Innovation in Retail Payments

The Committee on Payment and Settlement Systems (CPSS) recently published a report called ”Innovations in retail payments”. Based on a fact-finding exercise among 30 central banks, 122 innovations were identified and categorised. From that exercise, five major trends were derived:

  • In view of the considerable number of new developments, the market is dynamic. However, only a few innovations have so far had a significant effect on the market.
  • Most innovations are developed for the domestic market, and only a few have international reach, although similar products and categories have emerged worldwide.
  • There is an increased focus on speeding up payment processing, either through faster settlement or through faster payment initiation.
  • Financial inclusion has served as an important driving force for innovations in many countries, either under a government mandate or because of the new business opportunities opened up by an untapped market.
  • The role of non-banks in retail payments has increased significantly, owing in part to the growing use of innovative technology that allows non-banks to compete in areas not yet dominated by banks.

The report also looks at the drivers and barriers affecting innovation in retail payments.

User demand is the most fundamental driver for innovation, as it forms the basis for any business case, either by creating potential revenue or by realisation of economies of scale and scope in producing the service.

The regulatory framework is also a major influence on retail payments innovation. As payments markets tend to be oligopolistic, many regulators have tried to promote competition by easing the requirements for payment services.

Technological developments, e.g. EMV chips, NFC or mobile devices, are necessary, but not sufficient for successful innovations. If there is no perceived value for the user, the initiative will fail.

Cooperation has always been important for the payments industry, as initial investments for innovations are often very high. Cooperation is also a response to the more complex value chain for new innovative payment products, e.g. mobile payments. More than half of the innovations in the report involve some kind of cooperation, mostly between banks and non-banks and with a strong focus on Internet payments, mobile payments and electronic bill presentation and processing (EBPP) solutions.

Price and Price structure is essential to all innovation. Finding the right balance between ensuring enough revenue to support the business case while at the same time offering the user enough, perceived, value over existing solutions is always a daunting task. The fact that the retail payments market is two-sided, with merchants on one side and consumers on the other, also adds extra complexity to it. The debate regarding the pros and cons of multilateral interchange fees and whether or not merchants should be able to pass on fees directly to their customers will probably continue for some time.

Standardisation is a good way to help innovations reach critical mass and avoid incompatible, small-scale systems that lack acceptance. It also helps to reduce the risk and associated cost for new innovations. However, it is important that standards are not used to keep new players away or that they become obsolete. The payment industry has come to rely more and more on the International Organisation for Standardization (ISO) but market-driven solutions, e.g. SWIFT, has also been proved to deliver efficient standardisation results.

Security, real or perceived, is a major concern for new payment solutions. Who will stand the risk in case of fraud and how will potential users react to this? But security is also a possibility for innovations as new solutions, with higher security, can replace existing ones. The growing role of non-banks and more complex business models have increased the need for coordination between authorities, both on a national and international level, to assure consistency in regulatory approach and to leverage existing know-how.

Based on the underlying economics of payments as well as the drivers and barriers identified, the report suggests some pointers as to what could be expected over the next five years:

  • Technical developments are likely to blur product categories, since access devices and access channels are becoming interchangeable.
  • Near Field Communication (NFC) has the potential for future growth, as it supports faster payment processing, potentially increasing user convenience and efficiency.
  • E-commerce could further boost the demand for Internet payments, particularly as existing payment methods do not always meet users’ efficiency or security needs.
  • Globally active players may have the advantage in leveraging their coverage and market power when offering innovative payment solutions across borders.
  • In many cases, innovations in retail payments represent only incremental improvements to existing and established payment services. However, large leaps can occur, particularly in countries where the payment infrastructure is underdeveloped.
  • Distinct changes in retail payments could potentially be triggered by factors such as the emergence of new payment schemes, non-banks broadening the scope of their business remits, and regulatory changes.
  • Although technology will lead to more convergence in payments at the global level, significant differences between regions are likely to persist.

The full report can be downloaded from the Bank for International Settlements’ (BIS) web site.

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