the problems of access to clearing and settlement systems and to determine standards for these systems.
The history of payment systems in Australia shows that participants in a payment system will usually attempt to exclude other non-participating financial institutions. Banks successfully excluded building societies and credit unions from the cheque system until the recent amendments to the Cheques Act.
The methods of exclusion were both practical and legal. As a practical matter, the banks owned the clearing system and refused to admit non-banks except through agency arrangements. From a legal perspective, a “cheque” was an order drawn on a bank. Although the 1986 Act permitted “payment orders” to be drawn on non-bank insititutions, these never became well established since it was still necessary to rely upon the bank-owned clearing system.
Participating financial institutions have always justified exclusion on the grounds of financial stability. While it is true that settlement risks justify a requirement of prudential and financial stability, it is also true that the behaviour might be seen as anti-competitive. The Wallis Committee took the view that it was not for the participants to be the sole judge of whether a non-participant was suitable for entry into a payment system.
The Payment Systems (Regulation) Act 1998 provides for RBA regulation of “designated” payment systems.13 Section 11 of the Act gives the RBA the power to designate a payment system if it considers that designating the system is in the public interest.
In considering the “Public interest”, the RBA must;14
“Have regard to the desirability of the payment systems
(a) being (in its opinion)
(i) financially safe for used by participants; and
(ii) efficient; and
(iii) competitive; and
(b) not (in its opinion) materially causing or contributing to increased risk in the financial system.”
Once a payment system has been designated, the RBA (operating through the Payment Systems Board) has the power to;15
- impose an access regime on the participants in the designated payment system;
- make standards to be complied with by the participants in the designated payment system;
- arbitrate disputes relating to the designated payment system; and
- give directions to the participants in the designated payment system.
3.3.1 Access regimes
Section 7 of the Act provides:
“Access, in relation to a payment system, means the entitlement or eligibility of a person to become participants in the system, as a user of the system, on a commercial basis on terms that are fair and reasonable.”
Before imposing an access regime, the RBA must consult in accordance with the requirements of the Act. Having done so, it may impose any access regime on the participants that it considers appropriate, having regard to the following factors:16
- whether imposing the access scheme would be in the public interest; and
- the interests of the participants in the existing system; and
- the interests of people who, in the future, may want access to the system; and
- any other matters the RBA considers important.17
The decision to impose the access regime is to be in writing and is to set out the access regime.18 Section 29 of the Act provides a method of notification, and the RBA must provide notification as soon as practicable after imposing the access regime. Access regimes may be varied by the RBA whenever it considers it appropriate to do so having regard to factors similar to those considered when imposing the scheme.19
3.3.2 Standards for designated systems
Section 18 of the Act gives the RBA the power to determine “standards” to be complied with by participants in a designated payment system, provided it considers that the determination of such standards is in the public interest.
The Act does not define the term “standards”, and the matter is not addressed by the Explanatory Memorandum. Presumably, the power includes both operational and technical standards. Thus, for example, it might be possible for the RBA to direct that cheques be presented electronically (an operational standard). At the technical level, the power might be used to impose message standards on an electronic payment systems in an effort to further inter-operability.
Section 18 of the Act also gives the RBA the power to vary or to revoke standards. Although failure to comply with the standard is not an offence in itself, the RBA may make a direction to a participant in the payment system to undertake or to refrain from specified actions, and it is an offence to fail to comply with a direction.20
3.3.3 Real life
The RBA has a long history of pursuing a “softly, softly” approach to regulation. It has long had statutory powers which have never been used directly. There is no obvious reason to suppose that this approach will change.
Advocates of this approach argue that it is effective and flexible. Others argue that it, at best, lacks transparency. There is also some reason to question its effectiveness. Until recently, regulating the banking sector in Australia must have been one of the world’s most comfortable jobs. Since the banks enjoyed virtual oligopoly, there was hardly anything to regulate. Yet it is common knowledge that in the early 90s one of the largest of the banks came within a whisker of failing to settle.21 It is hard to represent the survival of that event as a triumph for the system.
