With the increase in the volume of cheques and the computerisation of banks, the Central Bank of Sri Lanka decided to automate the cheque clearing system for speedier and accurate processing. To achieve this objective firstly Sri Lanka Automated Clearing House (SLACH) was established within the purview of the Information Technology Department of the Central Bank of Sri Lanka. SLACH commenced operation on March 2,1988. Secondly computerised "High Speed Document Processors" (Reader/Sorter equipment) were introduced and new cheques were introduced with MICR (Magnetic Ink Character Recognition) characters. This technique is used for reading of data automatically from a document into the computer system.

Using the present MICR system, the SLACH operated the cheque clearing system for the past 14 years. In year 2002 the Central Bank of Sri Lanka decided to hand over the activities of the SLACH to its users namely commercial banks operating in Sri Lanka. Accordingly, LankaClear (Pvt) Ltd was incorporated under Companies Act and it took over the activities of Sri Lanka Automated Clearing House (SLACH) on 1st of April 2002. The shareholders of this new company are the Central Bank of Sri Lanka and all commercial banks operating in Sri Lanka.

After the divestment LankaClear was able to reduce the cheque processing time by 06 hours. As a result banks were able to reduce their cheque clearing realization time. With all these changes even now cheques out side Grater Colombo Region takes relatively longer time to clear, i.e. T+2 or beyond (T = To day, T+1 = Tomorrow, T+2 = Day after tomorrow).

LankaClear being the operator of the Automated Clearing House is exploring the alternatives to improve the clearing system to ensure that the cheque clearing cycle for the whole country is shortened (ideally to T+1) and for the customers to receive their funds by the next working day.

Major hurdle to achieve T+1 is due to the time taken by banks to complete all four legs of the cheque clearing process.

In the present MICR cheque clearing system the physical movement of the cheque from the presenting bank to the paying bank is very important. Further an adequate time needs to be allocated to return the cheques by the paying bank to the presenting bank.

Image is performed by capturing both sides of cheques by a camera attached to the reader equipment. This technology is known as Image character Reading (ICR) technology.

In the image technology the image moves electronically and thereby reducing the time taken to follow the four legs of clearing circle to clear the cheques within one day (T+1).

To develop the equity market it is necessary to bring whole Island under T+1 clearing schedule. With this objective in mind it is proposed that LankaClear should seriously consider imaging the cheques at source, whether it is at the presenting bank/branch level or at Regional Hubs and thus truncating its physical movement of cheques as early as possible.

When planning an image clearing system for Sri Lanka, it needs to consider the following factors;

Considering abovementioned factors, LankaClear officials studied the Image Clearing Systems implemented by Hong Kong and Singapore. It helped LankaClear to draw up a suitable concept for Sri Lanka. LankaClear (Pvt) Ltd and Central Bank of Sri Lanka are jointly planning to implement Image based clearing system in Sri Lanka by year 2004.

According to the concept there are several steps to follow:

* Introduction of Image friendly cheques

* Introduction of legislative amendments

* Installation of image processing equipment at the main site and back up sites.

* Establishment of 10 Regional Service Bureaus and the Central Site at LankaClear.

With cheque truncation system (imaging), instead of the physical cheque the electronic image of the cheque will be transmitted throughout the entire clearing cycle. For this purpose it is necessary to introduce a newly designed cheque in a standardized format.

The important features of an image friendly cheque are given below:

(i) The back ground colour needs to be light.

(ii) Back ground behind the following fields to be plain without any design such as Date, Payee, Amount in figures, Amount in words, Signature and MICR Clear Band

(iii) Boarder of the amount box should not contain dark contrast lines and should provide a white patch instead. All 22 commercial banks operating in Sri Lanka have already printed their "Image Friendly cheques" and now they are in circulation.

