Successful Payment Systems
(11 minute read)
The last two decades have seen a massive growth in types and varieties of payment systems. From online and P2P payment systems to today’s contactless, mobile and digital payments and wallets, new payment systems continue to emerge. However, just as only PayPal emerged as the major success in the past 20 years, only a few are likely to survive into the future.
A successful retail payment system requires two things:
Access to stores at scale so senders and receivers can exchange funds
A trusted payment intermediary for routing transactions and ensuring governance standards.
The biggest stumbling block is access to sources of value which is where those who already have business accounts and credit limits have an advantage over others. These incumbents control the POS devices.
Tech innovations however are disrupting payments rapidly and many current barriers of entry may start to come down because of the following trends:
Customers are increasingly willing to switch to digital ecosystems and marketplaces.
Tech advances enable quick scaling up new products to critical mass, creating large seed populations in social platforms and digital marketplaces.
APIs are enabling efficient integration of payments with other products such as ACH payments and online money transfers.
Increased limits on digital spending is allowing new plug and play solutions without rolling out additional physical POS devices.
Some of these tech innovations are triggering a proliferation of C2B payment innovations, networks, and schemes. Developing countries are taking the lead on this through their innovative use of online and mobile payment systems that bypass traditional physical infrastructure (Alipay and WeChat for China, Paytm for India, Mercado Pago Argentina etc.) Tech companies are capitalising on their huge consumer reach in setting up new payment systems (Apple Pay, Google Pay); big retailers are establishing bespoke systems (Amazon Pay); card platforms are diversifying their offers (Visa-Earth Port; Mastercard – Vocalink); and countries are establishing their own domestic pay systems (Denmark and Mobile Pay; Sweden and Swish).
Note: The terms ‘network’ and ‘scheme’ are often used interchangeably but they are separate and different. A network is a directory of participants with access details of their store value. Primary networks like Automated Clearing Houses are often integrated with bank payment systems and don’t need to rely on external mechanisms. A scheme on the other hand, while also having a directory of participants, has an additional set of enforceable rules and standards which cover aspects of fraud, liability, data security etc. All major card platforms like Visa, Mastercard, Amex etc. are schemes. Hybrid schemes combine both sets of characteristics, often include a store of value, overlaid by their own set of rules and standards (e.g Alipay, WeChat Pay, PayPal etc.)
Payment Systems Start-Up
With the ongoing tech-driven disruption in the payments landscape, almost any business with a strong ecosystem can take advantage of networks and schemes with their own sets of customers, suppliers, and stakeholder partners to start-up a payment system. Card platforms for instance have expanded into B2B, cross-border, and POS lending, while banking institutions have invested in digital payment systems and domestic debit networks.
For new entrants into the market, some broad guidelines would help in starting up a payments system.
Identifying and defining an internal or external seed population and expand to a critical mass of senders and receivers to generate a strong network effect. The seed population can be based on an internal customer network and / or a strong external partnership / affiliate network.
Harness payments related data and information and encourage internal payments. Direct-to-account payment methods are cheaper than card schemes and thanks to API based open-banking standards, many providers like Amazon can target internal populations before extending the scheme to external users.
Defining pricing, rules, and standards. Graduating from a network to a scheme will add layers of regulations, standards of rules for all participants. Branding, adherence to open-data standards, access rules, pricing structures, fraud and liability regulations, and transparency codes will help schemes enhance trust and accessibility amongst users.
Expand access and distribution channels. Once a payments system is established, the next step would be to expand its access beyond the initial seed population through various methods. These can include onboarding, extending APIs access, dedicated marketing and sales, third party channels for wider merchant-acceptance and embedding within external e-commerce sites.
Payment systems have generated healthy returns of anywhere up to 30% for players in recent years, far outweighing returns for card providers and legacy banking establishments. History documents how payment systems have evolved from barter to coins and notes to plastic cards and now to on to electronic and digital wallets. In each stage of evolution, accompanying business and revenue models have also changed. With the current ongoing tech revolution, and the growth of instant payments, omnichannel marketing and digital banking, the revenue models supporting payments industry is also expected to undergo radical changes.
Disruption and Impact on Players
The ongoing disruptions in the payments industry is expected to impact on incumbent players in a variety of ways.
Banks face numerous challenges that impact on their strategic ability to manage payment networks. Strategic banking decisions will revolve around whether banks manage their own systems or arrange partnerships with third parties. For large banking organisations with the scale to operate their own networks, their internal customer base can form a ready seed population while for small and mid-size banks, forming local and regional alliances will provide them with the scale they need to bypass challenges of investment costs. Pricing considerations of course will be key for banks in managing regulators and competitors while connecting to national debit schemes might consolidate their reach in domestic markets.
Global schemes capture volumes through M&A. Both Visa and Mastercard have been very active in this space, focusing on B2B payment systems and establishing alliances with key providers in developing economies.
Acquirers need to balance their position in the intermediary ecosystem by considering how they can offer differential value for merchants offering payment schemes. Value-added services like fraud analytics and merchant lending can help them upgrade their capabilities.
New entrants can make their mark by increasing and expanding their reach, offering superior customer experience, and reducing operating costs. They can also identify and move into niche areas overlooked by large global providers and carve out a valuable space for themselves in the digital payments’ ecosystems.
Disruption is set to continue in this space with huge opportunities and challenges for all players in the near future.
