By Clive, a bank IT professional and Japonophile
When I read articles like this one Under Pressure, Big Banks Vie for Instant Payment Market in The New York Times, it is all I can do not to weep.
If you accept my premise that the only point of serious journalism, blogging or broadcasting is to both educate and inform their audiences, this piece fails on each count. There’s nothing wrong with offering entertainment, of course. But if you market yourself as a serious source of information, you shouldn’t publish half-baked stories that make you look like one of those grocery store magazines running a constant diet of showbiz stories.
Giving The New York Times’ piece the benefit of the doubt, it is highlighting both the rapid growth in non-traditional payment systems which it refers to, incorrectly, as Instant Payment Systems. It rightly criticises the incumbent industry players – these are mostly the Too Big to Fail banks (TBTFs) – for their lack of innovation.
But it cuts far too much slack to the non-traditional payment systems, ignoring their weaknesses and not highlighting the risks to their users.
I’ll start by saying something that should be obvious but which ends up being completely obscured to such a degree and with such regularity that I cannot help but think it is at times deliberate obfuscation. If you want to, for example, send me some money, when you use a traditional payment system, such as cash, checks or bank wire transfers you pay me.
These payment systems are highly regulated and have the benefit of well-settled law behind them.
Counterfeiting notes and passing bad checks are felony crimes and treated as such by law enforcement. Bank transfers are regulated in most jurisdictions such as in the U.S. and the U.K.
Conversely, in non-bank payment systems or, as the New York Times refers to them, Instant Payment Services, you pay the Payment Service who pays me.
In most respects, these “instant payment” services are a little more than marketing and a sleight-of-hand. They are nothing but tack-ons to the conventional clearing or payment systems (such as the well-known card schemes like Visa, MasterCard, Amex etc.) which actually do the grunt work of money transmission. While we have often criticised these here at Naked Capitalism, they do however meet the criteria of being socially useful. They provide anti-money laundering and consumer protection facilities such as fraud and loss control. Some of their fees (all of them in EU member states) are regulated.
This is why when you register for a non-traditional payment system, none of them work as true end-to-end money transmission services without either a credit or debit card account or a national account number (or an IBAN (International Bank Account Number)) being registered as a precondition to signing up for their service. It is these which are all interfaces to the real clearing system. If you stop to think about it, it’s a bit more obvious – try getting “cash” out of PayPal for example. You can’t write a check on your PayPal account. It has no branches to do over-the-counter withdrawals from. All you can do is send the money to another PayPal account or a “real” bank via a bank or credit/debit card account.
Similarly, if these services offer a conventional card product as an additional feature, such as the PayPal debit card, that is nothing to do with PayPal, but is instead just a branded service from one of the existing card schemes (MasterCard in the case of PayPal).
And they are all skating around the regulations for being licenced deposit takers where you end up with a “credit” balance sitting on your account. This vexed question was explored in more detail in this excellent FT Alphaville article but it did not reach any firm conclusion because there isn’t one to be reached. Money left in a PayPal account is in legal limbo.
Even in their core business, which is money transmission, the new entrants have found it difficult to comply with the law as evidenced by PayPal’s settlement for sanctioned goods and entities dealing violations. In fact, one of the key drivers behind PayPal’s Venmo service offering was to ensure a better demarcation between the PayPal payment service and the PayPal money transmissions service which, of course, then had to apply for state money transfer licences because these are not granted at a federal level. In the EU, PayPal applied for and obtained a banking licence for similar reasons and you could argue that the EU was a lot tougher on PayPal than the U.S. regulators (the OCC and FDIC) were because they stopped short of forcing PayPal to become a licenced deposit taker.
The fact that these payment services are even able to get their feet in the door of the money transmission business is worth observing. While the increasing popularity of non-bank payment services is due in part to poor bank and industry systems which don’t easily allow for more convenient or sophisticated interfaces and lazy oligopoly TBTFs thinking they don’t need to invest in better propositions to their customer, it is also due to regulation offering some consumer protection for the regulated payment systems which the intermediaries like PayPals Venmo don’t provide.
