DEMAND: The willingness and ability to buy a range of quantities of a good at a range of prices, during a given time period. Demand is one half of the market exchange process; the other is supply. This demand side of the market draws inspiration from the unlimited wants and needs dimension of the scarcity problem. People desire the goods and services that satisfy our wants and needs. This is the ultimate source of demand.
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The process in which reserves or funds are transferred among banks to settle the accounts of checks written on one account and deposited into another. Check clearing is the heart and sole of daily banking activity and the final step in the use of checkable deposits as the medium of exchange for conducting transactions in the economy. Check clearing is facilitated by central clearinghouses, including the Federal Reserve System and a number of private organizations. The check clearing process is also a key component of the money creation process. The check clearing process is the transfer of funds between banks when a check written on one bank is deposited into another bank. This process involves the transfer of billions of dollars of reserves among thousands of banks each day using centralized check clearing houses. Some clearing houses are local or regional, processing checks for banks within a given city or state, which others are nationwide (especially the Federal Reserve System), processing checks throughout the country.
Checkable deposits could not function as a medium of exchange and be a component of the money supply without the checking clearing process. When a currency is used for payment, the seller immediately acquires control of the money asset, which can then be used for further payment. However, when a check is used for payment, control of the money asset is obtained only AFTER the check is process and funds are transfer into the sellers bank account.
The Basic ProcessIn theory, the check clearing process is relatively simple. When Customer X deposits a check in Bank A written on the account of Customer Y at Bank B, Bank B sends reserves to Bank A equal to the amount of the check. Bank A then adds a credit to Customer X's account and Bank B subtracts a debit from Customer Y's account.
For a closer look at how this works, consider the transaction between Yancy Young and Xander Xavier.
This completes the check clearing process. It also effectively completes the purchase by Yancy of the ancient Mayan mummified cocoa beans from Xander. Had Yancy simply given Xander $37 of currency, the exchange would have been completed without bank involvement or the need to clear a check. However, with the use of a check, Xander is not actually "paid" for the cocoa beans until the check "clears" and Azimuth Savings Bank adds $37 to her checking account.
- First, Yancy gives Xander a $37 check in exchange for a canister of ancient Mayan mummified cocoa beans. Yancy's check is written on his account at the Byzantine National Bank.
- Second, with check in hand, Xander hastens to a branch terminal of her bank, Azimuth Savings Bank, to deposit this $37 check in her account. Customer X makes a deposit in Bank A of a check written by Customer Y on an account with Bank B.
- Third, Azimuth Savings Bank needs to clear or process this 37 check. To do so, it sends the check via Shady Valley Secure Courier Services to Byzantine National Bank requesting payment.
- Fourth, in principle, Byzantine National Bank can "make good" on this check by sending $37 of currency (vault cash) back to Azimuth Savings Bank. It does this by placing a twenty, a ten, a five, and two ones into an envelope for return delivery via Shady Valley Secure Courier Services.
- Fifth, with these funds in transit, Byzantine National Bank completes its end of the check clearing process by deducting $37 from Yancy's bank account with an equal $37 deduction from its vault cash asset account.
- Sixth, once Azimuth Savings Bank receives this $37 envelope it settles the books on its end of the check clearing process by adding $37 to Xander's bank account with an equal $37 addition to its vault cash account.
In principle, a check can be processed by the transfer of vault cash from Bank B to Bank A. In fact, banks historically (as in the 1800s and early 1900s) processed checks by exchanging of vault cash, often using special large denomination bills ($500 and greater) for just such a purpose. However, check processing in the modern economy using centralized check "clearing houses" and a system of deposits, most notably deposits with the Federal Reserve System.
A Few Important ComplexitiesThe modern check clearing process is slightly more involved that merely transferring vault cash from one bank to another.
Any given bank on any given day is likely to receive checks written on thousands of different banks and make payments to thousands of other banks. The number of checks being processed is enormous.
- For one, a bank not only sends checks out for processing, it also receives checks from other banks seeking payment.
- For two, a bank actually sends out thousands or even hundreds of thousands of checks for processing every day.
- For three, check processing is not just between two banks, but between thousands of banks.
If banks relied on couriers to physically move checks from one bank to another, then send vault cash payments in the other direction, the resulting congestion would likely bring both the banking system and the transportation system to a standstill.
Fortunately banks have found a better way.