At the time of writing, the RBA has not “designated” any payment system nor is it expected to in the near future.22
3.4 “Self” regulation
The Electronic Funds Transfer Code of Conduct is a voluntary code that applies applies to all transactions which are initiated by an individual through an electronic terminal by the combined use of an electronic funds transfer plastic card and a personal identification number (the PIN), or which are intended to be so initiated.23. It regulates various aspects of electronic payments, including the all-important problem of allocating losses in the event of a dispute. Although it is “voluntary”, the Code was thrust upon the financial community under the threat of legislation.24
The Code also calls for the establishment of dispute resolution procedures. The Australian Banking Industry Ombudsman functions as the dispute resolution body for “banks”. Other financial sector participants have less elaborate schemes.
Regular review of the operation of the Code was originally taken on by the Australian Payments Systems Council. Following its abolition in 1998, ASIC took over monitoring. Reports on compliance with the Code, which has generally been surprisingly good, may be found in the Annual Reports of the APSC and, more recently, in ASIC publications.
The principal deficiency of the Code is obviously the restriction to Card/PIN initiated transactions. ASIC has commissioned the drafting of an “Expanded” Code which is intended to cover all electronic payments. The first draft was made available for limited comment in July 1999. On the basis of these consultations, a substantially revised draft was issued in January, 2000. Following further consultations, a further draft was released in October and is being circulated for discussion.25
“Banks” are also bound by the Banking Code of Practice and there are similar Codes for both Credit Unions and Building Societies. These Codes have no significant impact on the payment system.
4 The Wallis legislation
The Australian clearing and settlement system was, until 1998, essentially a deferred net settlement system.26 This made it subject to the usual risks of such systems, namely, the necessity to “unravel” transactions in the event of one of the participants being unable to make settlement and the uncertainty of the legal structure for enabling the “unravelling”.27
Although the problems were well known, there was no sense of urgency in dealing with them. In fact, it would be fair to say that there was a smug belief that the Australian banking system was immune to institutional failures. The belief survived the “deregulation” of the banking sector until the early 90s when one of the major banks came very close to being unable to settle its payment obligations. The event was a wake-up call for regulators, and the topic of settlement risks suddenly became a matter of serious discussion.
The problem of settlement risks in Australia was exacerbated by three major legal uncertainties:
- the effectiveness of netting arrangements;
- the “zero hour rule”; and
- the right to “turnback” cheques.
The Wallis reforms included legislation to address each of these problems.
4.1 Netting arrangements
Every day, financial institutions in Australia receive payment instructions totalling more than $100 billion. Until the Wallis reforms, each of these payment instructions resulted in a short term debt between financial institutions, a debt that was not extinguished until the following morning at 9am. Until the Wallis reforms, these short term debts were treated the same as any other debt of the financial institution.28
These short term obligations are massive in comparison with the normal borrowings of an organisation. There is also a sense that they should be treated differently from the normal borrowings. The payment system operates by providing a system for the circulation of institutional liabilities. These large short term obligations arise almost by a legal accident from the operation of the system. It would be possible to imagine a payment system where the liability of Financial Institution A to a debtor D could be transformed into a liability of Financial Institution B to D’s creditor C without ever giving rise to intermediate liabilities between A and B. But that is not our system.
The legal structure of the payment system was, and is, quite different from the way that financiers perceived the system to work. Obligations arising from payment instructions were “netted” between the participants in the payment system so that the actual payments of the resulting debts involved relatively small transfers when the debts were settled the following morning. Although concerns were expressed from time to time about the legal effectiveness of netting, the concerns did not become acute until the Privy Council decision in British Eagle International Airlines Ltd v Compagnie Nationale Air France29 where it was held that a multi-lateral netting agreement, similar in all respects to the agreement governing the settling of payment system obligations, was void as a preference. The Privy Council held that a private agreement between the parties could not have the effect of prejudicing other creditors.30
Although the Real Time Gross Settlement (“RTGS”) system has succeeded in removing much of the settlement risk from the payment system,31 there is still a substantial number of “small” payments that are not settled on an individual basis. In addition, of course, Australians still write some 4 million cheques each day, each cheque representing a payment order that is cleared and then settled under a deferred net settlement scheme. The daily value of the cheque clearing is over $14 bn per day: see Table 13, p 48 of . In addition, “consumer” electronic funds transfers, direct debits and credits are also netted and settled the next morning.
Section 10 of the Payment Systems and Netting Act 1998 provides the legal underpinnings for an “approved” multilateral netting arrangement. By s12, the RBA may “approve” a multilateral netting arrangement provided it is satisfied, inter alia that systemic disruption in the financial system could result if a participant went into external administration and the arrangement were not approved under this section.
The RBA has not yet made any approvals under s12 of the Act.
