Serving As a "Banker's Bank"

As a “banker’s bank,” the Federal Reserve System provides services to commercial banks and other depository institutions much like depository institutions provide for their customers. Among these services are check processing and electronic payments.

Check Processing. The System operates a nationwide check clearing system that processes checks, drafts, and similar items. Depository institutions send checks (and similar items) they receive to Reserve Banks, which process them and route them to the originating depository institution for collection. Settlement is accomplished in the accounts the depository institutions maintain with the Reserve Banks.

Rapidly changing technology has had a significant affect on check processing, and will continue to affect how checks are cleared in the future. Electronic check processing, which does not require the physical exchange of paper, is significantly shortening the traditional path of a check being cleared through the system.

Electronic Payments Services. The System provides two types of electronic payments: wire transfers (Fedwire) and the automated clearinghouse service (ACH). Fedwire is traditionally used for irregular and large dollar payments. ACH is used for recurring payments, such as business payrolls, consumer insurance payments, and the U.S. government’s military and civilian payrolls and Social Security benefits. Increasingly, ACH is relied on for specialized uses, such as corporate trade payments.

The Fedwire system is an electronic network that processes and transmits messages over dedicated communication circuits nationwide. Computers select from among the alternatives the most efficient route for sending payments to any given part of the country. For example, if a large corporation headquartered in Richmond, Va. wishes to transfer funds to its San Francisco office, the corporation’s depository institution in Richmond can originate the transfer through a computer connection with the Federal Reserve Bank of Richmond.The Richmond Reserve Bank deducts the funds from the balance of the corporation’s depository institution and transmits the message to San Francisco. The San Francisco Reserve Bank adds the funds to the reserve balance of the firm’s depository institution in San Francisco, which credits the account of the firm. The Reserve Banks settle by means of accounting entries on their books.

The ACH system processes and transmits “batches” of payment transactions, such as corporate payroll payments. When a corporation's depository institution originates payroll payments through the Federal Reserve's ACH system, the system routes individual payments within the batch to employees' accounts at their depository institutions. The Federal Reserve settles payments with the corporation's (originating) depository institution and each (receiving) depository institution.