It is this complete lack of objectivity which is most objectionable in The New York Times article. Users complained, for example, about the intrusive security in the Chase QuickPay service (which is a true bank-to-bank payment system via the clearXchange interoperability layer with a mobile-friendly front end) but there was nary a mention about which party in a non-traditional payment service money transfer is responsible if things go wrong.
The boosterish mainstream media reporting that new economy challengers can offer consumers all of the convenience of one-click services with none of the costs or risks incurred by doing away with safeguards is getting increasingly tiresome. By continuing this pretence when it comes to money transmission, the coverage has the equally unpleasant side-effect of letting the TBTFs and their regulators off the hook for failing to mandate the adoption of interoperability services like clearXchange that don’t involve an intermediary.
If we were being suspicious, we could suggest that this is a feature not a bug – allowing a fee-charging intermediary to enter the picture creates the opportunity for a rent-seeker to establish themselves, especially if the moves to wean us off “costly” and “inconvenient” cash and checks gain momentum. Me thinks too that the bank-operated payment systems doth protest too much about the new non-bank operators because, certainly for the foreseeable future, the banks legacy payment systems will continue to be pivotal to the end-to-end flow of funds, so the banks will still be able to extract their cut too.
And as for Nice Things like the provision of a universal money transmission service, complete with clearXchange-type convenient interfaces, which is operated as a public utility (which it is) on a not-for-profit basis, they seem as unlikely as ever.
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One true observation in the linked article:
No doubt US banks are backward. But the Federal Reserve handles most check clearing. It is probably the largest culprit in the US being 30 years behind even some Third World economies in payment technology. After all, the Fed runs the absurdly costly, inconvenient, user-unfriendly Fedwire service. Why change?
Remember when a snowstorm on the east coast could cripple business for days, since it blocked aircraft from flying paper checks into and out of New York? Those were our soviet days, comrades. And they weren’t so long ago.
Presumably, Chase QuickPay is a front end for ACH (Automated Clearing House). Sometimes ACH payments go through the same day. Sometimes they don’t. In that case, you are advised to take a siesta and wait for mañana … or in that lovely Japanese-Spanish mash-up that Clive will appreciate, ashita mañana.
Yes, many a happy hour (or two) spent in Japanese bank branches receiving endless ちょっと 待ってください’s and lots of bowing but precious little in the way of any discernible progress. Still, at least the Japanese are nice about it.
I should have as you say pointed a sharper finger at the Federal Reserve for not forcing the pace of progress in the banks within its charge. Even the notoriously supine Financial Services Authority in the U.K. forced the clearing banks to adopt, universally, STP (Straight-Through Payments) which is branded as “Faster Payments” — these go from one bank account to another in a minute or two, usually just seconds.
From what I can tell, Chase QuickPay and other clearXchange-compliant services operated by the banks was a National Automated Clearing House Association (NACHA) initiative. Certainly, they do all get routed via ACH and, while the published technical documentation is a little hazy, from what I can gather in order to comply with the clearXchange specs, you have to enable immediate settlement on the bank back-end system, but the whole thing is so smothered in caveats that I don’t think you can hold them to any sort of timeframe for the transfer to complete. That said, the only thing that is instantaneous about Venmo and its ilk is the updating of their own internal ledgers. Actually getting the funds to the recipient which they can use in a spendable way lands you back on the big snake and takes you right into the bowls of the conventional clearing system. That people serious think these sorts of services are anything other than flashy front ends on a nothing burger shows how convincing their marketing is.
STP – I knew a bank where it meant “straight to paper”
Still does in many cases.
“That people serious think these sorts of services are anything other than flashy front ends on a nothing burger shows how convincing their marketing is.”
Silcon valley.
Great post. Ultimately, I think, it comes down to the fact that these systems have to be reversible, which is always the costly part.