4.2 The “zero hour” rule
The “zero hour rule” deems an insolvency to begin at the “zero hour”, that is, an instant after midnight, of the day on which the insolvency occurs. The result is that payments made any time after midnight may be treated as revocable. In particular, the payment made at the 9am settlement might be deemed to be void.
Note that the “zero hour” rule presents problems for RTGS payments as well as for net deferred settlements. No payment can be presumed final until the paying institution has survived the day.
For certain “approved” systems, the rule is abolished by the provisions of the Payment Systems and Netting Act 1998. A “participant” in an RTGS system who goes into external administration is deemed, for the purposes of settlement payments made through the RTGS system, to have gone into administration on the following day.32 The legislation protects only the participants in the system. Payment, as between the counterparties to the underlying transaction, is still subject to the “zero hour” rule.
The RBA is given the authority to approve an RTGS system under s9 of the Act if it is satisfied, inter alia, that systemic disruption in the financial system could result if a participant went into external administration and the system were not approved under this section.
The RBA has given approval under section 9 to RITS and to the Austraclear System FINTRACS. The RBA announce on 24 November 2000 that the CHESS feeder system, providing settlement of share trading obligations, had received approval.
4.3 Turnback of cheques
The Cheques Act 1986 has been amended to permit the “turnback” of certain cheques drawn on a “failed institution”. The problem addressed by the new sections was the uncertainty about the rights to “unwind” certain cheques if the drawee failed. It was thought that the deposit institution might become liable to the depositor of the cheque at some time before it received value for the deposit.
Section 70A provides that a cheque is deemed to be dishonoured if it is lodged for collection with an institution other than the drawee institution and the drawee institution becomes a “failed financial institution”
- after the cheque is lodged; and
- before the cheque has been settled.
The deemed dishonour is taken to occur at the time when the drawee institution becomes a failed financial institution. That time is specified by s70A(2). The circumstances include the ordinary circumstances of insolvency and the situation where APRA appoints an investigator under section 13A of the Banking Act 1959 and determines that the institution is to be treated as a failed financial institution for the purposes of the Turnback provisions.
The Act also defines the circumstances under which a “cheque has not been settled” for the purposes of s70A. A cheque had not been settled if and only if:
- it has not been exchanged for settlement under a “recognised” settlement system; or
- it has been but the drawee institution’s liability on the cheque has not been discharged under the “recognised” system.
The Reserve Bank is given the power to “recognise” a settlement system by s70A(4). At the time of writing, no systems have been “recognised” by the Bank.
5 Large value transfers
There are a number of ways to reduce the risk of a deferred net settlement system, but the most effective method is to eliminate the risk altogether by requiring immediate settlement of each payment. Such a system is known as a Real Time Gross Settlement system (“RTGS”). RTGS is simply not feasible for small consumer payments, but computers and communication technology has made it possible for “large” payments.33
It is possible to reduce settlement risks without going to a RTGS. The Lamfalussy Report34 proposed standards for multilateral netting systems which have been applied to many domestic payment systems. Before introducing RTGS, Australia flirted with a netting system that included limits on intraday credit exposures coupled with loss-sharing rules backed by collateral.35
However, there is also a political dimension to the introduction of RTGS. Although the RBA does not act as a guarantor of bank solvency, there is a widespread belief that it does. The Wallis report noted that this belief is not confined to consumers. It also noted that the perception itself may be a source of instability.36
In Australia, the introduction of a RTGS system for large payments commenced in June 1998. The results have been a spectacular removal of settlement risk since over 90% of payments (by value) exchanged between Australian financial institutions are now settled on a real time gross basis.37
The RTGS system itself is efficient and straightforward. The Reserve Bank Information and Transfer System (“RITS”) is at the centre. RITS has long been used as settlement system for Commonwealth government securities. A similar system for non-government debt securities, the Financial Transactions Recording and Clearance System (“FINTRACS”), has been linked with RITS. Interbank transfers are initiated through the SWIFT PDS and linked to RITS through an interface.
Transactions which generate settlement obligations between financial institutions are settled as they occur using credit funds in exchange settlement (“ES”) accounts held with the RBA. Transactions which require payment by participants without ES accounts are settled by agent/sponsors.
Settlement risk in an RTGS is eliminated but a new risk, liquidity, is introduced. A bank which fails to complete a payment is in breach of its contract with its customer. Further, a payment which failed to complete due to insufficient funds would seriously damage a bank’s credit.