Clearing HousesRather than each bank working directly with every other bank in the economy, checks are processed through centralized clearing houses. Check clearing houses are operations that collect the checks from member banks, sort them by bank, then debit and credit each bank. The clearing house then determines whether a given bank, on NET, has a increase or decrease in reserves and subsequently facilitates the transfer of reserves from banks that are net payers to banks that are net receivers of reserves.
Check clearing houses some in several varieties. Some primarily service the banks operating in a given city, others service states or multi-state regions, and still others service the entire nation. Clearing houses can be private institutions or public government entities.
On the private side, The New York Clearing House Association (now named simply The Clearing House) was the first U.S. clearing house. It was established in 1853, initially servicing banks in the New York area, but expanding to service the entire country. In the early years, member banks literally met each day in the basement of a building in the financial Wall Street district of New York City to exchange checks and settle up payments.
On the public side, the Federal Reserve System, established in 1913, provides check processing services for banks throughout the country. Each of the 12 Federal Reserve District Banks serves as a clearing house for banks within its district and as a conduit for check clearing by banks in the other 11 districts. Check clearing is facilitating with the help of Federal Reserve deposits banks have with the Federal Reserve System.
More on the FedFor a little more insight into the modern check clearing process, consider how the Federal Reserve System processes the $37 check Yancy Young gives to Xander Xavier in exchange for the canister of ancient Mayan mummified cocoa beans. Once again, Yancy's check is written on his Byzantine National Bank and Xander deposits this check in her account at the Azimuth Savings Bank.
To make this illustration both interesting and informative, further suppose that Azimuth Savings Bank is located in the Boston Federal Reserve District (District 1) and Byzantine National Bank is all of the way across the country in the San Francisco Federal Reserve District (District 12).
The end result of this check clearing process is that Azimuth Savings Bank receives an additional $37 of Federal Reserve deposits (rather than vault cash), while Byzantine National Bank has a reduction of $37 of Federal Reserve deposits. In effect, the Federal Reserve System transfers $37 from Byzantine's Federal Reserve deposit account to Azimuth's Federal Reserve deposit account.
- First: Azimuth Savings Bank combines Xander's $37 with a host of other checks it receives for deposit by other customers. It temporarily credits Xander's account by $37 (awaiting final processing of the check through the system). It sends these checks to the Boston Federal Reserve District Bank.
- Second: The Boston Federal Reserve Bank credits the Federal Reserve deposit account of the Azimuth Savings Bank by the amount of this $37 check (plus other checks sent for processing by Azimuth). It then combines these checks with those sent by other banks, then sorts them by Federal Reserve District. The Boston Federal Reserve Bank sends this $37 check (along with the others) to the San Francisco Federal Reserve Bank, the district containing Byzantine National Bank.
- Third: The San Francisco Federal Reserve Bank combines this batch of checks, along with those received from other Federal Reserve District Banks, and sorts them by banks within its district. It then debits the Federal Reserve deposit account of the Byzantine National Bank by the amount of this $37 check (plus other checks written by customers with Byzantine accounts). The San Francisco Bank finalizes its role in the check clearing process by sending this $37 check (along with the others) to the Byzantine National Bank.
- Lastly: Once Byzantine National Bank receives this $37 check, it debits Yancy Young's checking account by $37.
Moreover, this Federal Reserve deposits are balanced by the $37 credit to Xander's checking account and the $37 debit to Yancy's checking account, which completes the transfer of money from Yancy to Xander in exchange for the mummified cocoa beans.
Check 21Up to October 2004, the check clear process involved the physical transfer of paper checks among banks and check clearing houses. This transfer often took several days, especially for banks located in different parts of the country and different Federal Reserve districts. This created what was commonly termed "float." Float is the difference between when a check is written (and presumably used to purchase a good) and when the funds are actually deducted from the account.
In 2004 The Check Clearing Act for the 21st Century (termed Check 21) eliminated the physical transfer of checks, which streamlined the check clearing process and reduced the float (much to the dismay of bank customers who relied on float to keep their personal finances afloat). Rather than physically transferring actual checks, Check 21 allowed the electronic transfer of digital images, which takes seconds rather than days and speeds up the check clearing process significantly.
CHECK CLEARING, AmosWEB Encyclonomic WEB*pedia, http://www.AmosWEB.com, AmosWEB LLC, 2000-2024. [Accessed: March 4, 2024].
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