Columbia University School of Law
Payment Systems (L6386)
Professor Avery Wiener Katz
May 5, 2005
10:00 am — 1:00 pm
QUESTION 1 (⅓ of exam, 1 hour suggested time)
Chip Clueless hid his checks, ATM card and VISA card from his daughter Thea and her boyfriend Zeke, who used drugs and had forged checks in the past. Thea found Chip’s hiding place, however, and correctly guessed that the personal identification number for the ATM card was the same number as the code for their home security alarm system. She then forged a number of checks and made a series of ATM withdrawals and VISA charges on her father’s payment cards over a three-month period. These transactions included:
Chip did not notice Thea’s charges at the grocery store when they appeared on his VISA bill, because he often shopped at the same store and assumed the charges were his own. Nor did he notice any of Thea’s cash transactions. He did notice the charges to Tunes.com, but because these were small in amount, he never got around to complaining about them, until the check to Leather Loft showed up in his monthly bank statement. At this point he realized this check was forged, and questioned Thea and Zeke, who confessed to all their fraudulent transactions. Chip immediately contacted Worthy Trust, requested that all outstanding checks he could not personally account for be stopped, and demanded that all amounts paid out to Thea and her payees be restored to his account. Worthy refused Chip’s demands for recredit, however, instead directing him to language in his depositor’s agreement that required refund claims to be submitted within twenty days from the mailing of a statement containing the item in question.
What are Chip’s rights and duties under these circumstances?
QUESTION 2 (⅓ of exam, 1 hour suggested time)
Discount Depot issued a check for $123,644.32 to Polyester Products as payment for goods previously shipped and received. This check was stolen from the mail and never reached the payee. Instead, it fell into the hands of Taylor, an artful fraudster who altered the check to make it appear that he was the payee, by painting over Polyester’s name on the payee line with ink of the same color as the check’s background, and by typing his own name on top of the re-inked portion. On April 7, Taylor deposited the check in an account he maintained at the State Bank of Tallahassee (SBT). SBT provisionally credited Taylor for the deposit, but because it was substantially larger in amount than any check he had previously deposited, it placed a ten-day hold on the funds before forwarding the check to the payor bank, NationsBank.
NationsBank and Discount Depot had previously established a “positive pay” agreement under which Discount Depot would notify NationsBank of all checks it issued, and Nations Bank would pay only those checks. Under this procedure, NationsBank compares data from an incoming check’s MICR line with data supplied by its customer; unfortunately, the system cannot detect alterations of the payee’s name, which is not encoded on the MICR line. When Taylor typed his name on the check, he used a font of different size and kerning than the standard font used by Discount Depot, but no employee of Nations Bank ever physically examined the check, and the bank paid it on April 9, the day it was presented.
On April 12, Polyester realized it had never received the check and contacted Discount Depot, inquiring as to its whereabouts. Discount Depot replied that the check had cleared and under company policy, no replacement check could be issued for thirty days. Then on April 19, Taylor requested that SBT wire $116,000 from his account to an account with the Royal Bank of Bermuda. Upon receiving this request, a funds manager at SBT called NationsBank and was told that the check had cleared. The manager also called Discount Depot to inquire about the check, but Discount Depot’s customer service representative was unable to verify the check’s legitimacy during the call. The customer service representative did not report the call to his superiors until the next day, nor did he communicate with the accounts payable agent who had dealt with Polyester. Having received no clear direction from Discount Depot, the SBT funds manager released the hold on the funds, and executed the wire transfer to the account at the Royal Bank of Bermuda.
When Discount Depot realized on the morning of April 20 that the check had been stolen, it immediately contacted NationsBank and requested a recredit. NationsBank thereupon contacted SBT and sought reimbursement; when SBT refused, NationsBank demanded reimbursement from the federal reserve bank that had presented the check on SBT’s behalf.
What are the various parties’ rights and duties under the circumstances? (You may assume that the wire transfer between SBT and the Royal Bank of Bermuda is governed by US law, including Article 4A to the extent it may apply.)
QUESTION 3 (⅓ of exam, 1 hour suggested time)
Academic and industry commentators have been predicting the emergence of a “checkless society” since the 1960's, but in the United States, checks have remained a popular means of payment. Indeed, the number of checks written each year in the US, and the dollar volume of these checks, continued to increase for most of the last four decades.
Recent developments, however, suggest a reversal of this trend. According to surveys conducted by the Federal Reserve, the year 2003 marked the first time that electronic payment transactions exceeded check payments in the US. Moreover, the number of checks paid actually declined from 41.9 billion transactions in 2000 to 36.7 billion transactions in 2003 — an annual average rate of decline of 4.3 percent. Over the same time period, the number of electronic payment transactions increased from 30.6 billion to 44.5 billion, or 13.2 percent per year. The rate of increase is especially high for debit card transactions, which grew at an estimated annual rate of 23.5 percent. Measured in terms of total value, however, checks are still more important than electronic payments; the 36.7 billion checks paid in 2003 had a total value of about $39.3 trillion, while the 44.5 billion electronic payments had a dollar value of $27.4 trillion.
You are a policy analyst for the Federal Reserve. The head of your office has just sent you an e-mail message which states in part:
I have been thinking that we should pay more attention to the potential problem of stranded check users, that is, those who will be the last to switch to electronic media as the check system declines. Namely, as the use of checks diminishes further, the unit cost of operating the checking system is likely to rise, leading to a vicious cycle in which higher unit costs lead to smaller check volume, leading to higher unit costs, and so on. As part of this process, some people will obviously adapt faster than others, but poorer and less educated consumers will probably be the slowest, and some will face substantial difficulty in adapting at all. This last group might even include some small businesses, at least with regard to certain types of transactions.
At our next monthly staff meeting, I would like to hold a discussion on the appropriate role for public policy in this setting. E.g., is this problem really as significant as I have been sketching? Are there regulations or changes in the law that would help address it? Is there any kind of workable payment alternative (apart from cash, of course), to which stranded users can turn? If there isn't, what can be done? Etc., etc.
Could you please write a short memo that can serve as a springboard for our discussion?
Write the memo.
END OF EXAM