Home to tech behemoths like Amazon, Facebook and Google, one would think that the United States would have a mobile payments ecosystem that's both advanced and convenient. Instead, the U.S. struggles to keep pace with countries like China and the U.K.
For example, while more than 80% of Chinese consumers used mobile payments last year, adoption rates cracked less than 10% in the U.S. (odd, considering more than 81% of Americans own a smartphone). In today's digital age, spending and moving money should be like sending an email: instant. It's simply the digital movement of data. So why are we not there yet?
Stuck in slow, antiquated rails
In the past 45 years, we haven't really had a fundamental change in payment rails that handle a large majority of U.S. domestic payments. The ACH network, which handles electronic payments in the U.S., processes tens of billions of transactions per year including salaries, Social Security payments, mortgage and credit card payments and funds sent between friends' accounts.
While the ACH system has seen some improvements over the last few years, it fundamentally still operates on the same design principles it started with decades ago — a time when it was disrupting paper checks as a method of payment.
"Other countries have recognized how having faster flow of, and access to, funds increases financial inclusion, lowers fees and creates faster access to capital — all a boon for the economy."
Since then, we have seen massive innovation in the payments industry in how consumers and businesses use financial services, but the underlying rails that support these new experiences are still the same. This leads to new experiences still being stuck with the slowness of the old system.
Meanwhile, other countries have recognized how having faster flow of, and access to, funds increases financial inclusion, lowers fees and creates faster access to capital — all a boon for the economy. Hence, governments have invested in upgrading their payment infrastructure to real-time payment systems and have seen their citizens benefit.
In the hopes of finding a better solution, I, alongside global fintech companies, recently testified before the House Financial Services Committee's Task Force on Financial Technology to call on the Federal Reserve to continue efforts to create an equitable real-time payments framework. You can find the written testimony here.
Once implemented, "FedNow" will be a real-time gross settlement system that settles retail payments by debiting and crediting an institution's account(s) with a Federal Reserve Bank. Alongside this, I proposed that the Fed should enable 24x7x365 access to a liquidity tool like FedWire for all financial institutions.
The hurdles preventing innovation
While newer real-time payment systems will help the flow of funds, there is still a large hurdle that prevents real access of faster payments and innovative financial services at the cheapest cost to consumers and businesses. This is the lack of direct access to the domestic payment rails for non-banks. Unlike other countries, non-banks are dependent on big banks to gain access to payment systems in the U.S.
Preventing direct access to the payment rails and forcing access via banks leads to lower competition and higher costs for U.S. consumers and businesses. Also, such a model adds more inherent risk to the financial system as a handful of banks become access points for all non-banks to gain access. This makes said banks single points of failure for a large number of financial services that people start to depend on, leading to a large impact if these partner banks have issues.
Faster payments support financial inclusion, helping consumers avoid hefty fees from overdraft fees and check cashing. These systems also unlock working capital for small businesses who otherwise have to wait days for money to appear in their accounts.
The U.S. has the FedWire system, which allows real-time payments, but sending money through it is prohibitively expensive for most Americans. Banks can charge, on average, anywhere from $25 to $40 for the sender and typically charge recipients receiving fees for sending money instantly in the domestic wire-transfer system.
For sending money abroad, the fees are even higher, with banks on average charging 6% to 8% in fees with the money reaching the recipient in three to five days on average. Wire services, like Western Union or Moneygram, provide some faster options but can be significantly costlier for both sender and recipient. Neobanks and fintechs like Novo and N26 are trying to cater to this demand but are barred by a system that restricts bank and non-bank collaboration.
The archaic financial infrastructure has implications that extend beyond the everyday consumer. It's barring the U.S. from participating in a worldwide payment revolution through which money can now move instantly, at any hour, anywhere, and be five to 10 times cheaper than current rates banks can charge.
India (Immediate Payment Service, the U.K. (Faster Payments Scheme), Europe (Single European Payments Area Instant Credit Transfer) and Australia (New Payments Platform) all have modern financial systems more advanced than the U.S. that increase payment efficiency for their citizens.
Several other nations — Singapore, Hong Kong, Belgium, the Democratic Republic of the Congo, Malaysia, Portugal, Slovenia, Spain, France, Hungary, Netherlands, Canada, Columbia and Peru — also recently have launched, will soon launch or are exploring a faster payments scheme.
Not all's lost for the U.S., though. In recent years there has been some progress in increasing the speed of payments across the country. Card networks have started expanding to technological offerings like Visa Direct and Mastercard Send, while large banks have started to adopt services like Zelle by clearXchange and the TCH Real-Time Payments (RTP) system.
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Despite these positive developments, smaller banks and non-bank players have been reluctant to join a system run by direct competitors. This lack of a ubiquitous infrastructure is further driving a wedge between the market and consumers' access to faster payments rails.
The future of real-time payments hinges on the Federal Reserve playing a key leadership role. Having multiple players under a single system promotes market competition, giving customers freedom of choice and ultimately greater savings. As evidenced by the global developments we've already seen around the world, it is promising that in 10 years a large percentage of payments will take place in real-time systems. With that future in mind, and the economic and financial benefit such a system provides, it is prudent to not have a single system run by a single provider that powers most of the country's payments.
If we ever want to move on from 45-year-old technology, it's imperative that real-time payment systems are fully adopted. If not, we may still be running a fragmented infrastructure with expensive-to-maintain technology in another 50 years.
—By Harsh Sinha, chief technology officer at TransferWise