The RTGS system provides two features that assist in liquidity management. An “auto-offset” mechanism searches continuously for offsetting transactions. Thus, if bank A is making a payment to bank B, the system will automatically offset any payments being made by bank B to bank A, thus reducing or eliminating any debit to bank A’s ES account.
The “intraday repo facility” provides a mechanism whereby banks may use Commonwealth, State or Territory securities to make up any shortfall in their ES account. The securities are sold to the RBA under an agreement to repurchase by the end of the same day.
Although the intraday repo facility may be activated manually, its great strength is that the system invokes it automatically as needed to cover shortfalls as and when needed. The automatic facility transfers securities when a payment has been queued for five minutes or more and there are insufficient funds in the ES account.
6 Consumer payments
It is not possible to settle “small” payments in real time. As with the notion of “large” payments, the meaning of “small” will vary as technology develops. As long as payments represent transfers of institutional liabilities, net deferred settlement regimes will be used.
The range of consumer payments available may be seen from the clearing arrangements operated by APCA. There are three consumer “clearing streams”:
- the Australian Paper Clearing System for cheques and other paper-based payment instructions;
- BECS, the Bulk Electronic Clearing System, for direct entry debit and credit payment instructions; and
- CECS, the Consumer Electronic Clearing System, for ATM and EFTPOS interchanges.
CECS is not yet operational due to delays in obtaining authorisations from the Australian Competition and Consumer Commission. ATM and EFTPOS clearings are the subject of individual bilateral arrangements between the players. Authorisation has recently been obtained, and CECS is expected to be operational sometime in 2001.
Cheques are the only widespread paper payment instrument. Australians remain very heavy cheque users, writing in excess of one billion cheques a year. In spite of other developments, cheques remain the only general purpose third party payment mechanism. Until mid-1999 all cheques were physically transported to central locations for physical presentment to the drawee bank. It is now possible to present cheques “by particulars”, that is, by sending information concerning the cheque to the drawee institution, but the system is being phased in gradually.38
Direct credit and debit instructions are only available to institutional customers. As in many countries, direct credit instructions are used for payrolls and other large scale regular payments. Direct debit instructions are used by insurance companies, utilities and other large organisations which have regular payments due them. Although governed by APCA rules, the actual exchanges of instructions occur through bilateral exchanges. There is no central “clearinghouse” for bulk direct entry payment instructions.
Not all consumer payments are cleared through APCA. The major exceptions are credit card payments and a bill paying facility established by the major banks known as BPay.
Credit card use has expanded dramatically over the last few years, primarily because of “loyalty” schemes. Credit card payments are cleared through bilateral arrangements.
BPay allows direct credit payments to be made to participating merchants, known as “billers” in the BPay system. Payment instructions may be initiated by telephone or through computer arrangements. Clearing of BPay instructions is through a central computing facility operated by a company owned by the participating banks.
There is no other large scale option for consumer payments. There is no GIRO mechanism available for general purpose third party payments. Stored value cards and digital cash have been trialled but there is no general acceptance or widespread use of these mechanisms.
7 Purchased payment facilities
At the time of the Wallis Report, there was a widespread belief that Stored Value Cards (“SVCs”) and digital cash were likely to be significant players in the payment system. Although that has not yet eventuated, the perception remains that these mechanisms required some form of regulation.
The form chosen in the Payment Systems (Regulation) Act 1998 is the “purchased payment facility” (“PPF”). The argument in this section is that the regime of regulation is confused and serves little purpose. It is further argued that the reason for this is a fundamental confusion as to the legal nature of stored value cards and similar facilities.
7.1 What is a PPF?
Section 9(1) of the Payment Systems (Regulation) Act 1998 provides:
(1) A "purchased payment facility" is a facility (other than cash) in relation to which the following conditions are satisfied:
- the facility is purchased by a person from another person; and
- the facility is able to be used as a means of making payments up to the amount that, from time to time, is available for use under the conditions applying to the facility; and
- those payments are to be made by the provider of the facility or by a person acting under an arrangement with the provider (rather than by the user of the facility).
However, a facility covered by a declaration under subsection (3) is not a purchased payment facility for the purposes of this Act.
The notion of a “facility” is not defined, but s(9(4)) provides:
(4) In this section:
(a) a reference to a facility includes a reference to a right to use a facility; and
(b) a reference to the purchase of a facility includes a reference to the payment of an amount for a right to use a facility.