The other very important way that pay pal has been able to avoid regulation is because they’ll send law enforcement ANYTHING and EVERYTHING. Just a request on dept letterhead. No pesky judges or “rights” for the non-account® holders.
https://pando.com/2013/12/14/team-omidar-world-police-ebay-puts-user-data-on-a-silver-platter-for-law-enforcement/
I overheard a guy, on his phone, at a gas station telling someone that “pay pal is fully insured” and I wanted to start yelling. First, for the fact he’s having a very loud conversation within ear shot of at least 10 other random people (several numbers were exchanged). Second, because pay pal doesn’t “insure” shit. They don’t have to. You’re an 987,654,233 level creditor after you give them money, AND give them ongoing access to your bank account.
In general, off the top of my head, I can’t think of what would be a truly innovative fintech startup.
Most of them
– pretend they don’t have to be regulated, when in fact they likely will have to be (just wait for the accident)
– ride on the existing infrastructure, while pretending otherwise (and often providing worse services for less, but the “worse” bit is carefully hidden in small text. Lots of payments/FX transfer services falls here)
– aim at clients banks gave up to (unless they can securitise them and flock it off to a third party buyer)
Oh, and there’s the whole solution-seeking-problem class, of which blockchain is the most visible bit (with the “we don’t want fiat money, so we want bitcoin” being the most popular..)
What this really shows are two things:
– people are desperate to trust someone else than banks with their money
– power of marketing
I use paypal a lot because of the convenience but I don’t trust it any more than I trust a bank (I do my banking at a credit union). I can’t stand paypal and I wish there were an alternative that worked as well, or better. My biggest beef is the phony slowness of transfers from paypal into my bank account (“the float”). Apparently they use pony express or maybe an old Atari to process incoming transfers, since it takes three full days minimum to get $ into my account. Then there is a 3% vig for the incoming payments, 4% if it’s in a foreign currency. I know that people are working on better systems, hopefully there will be a breakthrough at some point that puts paypal out of business.
I had always wondered why the ‘prices’ asked for on E-bay for items were higher than the “instinctual” fair market values of said items. When I ventured into the E-bay marketplace, all became clearer when the fees and skim were added up. Add in the Pay Pal fees and the light of reason breaks the horizon. I’m wondering if the ‘breakup’ of E-bay and Pay Pal was an opportunity for extra rent extraction the Powers behind the throne couldn’t pass up.
One possible selling point for ‘shadow transfer systems’ could be the outrageous fees charged by the Wire Transfer operators. Every Friday here in the American South, one can trot on down to the local Wal Mart and see the long line of Latinos waiting to spend nearly five percent, by a quick mental calculation from remembered transactions, to remit funds to their home families. Add in the understandable fear of apprehension held by “los ilegales” which prompts them to not use regular banks, and the forces driving this section of the populace into “the shadows” takes on a class warfare dimension.
The provision for a Post Office Bank, with no Immigration tie in would all but shut down the ‘shadow empires.’ This would go a long way to explaining why we still don’t hear about said public service in Congress.
One of my pet peeves — the truly exorbitant cost of money transfers in these over-the-counter services. They incur zero risk as they get money from the sender up-front. The cost of the transaction is a few cents. And even if they provide a cash issue service for recipients this subject to fixed costs and should not vary depending on the amount (certainly for the transaction values typically dealt with, maybe up to $500 or so). Definitely a case of the high cost of being poor.
The cost is higher than a few cents (these are mostly transfers from unbanked to unbanked, so non-trivial fixed costs and some proportional costs (cash insurance)), but still agree that they get screwed, often on both sides (transaction costs and the FX rate if any).
Here this could actually be an innovative fintech, as in a lot of recipient countries there are mobile money-equivalents (which have their own problems, but hey ho, the risks may be worthwhile to the users).
The prices on eBay are higher than “instinctual” fair-market because many eBay buyers don’t Google search items to learn “fair market” prices. For those uninitiated, the cost of selling on Ebay is ~13% of bid price. If the Buyer pays with a credit card you lose another 3%.
In my state, California, there is a ~10% sales tax. This makes an out-of-state Ebay transaction occasionally palatable.
