Let me devote the central part of this welcome speech to these different, yet interrelated links. Monetary policy impulses are transmitted from those financial institutions that have a direct relationship with the central bank to other institutions and households. The central bank typically conducts its monetary policy only with designated financial institutions, mostly commercial banks rather than with other economic agents. As a result other economic agents rely on the designated financial institutions that have a direct relationship with the central bank. The functioning of the transmission relies on the smooth functioning of payment infrastructures enabling transactions of these institutions with the central bank, as well as amongst themselves at the interbank market. If the operation of payment systems is underdeveloped, these designated financial institutions choose to keep a relatively large buffer of central-bank money to help them manage their liquidity, which in turn leads to weaker than intended monetary-policy impulses from the central bank. But in general, after the payment systems in the economy have reached a certain threshold, the influence of the payment systems on monetary policy needs to be assessed not by efficiency alone, but by reference to the velocity of money, defined as the average frequency with which a unit of money is spent in a specific time, under the assumption of a given money supply. Velocity of money circulation is endogenously determined by the economic agents’ decisions regarding liquidity holding, lending, borrowing, investing, consumption and labour.

Such an occurrence can affect other economic agents. They may face illiquidity and even insolvency, affecting market interest rates, in turn leading to changes in trading activities and a disruption in market confidence Payment systems are an essential component in preventing such occurrences and a technical mechanism for the central bank to step in order to challenge contagion or potential contagion. The interest of central banks in financial stability was largely triggered by the Herstatt incident of June 26, 1974. German banks processed Deutsche Mark payments to Herstatt bank in exchange for US Dollars, to be delivered through Herstatt correspondent account in New York. Regulators, deciding to close the bank for lack of solvency immediately, failed to appreciate the time-zone difference between Frankfurt and New York, leaving transactions half-completed. German banks did not receive their US Dollar payments. Although the Herstatt incident did not lead to a financial-stability crisis, it made central banks aware of the risk and they started developing a continuous linked settlement platform, whereby commercial banks manage settlement of foreign exchange amongst themselves on a payment versus payment basis. Cooperation in this area led central banks to share experiences covering other areas of payment systems and financial stability. Well-functioning markets depend on the willingness to develop adequate solutions to ensure smooth functioning of payment systems. Ironically, part of the problem stems from the very fact that technological advances speed up the payment systems and make them more reliable. This in turn enables banks to economise on liquid balances.