It is obvious, and confirmed by the Explanatory Memorandum, that these sections were intended to apply to new payment system developments such as SVCs and digital cash as well as to older facilities such as travellers’ cheques.
Whether a “facility” is a PPF will, of course, depend upon the details of the particular facility, but it is not hard to imagine that there will be problems of interpretation. Consider, for example, a reloadable SVC where there is an express clause that the card remains the property of the issuer. This is the most common form of proposals for general purpose SVCs.
Is the “facility” purchased? The card clearly is not purchased since there is an express clause to the effect that it remains the property of the issuer. Has the customer purchased a “right to use” the facility (ss4(a)) or paid “for a right to use” the facility (ss4(b))? It obviously may be argued that this is the case, but what is the difference between this “right” and the right to use an ordinary cheque account? It is difficult to identify any characteristic of the “right” that does not equally apply to an ordinary cheque account or an account that is operated by debit card. In each case money is advanced (to use a neutral term) and is then used to make payments to third parties in accordance with instructions from the customer.
The same arguments apply to the issue of digital cash. The situation is slightly different with travellers’ cheques since it may be argued that the customer is purchasing the negotiable instrument. However, the same argument applies to the purchase of a bill of exchange, and it seems unlikely that the section was intended to apply to the discount of bills.
The other parts of the definition of PPF are satisfied by most, if not all, modern payment mechanisms. Again taking the familiar cheque as an example, it is used as a means of making payments “up to the amount that, from time to time, is available for use under the conditions applying to the facility”, thus satisfying s9(1)(b). The resulting payment is made by the bank, not the user of the facility, a fundamental fact determined as long ago as Foley v Hill39 and clarified in Joachimson v Swiss Bank Corp.40 Consequently s9(1)(c) is satisfied.
In short, modern payment systems always conform to the second and third parts of the definition. The only distinguishing feature of a PPF is that it is “purchased”, but this is either applicable to only a very small number of facilities or to virtually all payment facilities, depending on how you view the arguments above.
This difficulty of applying the definition did not escape the architects of the section. There is an escape hatch since the RBA is empowered under s9(3) to make “declaration” that a particular facility is not a PPF. If the Act were to be applied rigorously, we should expect to see many such declarations.
7.2 Regulation of PPFs
PPFs, whatever they might be, are “regulated” by Part 4 of the Act. The only significant “regulation” is that the “holder of stored value” must be an Authorised Deposit-taking Institution (“ADI”). Because the PPF concept is so vague in its application, the Act provides for the RBA to grant “declarations” (s9(3)) “authorities” (s23) and “exemptions” (s25), all of which have the effect of mitigating or removing this regulatory requirement.
The RBA is given the power to make a declaration that a facility is not a PPF for the purposes of the Act: s9(3). It may only make such a declaration if it considers that it is “inappropriate” for the Act to apply to the facility having regard to:
- any restrictions that limit the number or types of people who may purchase the facility; or
- any restrictions that limit the number or types of people to whom payments may be made using the facility.
- other matters that it considers are relevant.
The first item would apply to “in-house” and other restricted entry schemes. The second might apply special purpose cards such as telephone access cards or transport payment cards. It might be argued, reasonably in my view, that single purpose payment cards are not a “payment system” that requires regulation.
The only consequence of a declaration is that the Act does not apply to the facility. The declaration does not determine the legal nature of the facility or the other regulatory regimes that might be applicable.
7.4 “Holder of stored value”
The only serious regulation of PPFs is that the “holder of stored value” must be an ADI. The “holder of stored value” is the person who makes the payment referred to in s9(1)(c): see s9(2) and the interpretations in s2.
Presumably this means the person who factually makes the payment, not the person who is contractually bound to the customer to make the payment. To clarify this, let’s call the customer C, the person who sells the PPF I (the issuer) and the “holder of stored value” H.
C is in a contractual relationship with I, the terms found in the document usually called “Terms and Conditions” (“T&C”). Whatever else the contract might contain, there must be a promise by I that I will ensure that payments are made if the facility is used in accordance with the terms of the T&C. If C chooses to use H to effect these payments, that is of no concern to C since C has no contractual relationship with H except in the unlikely event that I is acting as agent for H in concluding the contract with C.