Then there is the listing fee after a set number of items each month. Or, if one lists more than that regularly, a monthly “E-bay Store” “rent.” Also some nasty ‘prodding’ to let E-bay do the shipping for you, with, of course, an E-bay ‘rake off.’ Then, some psychological warfare on E-bays part for the vendor to ‘maintain standards’ by getting uniformly high feedback scores. It’s a mugs game.
All this puts me in mind of the ancient Spartans, who deliberately eschewed the easy to use silver coinage, adopted by their Athenian rivals, in favor of absurdly huge and inconvenient iron bars. This helped to prevent the Spartans from slipping into the soft life of easy commerce so attractive to many other people in the ancient Mediterranean world.
If we’re comparing these so-called “instant payment services” to the aforementioned silver coins, it’s like the Athenians were making the switch over to silver coinage but then every time the remitted a silver coin, they had to pay some other people to pick up and move the iron bars around too.
The Island of Stone Money — Yap in the Pacific. Planet Money, NPR, 12/10/2010
More here (love the pix) — money as community memory
Planet money has proven itself, over time, as completely intellectually captured by the banks. They run wall st PR.
“This system, in the end, feels really familiar. If you go online to pay your electric bill, what’s really changing in the world?”
If you really want to blow a mind or two- what do these systems cost to set up and manage? Huge amounts, probably more, over time, than the systems, power distribution in this case, cost in the first place. The accounting, itself, costs more than the system that the accounting was set up to “serve”.
“The Island of Stone Money” — Milton Friedman working paper, quoting from the book The Island of Stone Money by William Henry Furness:
This is a topic near and dear to my heart.
I’ve spent most of the past decade working on the money transmission problem. It’s true that most of the startups highlighted in the NYT article don’t do anything particularly impressive and are just tacked on to ACH. It’s also true that almost every payment startup I’ve ever seen has gone out of its way to pretend that it is not regulated, and here’s why.
I did the opposite. I was proactive and tried to work with my regulator (in my case, in the state of California). And so far as I can tell, that turned into the most-delayed non-stayed federal motion to dismiss in the history of the Northern District of California. The point of the suit was that state regulation of money transmission is inherently flawed and unconstitutional in the internet age (and before, but especially given the internet’s advancements in interstate commerce), and especially when Western Union’s lobbying group is writing the state laws (and then complaining before Congress about how terribly onerous they are, so the public must be safe). The judge in the case, Magistrate Judge Howard R. Lloyd, took four years to produce an order on the State of California’s motion to dismiss, and that order essentially said, “Hmm, I’m not sure what to do here, this startup is probably right, but I’ve taken so long to write this that every issue raised is moot. Case dismissed.”
The state licensing regime is a farce. Big companies sail through [and steal their clients’ money]. Because it’s a federal crime to violate any state money transmission statute via 18 U.S.C. § 1960, small companies whose founders don’t want to end up in prison have a real incentive not to draw attention to themselves, so not only do they operate underground for as long as possible, but they also refuse to lobby for improvement to the situation because doing so would necessarily highlight the fact that they are all technically federal felons. This also affects partial owners: VCs, such as Larry Summers, a partial investor in Square which was fined once and ordered to stop twice in different states. No one wants to rock the boat. We can’t have Larry in handcuffs.
As for what real innovation would look like, it’s definitely not anything in the marketplace now. The point of my system was to add photo authentication to point of sale transactions by coupling a barcode (1D or 2D, e.g. QR code) with a verified image of the buyer. That would appear on the Point Of Sale (POS) system, allowing the cashier to do slightly better than trust that the signature on the back of the card (or not) was valid, or that an EMV PIN hadn’t been stolen from an IRC chat room.
