Digital Transactions Authoritative, insightful and timely information for payments professionals
The same U.S. banks that have retarded progress in digital payments shouldn’t be entrusted with anything approaching a monopoly on implementing real-time payments systems, says Mark Horwedel.
Lately, the Federal Reserve Board has been shepherding a cross-industry effort to build a faster, more efficient, and more secure payments system in the United States. As that commendable effort heads into its home stretch, one big question stands out glaringly, but has largely gone unaddressed: How much influence should the nation’s big banks have in putting this faster-payments scheme together? Here’s why I think payments executives need to think carefully about this question.
The U.S. was once the envy of the payments industry, having been among the first to embrace online payments and ATMs. But it has now fallen significantly behind much of the rest of the world. Most innovation now occurs outside the U.S. and is increasingly a result of efforts by public policymakers who insist on better security or by tech companies challenging bankers for market share.
Examples include:
– The equivalent of real-time ACH in Great Britain
– Chatbots in China
– T-Money in South Korea
– Voice recognition in the United Kingdom and Netherlands
– M-Pesa in Kenya and Tanzania
– RuPay in India
– Chip & PIN in most of the industrialized world (while we in the U.S. settle for a less secure, watered-down version of EMV that still relies upon worthless signatures).
Notably, many of the countries in which important payment innovation has occurred lack the big-bank establishment that is characteristic of the U.S. In other countries, big banks compete aggressively with their peers rather than aligning with them in payment schemes. Some countries hungry for more modern payments systems welcome innovation by passing laws enabling non-banks to compete with banks as equals or near-equals.
By contrast, policymakers and regulators in the U.S. seem loath to challenge the schemes’ alignment of horizontal competitors, effectively creating what many view as a de facto exemption from antitrust laws.
As a result, the U.S. has become the Dead Sea of payments, with dominant banks focused on circling the wagons around payment schemes that support supra-competitive fees, ensure survival of the weakest, and thwart competition between scheme members. Banks have no motive to innovate, nor are they inclined to disrupt or compete with other banks, since the benefits of keeping the old payment systems intact outweigh the risks of altering them.
Instead, banks in the U.S. have created payment schemes in which they have aligned on prices and services and marketed their services under common brands. These schemes shield members or their primary customers (the banks) from competition by setting default prices to merchants and by creating rules and pseudo-standards that inflict on merchants the costs of protecting member banks from their card products’ defects.
Unfortunately for U.S. merchants and their customers, U.S. banks charge the highest fees for card payments in the world. Bank fees, including interchange, translate into higher costs to merchants, which temporarily absorb part of the costs. However, due to merchants’ razor-thin operating margins, most costs inevitably get passed along to all their customers, even those who receive public assistance. Bank management and shareholders are delighted with the status quo.
Starving out Innovators
Fortunately, many people outside the banking industry have begun to address the sad state of domestic payments. One public official characterized the U.S. as having a “disco-era payments system,” and, as mentioned above, the Federal Reserve has started to address the problem by conducting efforts focused on bringing U.S. payments up to date with the rest of the world.
Market developments also threaten disruption of the existing payments paradigm. Mega-banks, like Chase, with a global presence and a desire to focus primarily on promoting their own brands over scheme brands, have recognized the need to work with individual merchants. These banks seek to partner with merchants to develop products for mobile commerce, since they want their payment products to gain top-of-wallet presence. No doubt, some of them chafe at the tendencies of the bank schemes to homogenize payments by forcing participation under a common logo or ID, tendencies that may prop up the weakest banks in the scheme.
Card-payment schemes born in the U.S. have also run into opposition by public policymakers and regulators outside this country who are not interested in replicating the U.S. card-payment environment. Recently published studies by the Kansas City Fed demonstrate a pattern of ever-increasing legislation and regulation, much of it aimed at U.S.-based card schemes.
Consumers bear the brunt of the U.S. payments system’s eroding value and efficiency. Nonetheless, they sit and wait for an evolution in payments despite being forced to endure our EMV miss-steps and patchwork pattern of implementation. All the while, they’re being bombarded by confusing and frequently inaccurate claims of mobile payments app efficiency and functionality.
Banks naturally withhold support for innovative payment products, starving out innovators rather than teaming with them to gain a competitive edge over their fellow banks. The innovators eventually cave and are forced to ride the rusty payment rails owned by the big banks and their schemes.
Accelerating Change
Change will likely come slowly, since disruption of the status quo threatens banks’ short-term profitability as well as the very existence of weaker members of the bank establishment. But this change can be accelerated by not allowing those schemes exclusively owned and operated by big banks to effectively own or control a greater share of our domestic payments.
Merchants can help by getting more involved in payments by participating in the Faster Payments and Secure Payments task forces sponsored by the Federal Reserve, and other groups seeking to address the inadequacies in U.S. payments.