The Act “regulates” PPFs by requiring that H be an ADI or hold an authority or exemption: s22. While this sounds admirable from a system stability viewpoint, it fact it has little effect. It gives C little comfort in the event that I becomes insolvent. C has no contractual relationship with H so, in particular, C is not a “depositor” who would receive preference under s13A(3) of the Banking Act 1959. It might be argued that H holds the funds in trust for the customers of I, but such an argument is notoriously uncertain in outcome: see, for example, Re Kayford Ltd;41 compare with Re Multi Guarantee Co Ltd.42
But all of this is academic since H may not hold any funds at all. The contract between I and H may call for H to be reimbursed after payments have been made by H.
What is the situation if H becomes insolvent? If I has deposited funds, then I will be entitled to the preferential treatment accorded to depositors by s13A(3) of the Banking Act 1959. I is still obligated to C to provide for payments. Presumably I must find a new “holder of stored value” if it remains solvent after losing its deposits with H.
7.5 Authorisations and exemptions
Section 22 provides that a corporation is guilty of an offence if it acts as the holder of stored value of a PPF and is not an ADI or the holder of an authority or exemption.
A corporation may apply for an authority under s23. Application is made to the Reserve Bank and is for authority to act as a holder of stored value for a class of PPFs. The Bank may grant the authority provided that it is satisfied “that the corporation will be able to satisfy its obligations as the holder of the stored value of purchased payment facilities of the relevant class”: s22(2). The bank may, at any time, impose conditions, add new conditions, revoke or vary existing conditions, being conditions that are “aimed at ensuring the corporation meets its obligations as holder of the stored value of purchased payment facilities of the relevant class”: s22(4). The authority may be revoked if the corporation fails to comply with conditions or if the Bank is no longer satisfied that it can meet its obligations as holder of stored value.
The RBA may grant exemptions, either on its own initiative or in response to an application: s25. The exemption may apply to a corporation or to a class of corporations, and relates to a class of PPFs. The effect of an exemption is to allow the corporation or class of corporations to be the holder of stored value for the specified class of PPFs even though not an ADI. There is no provision for the imposition of conditions on exemptions.
It is not obvious why there are two different mechanisms for achieving the purpose of permitting non-ADIs to be the holder of stored value. The only obvious difference is that the authority may be made subject to conditions. However, since there is no obligation on the RBA to impose conditions, the exemption provisions would seem to be redundant.
7.6 What is a PPF (revisited)?
As seen above, the concept of a PPF is flawed. Parts (b) and (c) of the definition apply to almost all known payment systems. The application of (a), the “purchase” part of the definition, is vague and uncertain and probably also applies to almost all known payment systems.
Even if we could clearly identify PPFs, the regulation of them is ineffective because of the separation of the “holder of stored value” from the person who is contractually bound to make the payment. As noted above, there is no reason for the “holder of stored value” to hold any funds at all.
In my opinion, the confusion is the result of a fundamental misunderstanding of the payment instruments involved. The language of stored value cards and digital cash has misled us as to their legal nature. Commercial promoters talk of cards as “just like cash”, bankers speak of the “transfer of value” and computer scientists talk in terms of “tokens”.
Each of these terms is, of course, valuable in the appropriate context, but we should not be confused by them when attempting to analyse their legal nature. The situation is similar to the use of the word “deposit” in the last century which obscured the legal nature of a deposit as a loan: Foley v Hill.43
The details of a new analysis are discussed elsewhere,44 but the essence is that most PPFs are simply “distributed accounting” payment systems. In particular, a SVC serves two purposes:
- it provides the accounting system; and
- it provides the “access method”, that is, the means whereby payment instructions are issued.
In this analysis, “payment” by SVC is simply the transfer of institutional liabilities.
This analysis has numerous benefits. It positions the SVC squarely in the mainstream of payment systems law, it avoids having to give legal meaning to new terms such as “transfer of value” and it avoids the legal problems associated with issuing “tokens”. Perhaps most importantly, it allows a regulatory scheme to be structured that has none of the difficulties associated with the PPF regime of the Payment System (Regulation) Act 1998.
8 More on the “business of banking”
The Banking Regulations 1966 have been amended to extend the concept of “banking business”.45 The effect is to extend the confusion which has resulted from the lack of any clear conceptual framework for “purchased payment facilities”.