I even got a patent and took Square to court over it when they copied the feature (and more). As is typical and accepted in patent law, Square’s law firm, WSGR, paid a Carnegie Mellon CS professor a princely sum to sign his name to several legal declarations about the patent that he admitted he did not write at least 90% of since WSGR wrote them, and that were objectively false. According to his deposition, he knew nothing about POS systems past using one at age 18 in Belgium for a high school job, could not properly define “ACH,” and had never written payments-related code in his life, let alone mobile payments code. On the basis of his false testimony, most of the patent was invalidated by the USPTO PTAB. The PTAB judge used to work at WSGR, which is not considered a conflict of interest.
I’ve spoken to people in Congress. I’ve lobbied repeatedly in Sacramento. I’ve been threatened with jail time. I’ve called the New York Times on several occasions, which has never written about the issue, but does write Valley puff pieces regularly along the lines of the above. Nothing changes. This is why the payments system doesn’t improve. The creaky, expensive, inefficient, fraud-ridden status quo is very profitable, and the people who want to keep it that way are the ones in charge.
That certainly tallies with my research on state licensing, the states seem to act like a load of Rotten Boroughs. Actually, they’d need to substantially clean up their acts to be eligible for Rotten Borough status.
“We can’t have Larry in handcuffs.”
Yes we can!
Traditional credit card/banking laws guarantee I have legal recourse if something goes wrong. The fees they charge are for a service that at least has legal protections for my transactions. If the new “innovative” payment schemes have lower fees but no case law legal protections for my transactions, that’s no bargain.
“they are all skating around the regulations…”
Great post. This is why I read NC.
adding: the NYT’s pushing this somehow reminds me of the MERS mortgage “innovation.” It was pushed by many, then adopted by many, then destroyed many homeowners, then was found to have no legal standing in several states – after the damage had been done by the subprime mortgage crash.
Glad to see the NYT’s home town industries (TBTF) are rolling out another new, “innovative” product idea.
Indeed, I’d say that once the FIRE industries “got away” with MERS, it sufficiently emboldened them to push the envelope with other similarly dubious ideas like instant payment services (which end up being deposit takers without capital requirements or FDIC insurance), Uber side-stepping private hire local licenses, AirBnB making a mockery of zoning etc. etc. etc…
“once the FIRE industries “got away” with MERS, it sufficiently emboldened them to push the envelope with other similarly dubious ideas”
I’ll add another to the list- Romney running for prez emboldened everyone who wasn’t there already to take full advantage to the Cayman islands, and signaled that everyone there was going to be OK, if there was ever any doubt.
“But the guy running for president is doing it!”
Where does a service like dwolla fit into all this?
Dwolla is a similar — but competing and incompatible — service to clearXchange in so far as it does offer direct bank-to-bank money transfer. So it is better than Venmo and their ilk. But the more entrants that come along, the more fragmented the options become for service users. We cannot, of course, have a single common system which everyone can access for an at-cost price Because Markets.
Thanks for this, particularly this bit:
“In most respects, these “instant payment” services are a little more than marketing and a sleight-of-hand. They are nothing but tack-ons to the conventional clearing or payment systems”
Among other things, my company promotes other companies who are selling these payment systems but I try to make sure my own company doesn’t drink the koolaid. There are a whole lot of these companies trying to get paid for reinventing the wheel. One of them tried to get us to use their service and they were actually going to take a percentage off the top of the bill being paid – not sure why the company receiving the payment from a 3rd party would have to pay a fee rather than the company who hired the 3rd party to make said payment (or maybe the 3rd party was double dipping) but I was not amused. I told them to send a damn check.
I set up a Wells Fargo checking account for my daughter, for which she only uses a debit card to get cash out of the ATM and to pay for day-to-day items. When her account runs out of funds, the debit card is declined and she knows it’s time to ask Dad for additional funds.
But when she started using Venmo, the real trouble began. To a bank, Venmo is the same thing as writing a check. Accordingly, on my daughter’s very first transaction, she depleted her bank account and then some. Wells Fargo not only declined the payment, but slapped a $35 overdraft fee on her account!
At least customer service gave her a pass on this first “offense”, but now we understand one of the dangers of using an instant payment service that’s tied to an IBAN number.
