For a long time, one of the pillars of the cashless economy has been the advent of bank-sponsored credit cards (at the time called universal payment cards). There are several books about it as well as academic papers, of these my favourite is that by Dave Stearns. You can also see a video by Lana Swartz discussing her book which touches on the genesis of Diner’s Club.
Today (18.Sep.2020), David Birch reminds of the genesis of this payment medium in his column while celebrating the 58th anniversary to what was to become VISA. Throughout his writings, Birch has had a preference for the insight story by Joe Nocera’s “A Piece of the Action “(which, of course, Dave and Lana considered in their work).
However, I had to somewhat disagree with Birch’s version of events. For one I think he is giving too much credit to Diner’s, which was a travel and entertainment card. He is also downplaying the role of large retailers, which offered credit to customers and the main competitors for the banks.
Another point of departure is whether the “combination of regulation and technology” sorted all the problems. In terms of technology, the magnetic stripe was necessary. But at a more fundamental level were the computer systems that enabled to process the large volume of payments within deadlines.
There has been a lot of emphasis on how credit cards were posted indiscriminately for their adoption. We wrote on the UK experience of Barclaycard. However, banks in the USA had been attempting to offer an alternative to store credit since at least the 1940s. Geographic restrictions at the time in the USA led to the development of a business model that enabled users to cross state lines (something difficult to do with personal cheques or the yet to develop ATM network). I think that was part of the key to explaining the success of VISA (and shortly after what was to become Mastercard, launched by Illinois banks which at the time was a single branch state). So a model in which banks were able to network on creating a platform is the argument that Evans and Schmalensee used in their seminal work on two-sided markets.
However, in a paper with Gustavo del Angel, we argued that American banks made their proposition superior to that of single retailers thanks to their financial muscle and contacts with diverse retailers. It was also the case that the international network built thanks to “monopoly” positions of large incumbent banks in different countries, which eventually became and remain the biggest acquirers in their territory.
Here the non-discrimination clause (where paying by cash was not to be less expensive than paying plastic) was a critical achievement in the marketing of the card by banks amongst retailers. Retailers accepted the cards (and pay banks a commission when customers used the card), based on market studies showing customers with cards would purchase more. The one issue was that these studies prepared by the banks or credit card companies themselves.
It was also the case that many international licences achieved positive cash flows much earlier than expected. Hence the risk of reading too much on developments in the US, where banks were much smaller in terms of branches and customers than in Europe, Japan and large Latin American countries.
In short, I agree with Birtch that:
That the evolutionary trajectory of credit cards was not a simple, straight, onwards-and-upwards hockey-stick to glory and to gross margins that merchants can only dream of.
But the story has perhaps more twists and turns than most people give credit.
My formert teacher and mentor, Ismail Ertuirk, nails it on the head with this brief post on the challenges of FinTech startups to really challege established providers. He clearly mentiones the issue of core capabilities to be a credible competitor and how Ant Group business model looks like big retailers today (ie shops withind shops) as opposed to the integrated model of established banks.
From the author (in Likenedin) #wirecard scandal is more than a failure of audit and regulation. It is also a failure of #fintech policy in the EU. German and the E.U. authorities’ response to #wirecard scandal is narrow-minded ignoring the lessons from contemporaneous global trends in #fintech, especially the transformation of Ant Group from being largely a payment #fintech to a #fintech group that consists of financial services platform business and complementary joint ventures with the likes of #vanguard for retail banking products. This new business model in financial services is expected to make Ant Group, after the expected IPO, more or less the third largest bank in the world by market capitalisation, bigger than the likes of Citigroup and HSBC. #fintech in the EU can only be truly successful to disrupt the existing dysfunctional European banks if the EU creates a genuine single market in financial services to support its open banking reforms. See my opinion piece for Radix ThinkTank .
The use of cash fell substantially in the early days of the Covid-19 pandemic with the acceleration in online shopping and contactless payments – but cash usage has bounced back as lockdown has eased. Long-term prospects for retail payments remain uncertain.
It is still too early to tell whether Covid-19 and the public health interventions implemented in response will have permanent effects on retail payments in the UK.