The problem addressed by the Amendment is, according to the Explanatory Statement issued along with the Amendment, is that the “holder of the stored value” (the “HSV”) must either be an ADI or hold an exemption or an authority. If the HSV is an ADI, then it is supervised by APRA, but if it is a non-ADI with an exemption or an authority, then it is supervised by the RBA through its power to grant the exemption or authority. It is untidy that some HSVs should be regulated by the RBA while others are regulated by APRA.
Under the new regulation, the provision of a PPF is “banking business” for certain types of PPFs. There is no indication of what it means to “provide a PPF”, but it is obvious that the “provider” need not be the HSV. For example, Company X issues a stored value card, making arrangements with Company Y to make the payments. Company Y is the HSV who must either be an ADI or must obtain an exemption from the RBA. Presumably Company X is the “provider” who, if the new Regulation applies, is carrying on “banking business”.
Although the Explanatory Statement asserts that the effect is to require all HSVs to obtain authority from APRA, this is clearly not the effect. In the example, Company Y could obtain an exemption, thereby being regulated by the RBA. Company X is now potentially (see below) regulated by APRA.
The Regulation does not apply to all PPFs. It will only apply if APRA determines that:
- the purchaser may demand payment from the HSV, in Australia currency [my emphasis] of all or part of the balance held by the HSV [my emphasis again]; and
- the facility permits a relatively wide class of payments to be made by a relatively large number of payers.
Presumably the first condition means that the payment is denominated in Australian currency, but that is not what it says. The second part of the first condition reflects the usual confusion concerning the need for the HSV to actually hold stored value. The second condition is intended to exclude single purpose or limited issue cards.
The situation with alternative money forms is now totally confused. The position is:
- we have a definition of PPF that makes no sense;
- we can have “holders of stored value” that hold no value;
- we can have HSVs that receive an exemption from the RBA;
- we can have “providers” of PPFs who may be “carrying on banking business”.
The confusion is an inevitable result of a regulatory scheme that ignores the close relationship between payments and the “business of banking”. Even though Lord Denning recognised this close relationship in United Dominions Trust Ltd v Kirkwood,46 it has never found favour in Australian cases. Equally unfortunately, it was ignored in the Wallis reform legislation.
Does it matter? From a practical point of view, probably not. The RBA has never exercised its statutory powers in any formal sense. Regulation has always been through “consultation” and “discussion” and “reasoning together”, and there is no reason to believe that anything has changed. The regulators see this as a flexible and effective approach. Others might see it as non-transparent.47
The Wallis reforms have been effective with respect to the traditional payment system. Regulation on the basis of legal category (“bank”, “building society”, etc) has been replaced by regulation according to function. The real and substantial risks of the payment system have been tamed by providing certainty for netting, turning back cheques and removing the insidious risk of the zero hour rule. Australia’s payment system is now safe and stable.
The system is not yet as efficient as might be hoped. There is too much reliance on credit cards and there are still commercial barriers to new entrants to the system. There is no generally available GIRO mechanism for consumers to make general purpose third party payments.
With respect to the new payment methods, stored value cards and digital cash, the regulations are confused and useless. There is a general failure to come to terms with the conceptual mechanisms involved. This failure is not important in the short term since commercial problems seem to defeat the widespread use of the new payment methods. However, as the commercial problems are solved, the need to clarify our perceptions of digital payments will become more important.
- APSC. Annual Report 1997/98. Reserve Bank of Australia, 1998.
- Reserve Bank of Australia. Payment systems in Australia. Bank for International Settlements, Basle, second revised edition, 1999.
- Keith Campbell. Report of the Committee of inquiry into the Australian Financial System. AGPS, 1981.
- Australian Payments System Council. Annual Report 1994/95. Reserve Bank of Australia, Sydney, 1995.
- Bank for International Settlements. Report of the committee on interbank netting schemes of the central banks of the group of ten countries. Technical report, Bank for International Settlements, Basle, November 1990.
- Andrew Galvin. The legal nature of stored value card transactions. JBFLP, 10(1):54 – 65, 1999.
- Benjamin Geva. The concept of payment mechanism. Osgoode Hall LJ, 24:1, 1986.
- Benjamin Geva. The clearing house arrangement. Canadian Business Law Journal, 19:138 – 165, 1991.
- VE Martin. A pocket full of change: Banking and deregulation. Technical report, House of Representatives Standing Committee on Finance and Public Administration, 1991.
- Mark Sneddon. A review of the electronic funds transfer code of conduct. JBFLP, 6:29, 1995.
