Industry collaborates to modernize payments system
Why can’t consumers and business managers send and receive payments as easily as they can send and receive email messages?
That’s a question Kevin Christensen has been pondering for some time. Christensen is vice president, risk and financial services, for SHAZAM, the Johnston, Iowa-based electronic funds transfer company. Along with Bob Steen, CEO of Bridge Community Bank, Mechanicsville, Iowa, and Tina Giorgio, president/CEO of ICBA Bancard & TCM Bank, Christensen participated in a panel discussion on payments at the annual convention of the Community Bankers of Iowa in Okoboji on July 21, one day prior to the long awaited release of the final report from the Federal Reserve’s Faster Payments Task Force.
Christensen highlighted the interoperability of the email system. Regardless of the company behind the email – Gmail, AOL, Yahoo and others – users can send and receive messages to and from each other without delay. Christensen said that level of “functional interoperability” is what he is seeking in payments. He said the technology already exists; the hurdles are mainly political. “Transferring payments from one organization to the next can occur easily if we just agree to do it,” he said.
PayPal and its subsidiary, Venmo, are among the largest players in the person-to-person electronic payments arena; Zelle, supported by some of the largest banks and core processing technology companies in the country, is the other big player. Google Wallet, Square Cash, and Popmoney are other players, and don’t forget Apple Pay which is getting P2P capability soon.
A plethora of options has resulted in a somewhat balkanized payments landscape, Christensen lamented. “Some payments being made through Bolt$ to larger institutions are being refused,” he said, referring to SHAZAM’s own person-to-person payments product. “They are refusing them because they want to steer their customers to their own proprietary solutions. There is no desire by those larger institutions to be interoperable.”
Achieving interoperability among competing solutions is a key step in achieving a faster-payments ecosystem. The Faster Payments taskforce, made up of 300-plus payments experts from banks, technology companies, and other interested parties, call it a “foundational issue” that will require “ongoing industry collaboration.”
Other countries have solved this challenge by mandate from their central bank. In the United States, such a mandate would have to originate with Congress and few observers expect lawmakers to come to agreement on something as complex as the payments system anytime soon. The Task Force notes in its report, “the United States is taking a market-driven approach to payments system innovation that avoids government mandates. This approach relies upon multiple solution operators and other stakeholders voluntarily collaborating to address these challenges.”
Steen, who participated in the Task Force over its two years of work, said he believes such collaboration is possible. “I would like to think we are going to get there. I am optimistic,” he said. “This process that the Fed has undertaken is a remarkable process to get this kind of collaboration. What it proves is we agree on way more than we disagree.”
The Task Force
The Faster Payments Task Force was made up of 321 people representing organizations such as ICBA and ABA; BMO Harris, US Bank and Wells Fargo; seven of the Bankers’ Banks, Bell Bank and many of the core processing companies, including Computer Services, Inc., D+H, Fiserv and Jack Henry. The Task Force was formed in June 2015 and concluded with the publication of the final report. Although the Task Force’s work is now concluded, some working groups will continue to meet, presumably through its 2020 goal of achieving a faster payments ecosystem. The Task Force said work from here on out needs to focus on governance and regulation, infrastructure, and sustainability and evolution.
The governance and regulation work will be key to bringing together competing players to create an interoperable payments system. The Task Force warns against payment solution consolidation, despite apparent benefits from economies of scale. “With limited competition, solution operators may not have incentive to respond to the demands and interests of end users and other service providers, especially smaller ones,” the Task Force states in the final report. “Specifically, smaller depository institutions, nonbank service providers and smaller solution operators are concerned that the major solution operators would set pricing, rules and other processes that are not transparent and could make it difficult for small service providers to compete with their larger counterparts on a level playing field.”
“The challenge we have is you get a lot of powerful companies in a room and everyone wants to own it, so trying to get through that and solve that is the biggest challenge,” Giorgio said.
The infrastructure piece likely will include work to develop a directory or multiple directories that provide information for payments. Three directories are envisioned: a “lookup” directory which stores and supports retrieval of information to facilitate initiation of payments; an “alias” directory which provides designator information, such as an email address or telephone number as a substitute for the underlying payment routing information. Once the payer and payee information is known, a routing directory is essential for directing payments.
