DALLAS — To persuade bankers to accelerate the adoption of check imaging, the Federal Reserve Board has announced several price cuts for its electronic payment services and plans to drop some services for handling paper items.
Fed executives said it has to drive banks to use image exchange because it no longer can provide an extensive array of services for the shrinking pool of paper checks. However, the executives also said that they did not want to mandate how banks handle their checks, and that the carrot-and-stick combination would accelerate the transition.
"The pricing mechanism could be the best way," Jack K. Walton 2nd, an associate director in the Fed's division of reserve bank operations and payment systems, said during the Bank Administration Institute's 2008 TransPay conference.
Among the policies due to take effect this year and next, the Fed will raise its fees for processing paper checks and will break out transportation charges as a separate line item on its invoices.
It also is cutting prices for electronic transactions, both image clearing and automated clearing house transactions.
At the Fed's annual "town hall" meeting Wednesday, Richard R. Oliver, an executive vice president at the Federal Reserve Bank of Atlanta and the manager of the Fed's Retail Payments Office, reminded the audience of several thousand bankers and vendors that the agency has been scaling back its check processing operations for years, and he hinted it may go beyond the cutbacks that are already planned.
Over the past several years the Fed has reduced its processing centers by more than half, to 19, and in June it announced plans to cut that number to four by the end of the decade. "Now we're asking ourselves, 'Is that fast enough?' " Mr. Oliver said.
Fred Herr, a senior vice president in the Retail Payments Office, said the Fed reached a tipping point in September, when it accepted more check images than it did paper checks from banks for clearing. By December nearly 60% of the Fed's forward presentments were arriving as images.
However, paying banks are posting only 32% of transit items electronically; the rest must be converted back to paper as substitute checks.
By yearend 75% of forward presentments are expected to arrive as images, and 55% will be clearing as image, Mr. Herr predicted. Image returns made up less than 40% of total return items in December, but that figure will rise to 65% by yearend, he said.
Mr. Herr announced a variety of cuts aimed at prodding banks to invest in imaging.
By the end of August the Fed will stop accepting cash letters with "carrier documents" containing paper checks. Mr. Herr said that under the new policy, if it receives cash letters containing such documents, it will treat the entire deposit as a "raw cash letter," which carries steep surcharges.
"It is penalty pricing," he said. "There has to be enough incentive to remove these from the processing flow."
Brian D. Egan, a vice president with the Atlanta Fed, said during another session that the Fed is reducing the custom services that it has long offered individual banks, because the reduction in processing centers makes such services economically unfeasible.
For example, on July 1 the Fed will stop manipulating the magnetic ink recognition line data of checks it processes to match the custom file formats used by some banks, he said. At the same time it will do away with gray-scale check scanning, instead giving everyone high-resolution black and white images, and it will stop sorting cash letters by account number.
The Fed also has eliminated various fees on automated clearing house services. Mr. Oliver said that last month it folded into its electronic access fee charges for services that previously generated separate charges. They include an ACH risk monitoring service, which allows an institution to cap credits or debits on any routing number, and a receiver alert service, which notifies an institution when the caps are crossed.
In addition, the Fed has eliminated a fee for delivering electronic data interchange information in an attempt to encourage more corporate clients to use ACH.
The Fed also plans to eliminate the use of nonstandard payor bank data formats and electronic check presentment formats. By the end of 2009 the Fed will base all its image-processing services on Check 21 standards, and by mid-2009 it will eliminate its proprietary bulk data systems in favor of systems using Internet protocols.
Mr. Herr said the Fed is beginning to break out transportation costs as a separate line on invoices. As fewer checks travel between banks on trucks and planes, the transportation system's operating costs must be spread over a shrinking number of items, he said.
The Fed has made significant cuts in its Fed Relay air courier service, and last month it began a two-year deal to use AirNet Systems Inc. for some supplemental transportation services.
"At some point it will become unfeasible for us to provide this service," Mr. Herr said. That means banks will have to use the U.S. mail to send checks to paying banks, convert the checks to ACH items, or find "a yet to be determined solution."
By 2010 more than 90% of checks are expected to clear as images, Fed officials say, raising the question of how to travel "the last mile" to full image exchange. Without legislation, the Fed cannot start charging the check-printing fees to the paying bank instead of the presenting bank, they said.
But Mr. Walton, who will retire from the Fed in June, said regulators might seek to harmonize payment law, at least in terms of consumer protection and error resolution, because the varying fund-availability schedules and legal rights in different scenarios, as when a check is converted to ACH, are confusing to both consumers and bank employees.
But such an effort could take a long time, he said. "It took us four years to do Check 21, and that was a little thing compared to this. It could take the better part of a decade or more."
