Cheque clearing
Cheque clearing (or check clearing in American English) is the process of moving a cheque from the bank in which it was deposited to the bank on which it was drawn, and the movement of the money in the opposite direction. This process is called the clearing cycle and normally results in a credit to the account at the bank of deposit, and an equivalent debit to the account at the bank on which it was drawn.[1]
The process would take a number of days as cheques would have to be physically taken back to the issuing bank until the development of cheque truncation in the 1990s. In many countries this would be via a central clearing house operated by the banks to make the process more efficient. If there was not enough funds in the account when the cheque arrived at the issuing bank, the cheque would be returned as a dishonoured cheque marked as non-sufficient funds.
History
With the development of cheques in England in the 1600s it was customary to return the cheque to the issuing bank for payment. However as cheque usage grew some customers would deposit a cheque with their own bank who would arrange for it to be returned to the issuing bank for payment. Until about 1770, an informal exchange of cheques took place between London banks. Clerks of each bank visited all the other banks to exchange cheques, whilst keeping a tally of balances between them until they settled with each other. Daily cheque clearing began around 1770 when the bank clerks met at the Five Bells, a tavern in Lombard Street in the City of London, to exchange all their cheques in one place and settle the balances in cash.
By the 1800s a dedicated space was established, known as a bankers' clearing house. The London clearing house used a method where each bank paid cash to and then was paid cash by an inspector at the end of each day. This method spread to a number of other countries and by 1853, the New York clearing house used a large oval table and two clerks from each bank. An outer ring of clerks would rotate at set intervals, settling payments in cash with each bank on a pairwise basis.
The Federal Reserve System was established in the United States in 1913 to act as a central, well-capitalized clearinghouse. This prevented occasional panics where banks would refuse to deposit cheques due to uncertainty about the solvency of the drawing bank. The Federal Reserve can physically accept and transport cheques.[2]
As volume grew, more efficient sorting methods were needed. Approaching the 1940s, two popular methods were Sort-A-Matic and Top Tab Key. Sort-A-Matic involved a set of metal or leather dividers numbered 00 through 99. Checks would be sorted by hand according to the first two digits. The cheques would be removed, and each stack sorted into the same dividers by the third and fourth digits. The process was iterated until the cheques were completely sorted. Top Tab Key used a physical mechanism: holes were punched in the top of each cheque representing the values of various digits, and metal keys used to physically move them until sorted.
Magnetic ink character recognition (MICR) was developed and commercialized in the 1950s. It enabled computers to reliably read routing and account numbers and made sorting of paper checks automated.
Cheque truncation was introduced in various countries, starting the 1990s. It allowed physical cheques to be converted to electronic images and MICR data, for electronic clearance. (See Substitute check in United States for more details on clearance procedure.) These changes have made it possible for businesses and consumers to deposit checks without even delivering them to their own banks. In the procedure known as remote deposit, they take a picture of the physical cheque with a smartphone or other device, and use the image to make the deposit. The depositing bank uses the image in the normal electronic clearance process, though in this case MICR data is not available.
See also
- Clearing house (finance)
- Automated Clearing House (ACH)
- Electronic funds transfer (EFT)
- Electronic payments
- Substitute check
