Fast forward – The landscape of faster payments
The landscape of faster payments has been changing rapidly over the past 12 months, with more change to come. This article tries to capture some of the key debates that have been happening, and to look at where faster payments is heading in the longer term.
How fast is fast?
A year ago the question “how fast is fast” was being debated ad nauseam. The mainly unspoken underlying question was, “can we get away with an incremental improvement to today’s systems, or do we need a new set of rails?” In the US the debate was roughly split into NACHA taking the former position and pushing same day payments, with The Clearing House on the other side backing real-time payments.
This debate also played out in the UK prior to the agreement on Faster Payments, with traditionalists advocating schemes like “ELLE” (Early submission for late clearing, late submission for early clearing – a same day or next day proposition) but progressives such as Mark Fisher argued for real-time clearing, and happily prevailed.
Today there is a broad consensus that real-time payments is the target state. This is reflected in a change in terminology – people increasingly talk about “instant” payments rather than “faster“ payments. Whether “instant” means three seconds or five seconds is a sterile debate; the important point is that clearing cycles measured in hours or even minutes do not qualify as instant.
What’s the use case?
One of the early EBA forums on instant payments was dominated by the question “what’s the use case for instant payments”. As with the “how fast is fast” question, this debate was also something of a façade for an underlying resistance to change, and of course it is possible to think of many use cases where payments are not time-critical, or where same-day payments would be sufficient. The real question is whether there are sufficient cases that unambiguously require instant payments to justify the introduction of a genuinely instant payments system.
A decade ago the UK had similar debates and eventually two use cases were highlighted as exemplars. One was payment of a credit card bill; instant payment allows the consumer to pay at the last minute and still avoid late fees.
The other was “bank of mum and dad” bailing out a son/daughter at college who needs money for a train ticket home. Both cases require instant payments; next day or even same day are not sufficient.
Since then the use cases for instant payments have increased significantly. “Alternative” (non-card) e-commerce and m-commerce payment systems have become increasingly popular, and instant payments provide an ideal underlying mechanism.
An important point to remember is that it’s not just about speed; other features that may be critical for specific use cases are the receiver validation of account validity, the confirmation back to the sender, and the irrevocability of payments.
The business case
Another topic that was popular a year ago but now stirs little interest is the business case for instant payments. When someone floated the question at a Pan-European instant payments forum late last year, the response was remarkable. The participants were virtually unanimous that no business case is needed – it is something that banks simply have to do. It’s no longer a competitive differentiator, it is table stakes for being in the banking business. Any bank that delays too long is likely to lose market share.
Is speed enough?
Karen Webster of PYMNTS.com makes the very important point that speed is great, but it’s not everything.
The debate has to move on from making payments faster to making them better. That involves a number of dimensions, including:
- The rich data carried along with the payment, allowing businesses to reconcile and analyse payments more effectively
- The risk management around instant payments, which requires real-time fraud scoring systems like those in the cards world
- Convenience of use, which is the area where banks can really shine by creating payment products for specific purposes that wrap the underlying instant payment rails
A great example of making faster better is the (inordinately delayed) Zapp/PayByBank overlay in the UK. Instant payment systems are generally “credit push” mechanisms that rely on the payer providing all the payment details – amount, reference information and so on. In the mobile world that’s fine for informal uses such as P2P payments, but hopeless for m-commerce. Zapp adds a “request to pay” leg to the transaction, allowing the merchant to specify the amount, reference information etc. which the consumer checks and approves on their own handset.
There are still several areas ripe for development of usability enhancements, for example recurring payments such as subscriptions and utility payments.
Business to business
Another area where thinking has undergone a sea change over the past twelve months is the business demand for instant payments. A year ago we heard some banks saying “we deal mainly with corporate customers and they do not want or need instant payments”. We are now hearing exactly the opposite, that businesses are demanding instant payments.
A global bank recently lost a significant business customer due to their inability to process instant payments. The business’s value proposition relies on making disbursements available to their customers within minutes. The bank thought they could handle this by processing individual disbursements as batches containing a single payment instruction (a common misconception!) As soon as significant volumes were submitted, the processing system overloaded, the business’s customers received their payments too late, and pretty soon the bank had lost that business customer.