In order to obviate the need for banks to make physical present of the cheque for clearing, the Bills of Exchange Ordinance to be amended to present the electronic image of the cheques for payment. Accordingly Hongkong Government amended the Bills of Exchange Ordinance. Singapore parliament also passed a similar amendment to the existing laws, legalizing the image of the cheque. We were made to understand that according to the new Singapore law the need for retention of the physical cheque for 06 years was now been reduced to 02 years. This will reduce the banks house keeping expenses drastically. Accordingly the changes to the following legislatives to be introduced;

* Bills of Exchange Ordinance -to be amended

* Evidence Ordinance-to be amended

* Electronic Transactions Act -to be introduced Installation of Image Processing Equipment at Main Site and Back Up Sites

The current equipments at the Clearing House are 08 years old and also not capableof reading the images of the cheques. Hence, reader sorters and its cheque clearing software at the main Clearing House in Colombo will be replaced with a solution that reads and captures the Images. This will automatically sort the cheque images and data by the paying bank/branches. The proposed system will also generate the inter bank settlement files for settlement. The computer software for the Cheque Imaging and Truncation system has been already awarded, and the hardware tender will be awarded once the tender evaluation is concluded.

Under image clearing system a mirror image back up system will be implemented.

Establishing 10 Regional Service Bureaus Island wide and 01 Bureau at

Most of the remote branches present between 3 to 40 cheques per day to LankaClear. Therefore, purchasing image capturing scanners by each and every bank/branch is not feasible. Most feasible solution is to set up service bureaus in regional level. We have already identified 10 such locations, namely Jaffna, Anuradhapura, Polonnaruwa, Badulla, Matara, Galle, Ratnapura, Kurunagala, Kandy and Nuwara Eliya.

Cheque is the small man’s mode of payment. Therefore, improvements to the retail payment system would have significant socio economic benefits to the public as a whole. Cheques are used not only for business transactions, but also for government payments, such as salaries, pensions, payments to service personnel. etc. Most of these transactions could be cleared throughout the country on T+1 or T+2 if a cheque imaging system were to be implemented in the near future.

With the increasing economic activities in the North and East it is imperative to put in place a speedy cheque clearing system to ensure that emerging business enterprises are provided with a safe and speedy transaction mode. The proposed two regional centers in Jaffna and Ampara (or Trincomalee) would cater to the increasing demand for speedy clearing process by new businesses in these regions.

A faster cheque clearing system would help the regular income receivers to avoid borrowing money from informal sources to bridge the gap between the receipt of the cheque and realization of proceeds. This would be beneficial to poorer segments of the society as they would be able to avoid bridging finances for shorter periods at high interest rates.

The speedy realization of funds in economically backward areas will increase the usage of cheques and reduce the cash transactions, thereby increasing the banking habits in these areas. The growth in these activities would contribute significantly in narrowing down the existing disparities in economic well-being in these areas.

Retail payment systems and instruments are significant contributors to the broader effectiveness and stability of the financial system, in particular to consumer confidence and to the smooth functioning of economic activity and commerce. For these reasons, the efficiency and safety of retail payments are of interest to central banks and governments. As approximately 63% of retail transactions (as per daily average value of transactions) are done through cheques, improvements to the cheque clearing system would have significant economic benefits.

Although all retail payment systems may not pose systemic risks, they can pose what is known as "system-wide risks" due to their wide spread usage and inter-dependencies with other retail and systemically important payment systems. In Sri Lanka cheque based payments, RTGS payments and SLIPS are the three systemically important payment systems. Inefficiencies in anyone of these systems would have system – wide risks. Some banks have their own clearing systems. Banks present 65% of their cheques to LankaClear and 35% of cheques are cleared through either regional clearing or local clearing thereby creating systemic risks. This makes Central Bank and LankaClear to think improvements to cheque based payment system and introduce image based cheque truncation system to Sri Lanka.

* The existing cheque realization time span varies from 1 to 10 days (uncleared areas). The ultimate objective of the Image Clearing System is to reduce the cheque clearing time in the entire island to a maximum of T+1.

* Ten Regional Service Bureaus will facilitate non computer linked branches to participate for the image clearing system.

* Current Clearing House window for accepting cheques is 5.00 p.m. This could be extended up to 7.00 p.m., under the image cheque clearing system.

* To improve the cheque clearing and settlement system to go in line with the economic growth and reduce systems risks.

* Under image based cheque truncation system there are socio economic benefits to the public and operational benefits to the bankers.