Financial Update (Second Quarter 2003)


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Fed Vice Chair Sees Promise of Proposed Check Truncation Act

Check Truncation

The Check Truncation Act (CTA) proposed by the Federal Reserve will increase the efficiency and reduce the costs of processing checks, according to Fed Vice Chairman Roger Ferguson, who spoke before a U.S. Senate committee in April.

During his testimony to the Senate Committee on Banking, Housing and Urban Affairs, Ferguson said that the proposed CTA would remove existing legal barriers to the use of new technology in check processing. The CTA should benefit both depository institutions and consumers by making the check collection system more efficient, more cost effective and less prone to processing errors.

What is check truncation?
Check truncation is a procedure that removes paper checks from the collection or return process by capturing digital images of checks and delivering that information electronically. Truncation thus reduces the number of times a check must be physically processed or shipped.

Today, check truncation can occur only by agreement of the depository institutions involved, said Ferguson. In the absence of an agreement, the original paper checks must be presented or returned. With thousands of institutions in the United States, it is not feasible for any one bank to obtain check truncation agreements from all other institutions. Thus, legal changes are needed, he said.

The Check Truncation Act
The proposed CTA would facilitate check truncation by creating a negotiable instrument called a substitute check. Depository institutions would then be able to truncate original checks, deliver the check information electronically, and print and deliver these substitute checks to institutions and their customers who want to continue receiving paper checks.

Customer protections
Although a broad consensus exists on the proposed legislation to permit substitute checks, according to Ferguson, the issue of customer protections has been the subject of some debate.

Ferguson said that the Federal Reserve believes that the customer protections spelled out in the proposed CTA and in existing check laws are sufficient to ensure that banking customers are adequately protected. He did point out, however, that the Fed has concluded that the expedited recredit provisions the Fed originally suggested are not necessary.

The need for CTA
While electronic payments are rapidly growing in popularity, checks will continue to play an important role in the nation’s payment system. Therefore, Ferguson believes that the CTA, if enacted, will spur the use of new technologies to improve the efficiency and reduce the cost of the nation's check collection system and provide better services to bank customers.

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