Author: Anu Widyalankara, Director | Payments Strategy & Technology at EY.

The payments sector is currently experiencing accelerated innovation and disruption. Payment rails – the processes, platforms, networks, and infrastructure that facilitate the movement of money – are undergoing significant changes driven by a wide range of actors including banks, regulators, governments and even consumers. New classes of payment rails powered by cryptocurrencies and Open Banking are emerging to supplement and compete with existing card rails. The industry is also collaborating to address the challenge of interoperability, with the growing adoption of ISO 20022 offering enriched data and standardisation which are essential for retail and wholesale payments. During this period of change, understanding the important shifts taking place in the payment rails ecosystem should be a priority for anyone interested in the future of the financial services sector.   

Innovation and Interoperability 

The momentum gained in Open Banking adoption is one of the most notable trends in payment rails. This new paradigm was initially introduced with the aim of enabling smaller players to innovate on top of customer data held by larger incumbents by making that data available and open to other parties. This has resulted in increased competition and the development of new products and services in the fintech space. The recent advent of variable recurring payments has the ability to disrupt direct debit and subscription-based payments. Open Banking can be more cost-effective compared to traditional methods and as the industry solve the challenges of refunds and recharges inherent in Open Banking it has led to wider adoption by merchants and end consumers. The value proposition of Open Banking can be enhanced by developing ecosystems that embed payments and finance products where consumer loyalty is recognised for using these products and services.

Another important development is the move to real-time payment rails. Consumers and merchants are demanding faster, more efficient, ubiquitous, secure, and cost-effective payment solutions, and the need to reduce costs and increase efficiency is pushing the industry toward real-time payments. This shift is not limited to just payments. Rather, it is enabled by payments as consumers and businesses demand all processes should be as fast and efficient as possible. When developing real-time payment rails it is important to identify key use cases that drive domestic adoption and to keep in mind the eventual expansion of domestic rails to cross-border payments to address current correspondent banking challenges and drive faster, cheaper, secure and more transparent global payments.

Cards have dominated payments for many years, with loyal consumers and a well-established liability model. However, due to changing consumer behaviour and the demand for real-time payments, even card networks like MasterCard and Visa are recognizing the need to adapt. For example, MasterCard is actively building on core real-time payment rails, while Visa is focusing on building overlay services through acquisitions such as Tink and Currency Cloud. This reflects the recognition by these companies of changing consumer behaviour and market conditions leading to a need to adapt and identify new areas of growth.

In addition to the developments in Open Banking and real-time payment rails, there are also significant efforts by governments and other players to improve core payment infrastructure. For example, in the UK, there is a program underway to refresh Faster Payments, a real-time payment system introduced in 2008, with new technology and architecture. Pay.UK, the system operator for Faster Payments is in the process of choosing a vendor to deliver this New Payment Architecture (NPA) for UK which includes the introduction of instant payments, where funds are instantly received, with improved transparency and instant settlement and clearance. This reflects the need to keep up with technological advancements and ensure that payment rails are efficient and effective. In future, this new architecture needs to interlink with domestic payment systems in Europe and globally, to enable transparent, low-cost, and efficient cross-border payments.

It is also important for the NPA to interoperate with other domestic payment infrastructure to drive better data intelligence to address fraud and financial crime. For instance, the Bank of England has introduced an improved real-time gross settlement (RTGS) platform to modernize high-value CHAPS payments for interbank payments.  RTGS has the potential to interoperate with NPA using ISO 20022 standards to improve data transparency and the efficacy of fraud and financial crime prevention mechanisms.

Looking beyond the UK, other countries have also made significant advancements in payment rails. For example, India has been an early adopter of real-time payments through the Unified Payments Interface (UPI) platform, which processes over 85 billion transactions annually¹. India used QR codes to initiate payments which was widely adopted and enabled financial inclusion in many states in India. Similarly, Australia has seen year-on-year growth of 23% with its New Payments Platform (NPP)², and the Netherlands’ iDEAL payment system now processes more than one billion transactions each year³.

On an international scale, work is underway to achieve interoperability – which is a crucial aspect of the future development of payments. ISO 20022 is the open global standard which will drive this interoperability, providing rich, consistent and structured data that can be used for business transactions. It is important to connect the dots between retail and wholesale payments by implementing richer data, as it helps to address challenges such as anti-money laundering, terrorist financing, and fraud. Additionally, it is vital to interlink domestic payment systems to create a transparent, low-cost, and efficient cross-border payment system. Consumers are also asking for transparency, low-cost payments, and efficiency when making payments globally. ISO 20022 meets this need. 

Opportunities In Payments 

One of the opportunities for fintechs and other financial services is providing overlay services on top of the core services such as NPA. These overlays include fraud prevention, anti-money laundering, insurance, bill payments and buy now, pay later. To succeed in this space, businesses need to focus on driving capabilities that address consumer pain points, such as fraud prevention, and build better experiences with user-friendly interfaces and features which are built with a tight focus on increasing adoption. They should also prioritise innovation that lowers costs and improves efficiencies to deliver real-time payments and value-added services.

It’s important to consider the needs of merchants as well when considering consumers, as merchants provide the rails for consumers to operate on. To compete in this space, businesses should aim to lower barriers to entry, improve trust and efficiency, and provide secure and innovative solutions at a lower cost. Real-time payments will be crucial for merchants in the future, and bundling them with other services can provide a compelling value proposition. Open Banking, for example, is a more cost-efficient option than interchange fees. Therefore, it’s necessary to consider both consumers and merchants when discussing how to compete in this space.

Going forward, Central Bank Digital Currencies (CBDC) will be a key part of the discussion. Most central banks worldwide are now looking at some form of CBDC. The opportunity in implementing CBDCs is how we connect commercial bank money with retail and central bank digital currencies and navigate through the economy. It is essential to regulate these digital currencies to protect consumers from unregulated coins in the market. Implementing CBDCs will have to interoperate with other rails in a manner that ensures consumers’ safety and builds a regulated space.

CBDCs are just one of many significant changes occurring in the payment rails space, alongside the rise of open banking, the convergence towards real-time payment rails, and efforts to improve core payment infrastructure. Banks need to stay abreast of these developments and adapt their payment architecture to meet the changing demands of consumers and businesses. As payment rails become faster, more efficient, and increasingly secure, banks are strongly advised to ensure that they are well-positioned to take advantage of these advancements and provide innovative payment solutions to their customers. A strong understanding of the evolving landscape of payment rails and a willingness to embrace new technologies and infrastructure will be crucial for banks to thrive in the fast-moving payments sector of today and tomorrow.

Sources:

¹ National Payments Corporation of India, UPI product statistics, https://www.npci.org.in/what-we-do/upi/product-statistics 

² https://www.rba.gov.au/payments-and-infrastructure/resources/payments-data.html

³ https://www.finextra.com/pressarticle/91297/ideal-annual-payments-surpass-one-billion-transactions