Not, unfortunately, a rare story. Industry research has indicated that the easier the method of initiating and concluding a transaction becomes, the lower people’s inhibitions to spending are. Even on relatively small value purchases (down to the $5 or $10 dollar range). Once you stop equating the spending of money with the physical handing over of money, you start to lose the sense of how affordable your purchase is to you.
I’ve certainly behaved that way. If I go out to top up on groceries (or even just for a walk or a run and stop by a coffee shop for a break) with just my “contactless” VISA card, I spend typically £20 or so. If I go out win just a £10 note, that’s all I ever spend as I reduce my mental “wish list” accordingly.
I use Paypal frequently, but have long been aware of their precarious legal perch (“We’re not a bank! You can’t regulate us as such!”). As a consumer paying for goods and services, the threat of a Paypal dispute is unfortunately essential when working with direct-from-China vendors, for example, and useful at other times – when paying strangers with no track record. Standard banking has nothing comparable. When Paypal’s arbitrary choices favor you, the consumer, they can be quite handy.
I NEVER leave any substantial balance with them, however. They regularly and arbitrarily hold up my small merchant friends balances for alleged fraud, as a way to beef up their float earnings. Eventually they’ve always released the funds, which I mention simply to prove that my friends are obviously not crooks, unlike Paypal. You’ll get about as much information out of Paypal them about their thinking and justification for the fraud holds as you would from Google about the structure of their search results: None.
“They regularly and arbitrarily hold up my small merchant friends balances for alleged fraud, as a way to beef up their float earnings”
Earnings, maybe. It’s equity for PP. It’s the value of the stock, probably best viewed as a low end floor. Stockholders in paypal would be in a better position to recover, in the event PP went under, than the non-account account holders would be.
Your deposit becomes their equity. It is that simple.
India is in serious leapfrog mode, they have IMPS which is similar to clearXchange and practically ubiquitous. They have a singular monolithic national payments API about to launch. On the customer ID/KYC/AML side they have Aadhar, which is ten fingerprints, an iris scan, and a verified mobile phone number that now has 970 million people in the database. This also enables very cheap and lightweight small transaction banking.
Call me old fashioned, but we had a great instant payment system in place.
Remember, you purchased an item went to the register opened your wallet took out some FRN’s got some back (if appropriate) they store was paid immediately. Honestly it still works… I use it everyday..
Besides it’s very entertaining to watch the young ones struggle to make change… And I always offer them the option of removing their shoes to aid in the arithmetic….
I use this system of payment so often, I’ve even trained the tellers at my Bank not to think of me as a criminal when I ask them to give me CASH from MY own ACCOUNT…..
The banks’ swan song before crypto takes over the world.
And not a mention of what’s really putting the pressure on: cryptocurrency.
We have comprehensively spiked the notion that Bitcoin (or similar) is in any way part of any solution to any problem:
http://www.nakedcapitalism.com/2014/03/bitcoin-currency.html
http://www.nakedcapitalism.com/2016/01/why-bitcoin-is-not-disruptive.html
Did a crypto just have another $77 million stolen? Why, yes. Yes it did. Crypto is starting to look like the biggest skimming operation ever.
http://arstechnica.com/security/2016/08/bitcoin-value-falls-off-cliff-after-58m-in-btc-stolen-in-hong-kong-exchange-hack/
I’m no Paypal enthusiast, but this is flat wrong. They’ll happily send you a (paper) check in the mail if that’s what you want.
Only in PayPal in the US (you can’t do this in the U.K or, I believe, Canada.)
Even if you can get PayPal to issue a check, the funds then leave PayPal. Which proves the point — getting the “real” money in a spendable way is definitely not instantaneous. You can’t get much slower than “a check is in the mail”.
Yes, they are obliged to give you your money back and cannot insist this is only to another PayPal account or an ACH-enabled bank account or a credit card (you may not have these). And they do this by getting a true ACH service provider to draw a check. This is nothing whatsoever to do with PayPal’s service offer. The check may say “PayPal” on it, but the check is cleared via ACH which is not part of PayPal in any way, shape or form.