- Alan L Tyree. Banking Law in Australia. Butterworths, Sydney, second edition, 1995.
- Alan L Tyree. Legal aspects of electronic clearing and settlement. In Proceedings of the 13th Annual Conference of the Banking Law Association, page 289, Surfers Paradise, 1996.
- Alan L Tyree. Banking Law in Australia. Butterworths, Sydney, third edition, 1998.
- Alan L Tyree. The legal nature of electronic money. JBFLP, 10(4):273–281, 1999.
- Alan L Tyree and Andrea Beatty. The Law of Payment Systems. Butterworths, Sydney, June 2000. ISBN 0 409 31701 2.
- W S Weerasooria. Banking Law and the Financial System in Australia. Butterworths, Sydney, 5th edition, 2000.
- Consultant, Mallesons Stephen Jaques, Sydney; formerly Landerer Professor of Information Technology and Law, University of Sydney.
- The rate of growth has slowed or stopped, but the absolute number of cheques used remains more or less constant: see the “Redbook” .
- There was no direct fee or charge for the use of cheque facilities.
- Ironically, deregulation has also meant that the payment system is subject for the first time to statutory restrictions: see the Payment Systems (Regulation) Act 1998 and the discussion below.
- Others included Rothwells (a large Westert Australian merchant bank); the WA Teachers Credit Union, Tricontinental (merchant bank owned by State Bank of Victoria). For a fuller discussion, see Weerasooria .
- The APSC was a non-statutory body, chaired by the Reserve Bank, with broad industry and consumer representation. It reported to the Treasurer.
- In later years, discussion centered almost exclusively on consumer protection problems: see the annual reports of the APSC and, in particular, 
- APRA was established by the Australian Prudential Regulation Authority Act 1998.
- The establishment of the second board and the responsibilities are set out in Division 2, Reserve Bank Act 1959. The composition of the PSB is set out in Part IIIA of the Act.
- ASIC was formerly the Australian Securities Commission. Its expanded role and name change were established by the amended Australian Securities and Investment Commission Act 1989.
- Commissioners of State Savings Bank of Victoria v Permewan Wright & Co Ltd (1914) 19 CLR 457; approved and applied in Australian Independent Distributors Ltd v Winter (1965) 112 CLR 443.
- See the analysis in Geva , adopted and expanded in Tyree and Beatty .
- It is particularly unfortunate since Lord Denning had recognised the importance of payment mechanisms as early as 1966 in United Dominions Trust Ltd v Kirkwood  2 QB 431.
- By virtue of s10B of the Reserve Bank Act 1959, these powers will be excercised through the Payment Systems Board.
- Section 8.
- Section 10.
- Section 11
- Section 11.
- Section 12.
- Section 14.
- Section 18.
- See, for example, Weerasooria .
- Although the Governor of the Reserve Bank recently threatened to intervene in the Credit Card system if some changes to “interchange fees” are not made.
- EFT Code, cl 1.1.
- See the discussion in Weerasooria  and in Tyree .
- The Expanded Code is being drafted by Mark Sneddon. See Sneddon .
- For a discussion of the system prior to 1998, see 
- For a discussion of payment systems risks, see Tyree  and Tyree and Beatty . See also the recent publication by the Bank of England, “Oversight of Payment Systems”, November 2000.
- “Deposits” held by banks were treated differently by virtue of the then s16, Banking Act 1959; see now s13A(3).
-  2 All ER 390;  1 WLR 758
- See  for a full discussion of the British Eagle case; see also Geva .
- See below at 5 for a discussion of the Australian RTGS system.
- Section 6, Payment Systems and Netting Act 1998.
- My understanding is that “large” payments are currently anything over approximately $25,000.
- The PRESS system, later abandoned in favour of RTGS: see the explanation in the second edition of Tyree .
- At p 301.
- See the “Redbook” .
- Detailed rules for non-physical presentment are set out in the Cheques Act 1986.
- (1848) 2 HL Cas 28; 9 ER 1002
-  3 KB 110.
-  1 All ER 602;  1 WLR 279.
-  BCLC 257.
- (1848) 2 HL Cas 28; 9 ER 1002.
- See Tyree  and Tyree and Beatty . For a view that electronic money is sui generis, see Galvin .
- Banking Amendment Regulations 2000 (No 1)
-  2 QB 431
- And, as noted above, it has been less than completely effective.