The Role of Liquidity in Cross-Border Payments

For decades, cross-border payments have faced persistent high costs, delays and operational complexity, relying on a chain of intermediary institutions that make global transactions slow and expensive.

In an attempt to disrupt this status quo, fintech introduced prefunded models, enabling faster and low-cost transactions by holding funds in local accounts in each country they are offering payments services in. Due to these prefunding models demanding liquidity in every jurisdiction, extensive capital is tied up, making it limited in terms of flexibility and scalability.

Achieving real-time, fast and low-cost global payments requires a stable, accessible liquidity framework that supports seamless and compliant transactions.

Why Liquidity Matters in Cross-Border Payments

Cross-border payments are vital for global commerce and trade but have historically been complex and costly. Traditional bank transfers between countries can take several days, as transactions often need to move through multiple intermediaries across time zones and varying regulatory frameworks. These “correspondent banking” relationships have been the standard for decades, but incur high fees and slow settlement times that disrupt cash flow and increase operational costs for businesses and individuals alike.

In recent years, fintechs have responded by adopting prefunded models, bypassing the long delays of cross-border payment settlements by holding reserves in every country the fintech services. However, while the prefunding model enables fast payments, it also requires large sums to be continuously available across currencies and regions, tying up significant capital and stunting fintechs’ growth. As transaction volumes grow, this approach has become increasingly costly and impractical.

The prefunding model also means that fintechs are constantly moving capital between international accounts to maintain liquidity, which is costly and operationally complex. While useful in the short term, this model lacks flexibility, as funds often sit unused for extended periods. The prefunding model struggles to keep pace with the increasing volume of global payments, underscoring the need for a more dynamic approach to cross-border payments liquidity.

The Promise and Challenge of Real-Time Settlement

Real-time settlement for cross-border transactions is making waves in the payments industry. Instant settlement of funds, whether sent locally or across borders, would enable businesses and individuals to access funds in real-time, improving cash flow management and facilitating faster business decisions whilst avoiding high fees.

However, real-time payments depend on immediate liquidity: the funds must be available across currencies at the exact moment of transaction. This need for readily accessible liquidity presents a major hurdle, requiring substantial and continuous capital reserves in every jurisdiction. Without large liquidity reserves to account for spikes in real-time transactions, delays and failed payments could still occur, undermining business and consumer confidence in the payment network.

Balancing Liquidity with Risk Management

Providing the funding to facilitate liquidity at scale is not the only challenge faced by the payments industry; managing the risks of large liquidity reserves is also a significant hurdle. When large sums are transacted across borders, currency fluctuations and market volatility have a major impact on the availability and value of funds. The more transactions that occur, the higher the potential exposure to these fluctuations, making risk management essential to liquidity provision.

To enable real-time settlements globally, liquidity providers must manage the risk of making funds available instantly across multiple jurisdictions and currencies. This calls for a refined approach to risk management, balancing liquidity demands with a comprehensive understanding of market exposure. Providers must continuously assess potential risks in global markets, adjusting liquidity reserves as needed to respond to exchange rate fluctuations and maintain stability. By implementing robust risk management frameworks, institutions can meet liquidity requirements while minimising exposure, ensuring that real-time cross-border payments are available at a low cost.

The Future of Liquidity-Driven Cross-Border Payments

The ongoing demand for faster, more cost-effective cross-border payments continues to drive innovation in liquidity solutions. As fintechs and financial institutions work to create scalable and reliable international real-time payment systems, the liquidity challenge is the main hurdle in their path.

Stablecoins offer a superior alternative to traditional fiat prefunded models for cross-border liquidity management. By providing digital assets pegged to stable currencies and backed by reserve assets, stablecoins enable near-instantaneous settlement with reduced transaction costs and enhanced transparency. Unlike prefunded models requiring substantial capital locked in multiple jurisdictional accounts, stablecoins allow for dynamic, real-time liquidity transfer across blockchain networks. Stablecoins also provide improved regulatory traceability and can be quickly rebalanced, addressing the core liquidity challenges that conventional international payment systems struggle to resolve.

Ultimately, the shift towards real-time cross-border payments requires more than just technology; it demands a strategic approach to liquidity that combines availability, regulatory compliance and risk management. By tackling these challenges, the payments industry can overcome long-standing inefficiencies and usher in a new era of global interconnectedness.