As the pace of business continues to increase, banks that can’t keep up with the need to integrate instant payments into high-speed business processes will suffer the consequences.
APIs – where instant meets digital
APIs are a hot topic in banking, providing the gateway from the external world to the digital capabilities of banks. Some commentators equate APIs to mobile devices, but their use for B2B integration is at least as important – possibly even more important in terms of revenue generation. APIs expose many services, of which payment initiation is one of the most important, and in Europe is mandated by PSD2.
There is a similarity between APIs and instant payments. An API receives a request for a service, and responds instantly with confirmation of service execution and any associated data. Instant payments work in a similar way, with a payment request receiving an immediate response confirming execution. An API provides a natural interface for instant payment initiation, with the API call forming the payment request and the API response indicating the end-to-end completion of the payment.
It is possible to put an API in front of a traditional slow payment system, but that provides a rather poor user experience. Instead of the API response indicating the payment completion, it merely acknowledges that the bank has received the payment and will execute it in due course. This is sometimes called a “promise to pay”, and like most promises it might take some time to fulfil, and under certain circumstances might even be broken.
Cross-border payments are notoriously slow, so many people are looking forward to instant payments going international. It is questionable whether the model being discussed in Europe – a SEPA-like patchwork of interoperating ACHs – will be operable even in the Eurozone with its single currency and harmonized regulatory structure, and it certainly will not scale globally.
Cross-border instant payments will require a different approach. Whether that is a centralized model like the international card schemes, or a radically distributed model along the lines of Bitcoin, remains to be seen.
Whatever solution is adopted, it will have to address not only technical issues such as speed and volume, but also issues such as settlement risk, multicurrency reconciliation and settlement, and above all the incentivization of all players to participate in the system.
Blockchain technology is at the peak of the hype cycle, and is being touted as the solution to most problems in the financial space, including instant payments. The reality is far from this. Currently the global Bitcoin network is restricted to a sustained rate of 7 transactions per second – a tiny fraction of the throughput of a single bank in a domestic instant payment system. The blockchain performance needs to be orders of magnitude higher before it becomes a serious contender for instant payment processing.
Even if the performance were sufficient, blockchain would still not be a sensible solution for instant payments. The blockchain is fundamentally a distributed database, and no-one would seriously propose that as the only integration mechanism for systems even within a single bank, let alone globally.
Having said that, blockchain may well play a role in future instant payment systems. When used in conjunction with Central Bank Digital Currency, it could help to resolve problems of trust and settlement risk.
Access to clearings
An issue that is causing increasing concern and regulatory attention is the restricted access to instant payment systems. Most of these systems have major banks as direct participant, while smaller banks and non-bank financial institutions struggle to gain access.
There are a number of reasons for this. Some are purely technical – the cost and complexity of integrating to the instant clearing system is simply too great for smaller participants. In the UK the Faster Payments scheme has been encouraging companies to offer aggregated gateway services. This helps, but only addresses the interface between the bank and the central infrastructure. Banks often find that the bigger challenge is to orchestrate internal systems together to support fast and reliable instant payments with 24 x 7 availability. This is the challenge that Icon’s Instant Payments Framework (IPF) helps to resolve.
Beyond the technical issues, banks and other financial institutions may face challenges in setting up an account with the settlement institution (the Bank of England in the UK). The scheme on-boarding process may also be lengthy and difficult. These areas are ripe for innovative solutions to allow more egalitarian access to clearing systems.
Ready for the future
It is clear that the field of instant payments is developing rapidly. New products will require the integration of multiple systems to deliver increasingly compelling and seamless customer journeys. Meanwhile, it is likely that the clearing systems will introduce new message types to support additional functionality.
Icon’s Instant Payments Framework (IPF) delivers the functionality and performance to meet the needs of today and the flexibility needed to confidently tackle the changes that tomorrow will inevitably bring.
To discuss how Icon’s IPF can help your organization make the transition to instant payments, contact firstname.lastname@example.org.