The Federal Reserve may be a logical candidate for housing such directories, although the Task Force noted the risk associated with housing all the information at one source. Furthermore, Steen said he believes it is important for his bank to maintain information about his customers. “My view is, if we are going to make a mistake it is going to be our mistake,” Steen said. “We try to control our own data as best we can.”
Should everything come together as faster payments advocates hope, the Task Force offered recommendations for sustaining the system: develop methods for fraud detection and reporting, develop advocacy and educational programs to increase awareness and adoption, and continue to study emerging technologies.
The customer experience
While achieving faster payments involves a technology challenge, it is chiefly about the customer experience, commented Giorgio. “Somehow, as community banks we have got to figure out how to marry the digital experience with the in-person experience for our customers,” Giorgio said. However the payments system evolves, Giorgio said community bankers must not allow their institutions to be reduced to mere transaction processors. She noted there is no revenue in facilitating transactions, but there is considerable expense.
Noting already 760 data breaches involving more than 12 million records have been reported this year, Giorgio said banks have the public’s trust. “We are the ones people would rather do business with.”
Steen said the solution is ultimately going to be “bank centric.” As regulated entities, banks have demonstrated a technological reliability unavailable from other industries. Christensen said the ideal faster payments solution keeps the bank at the center of the customer relationship. He said the numerous payment options confuse many customers, and most of those people prefer a solution associated with their bank.
Banks may need to be creative in order to meet customer expectations. Steen, for example, shared a story about a customer who wanted to instantly send money to a relative in Scotland. Steen used his personal PayPal account to get the deal done in about three minutes. He settled with his customer later. Christensen said customers typically are concerned with availability, not with settlement. Therefore, some of today’s solutions involve banks prefunding payment accounts in order to meet customer expectations. There is risk to the bank, but with appropriate limits it is mitigated to one more cost of doing business.
The Automated Clearing House system is moving toward same-day settlement on ACH transactions. Last September, ACH credit transactions became eligible for same-day settlement, and this year, starting on Sept. 15, debit transactions will be eligible as well. The system currently limits individual same-day transactions to $25,000 which reduces its usefulness for businesses, plus international transactions are not eligible for same-day treatment.
The Task Force considered 16 proposals for faster payment solutions, some of which depend on the ACH rails, such as the ICBA-endorsed approach offered by North American Banking Company, Roseville, Minn. The SHAZAM approach leverages the existing debit card networks. A proposal from Ann Arbor, Mich.-based University Bank relies on email and texting networks to send and receive “good-fund” transactions.
Are bankers ready?
A report produced by the American Bankers Association upon release of results from a March survey on payment trends, said: “Payments have always been the banking industry’s primary and most fundamental competitive advantage.” The report’s authors say technological advancements, digital entrants into the payments space, and increasing demand for faster payments “threaten to erode banks’ historical position.”
Responses from the survey’s 219 participants – 75 percent of which are banks with fewer than $1 billion in assets – send mixed signals about bankers’ appreciation for the gravity of payment issues. For example, 54 percent of the respondents in the survey described their approach to payments strategies as “wait and see.” The report warns such an approach “entails a risk of competitive obsolescence.”
The vast majority (87 percent) of respondents said their bank does not have a formalized payments strategy. Furthermore, 41 percent said they have no intention of developing one. Part of the problem may be that some bankers feel their bank’s role in the payments system is beyond their control. The report notes: “The vast majority of respondents reveal that their bank is either largely or completely reliant on their third-party core system provider for its payments-related capabilities.”
Nonetheless, bankers expect to spend more on payment system-related technology. A significant majority of survey respondents said their bank’s investment spending on consumer and commercial payments will increase in the coming year.
The report authors conclude by encouraging bankers to develop a strategic payments plan, and to collaborate with fintechs, among other suggestions. Dependence on third-party core system providers was noted as a significant factor.
“As a small bank, we don’t have a formal payment strategy, but we know where we need to be and where we need to go,” Steen said.
Steen recalls meetings conducted across Iowa by the Federal Reserve Bank of Chicago six years ago, where payment system advocates suggested bankers might adopt a “wait and see” attitude about coming changes. Steen couldn’t help but make a connection to the recent ABA survey results. Steen said, “That wasn’t acceptable to me in 2011 and it isn’t acceptable now.”