What Drives the Turnover Ratio?

Abstract

Abstract Settling transactions in a payment system imposes opportunity costs of holdingliquidity on the participating banks. A measure of these costs is the turnover ratio,defined as the value of payments a bank makes per unit of overnight central bankbalances. We assume that a bank can increase its turnover ratio (and thus decreasethe opportunity cost of liquidity) by an active cash management. Despite the factthat all banks have access to the same cash management technology, we observethat the turnover ratios vary widely not only through time but also across banks.We argue that these differences can be attributed to two sources: increasing re-turns in cash management and reserve requirements. We show that the optimalbehavior of a bank depends in a non-trivial way on the whole joint distribution oftransaction volume, interest rates, and reserve requirements. These distributionsvary substantially among banks because of the different lines of business they pur-sue.We test the model with data from the Swiss Interbank Clearing system (SIC) andfind significant empirical support for it. Using our estimate of the cost function ofcash management, we are also able to quantify the costs of reserve requirementsimposed on banks. JEL classifications: G21, G28.Key words: payment systems, reserve requirements, bank behavior?We thank Stephane Fumeaux, Barbara Luscher, Thomas Nellen, William¨Roberds, and Andy Sturm for helpful discussions and comments.Email addresses: daniel.heller@snb.ch (Daniel Heller), yvan.lengwiler@snb.ch(Yvan Lengwiler).Preprint submitted to Elsevier Preprint 6 December 2000