Initially, the hoarding of cash was overshadowed by an acceleration in e-commerce and contactless payments, an increase in the use of mobile payment apps and – some speculated – the possibility of cryptocurrencies becoming mainstream. This happened while bank branches closed (some for good), as many as 9,000 ATMs (15% of the total) remained idle and the media falsely reported a high risk of transmission through banknotes.
But despite these apocalyptic messages and the initial negative shock leading to a severe contraction in the use of cash, transactions using banknotes and coins began to recover even before lockdown eased, as Figure 1 suggests, while cash usage increased by two-thirds after lockdown measures eased.
Figure 1. UK transaction volume in the LINK ATM network, 2018-2020 (millions)
Note: These figures include balance enquiries and rejected transactions made through the LINK network, but do not include transactions made by customers at their own banks’ or building societies’ ATMs.
Before Covid-19 struck, digital retail transactions in the UK were on the rise, as Figure 2 indicates. Ten years ago, cash was used in six out of 10 payments. As late as 2016, cash accounted for 40% of all payments and 44% of all payments made by consumers in the UK.
The adoption of contactless payments in public transport networks, increasing e-commerce, widespread use of plastic cards and digital payment applications – for example, Apple Pay, Samsung Pay, PayPal and iZettle – as well as the increase in ‘tap and go’ payment limits, boosted digital payments.
Industry group UK Finance reported that the proportion of cash transactions was 28% in 2018 with an expectation of it dropping to 9% by 2028 (UK Finance, 2019). The long-term downward trend in the use of banknotes and personal cheques indicates that neither will dominate on-the-spot transactions ever again.
Figure 2. UK payment volumes, 2009-2019 (millions)
But it is too early to tell whether the trend of declining use of cash and personal cheques accelerated in the context of Covid-19. The acceleration implies a long-term structural change within retail payments rather than on other parts of the transaction economy (namely online versus bricks-and-mortar, financial inclusion, bank facilities – ATMs, branches, self-service, etc.).
Recent attempts to rush the UK economy to rely solely on contactless and digital payments have highlighted deep-rooted inequalities and the need for access to cash by some communities (including vulnerable consumers). Anecdotal and mass media reports suggested that joblessness associated with the Covid-19 pandemic might have increased the demand for cash by people in the lowest income strata and those living in rural areas.
These trends, in turn, point to the following major issues:
A need for a better understanding of why some consumer groups remain in a cash economy (Ceeney et al, 2018; Alabi, 2020).
The importance of a resilient back-up within the retail payments infrastructure.
Finding ways to achieve an orderly resizing of the UK cash distribution cycle (Bank of England, 2020).
What does the evidence from economic research tell us?
Short-term impact: a shock to the system
An initial hoarding of cash (Ashworth and Goodhart, 2020) and an unprecedented surge in the demand for gold as a store of value (Lepecq, 2020a).
The possibility of viral transmission through banknotes and coins. But laboratory studies (including one by the European Central Bank) suggest a higher chance of transmission through stainless steel and plastic surfaces than cash (Bank of International Settlements, 2020).
In the UK, over 80% of banknotes are distributed through ATMs. Precautionary steps had to be taken by central banks and financial institutions to supplement their cash inventories as retail bank branches closed while some ATMs became idle (for example, at airports and casinos) and others experienced intensified use (for example, in supermarkets).
But the cash distribution infrastructure (for example, the number of ATMs, security vans, retail bank branches, clearing centres, etc.) was designed to fit a bygone era and is currently thought to be ‘oversized’ as it faces declining demand. It is deemed not fit for purpose in the UK (Bank of England, 2020).
Innovations in retail banking systems are incremental (Bátiz-Lazo and Wood, 2002; Bátiz-Lazo, 2018). Not surprisingly, during the past few months, no single digital payment solution has been tremendously disruptive or become a clear ‘winner’. Indeed, it is to be expected that some solutions will be adopted, some discarded, and some changes will only be transitory.
The fortuitous and incidental innovative nature of cryptocurrencies is evident as they remain invisible within the high street, while most of their volume emerges from speculative market trading (Hu et al, 2019).
The recent demise of Wirecard, the German fintech champion, raises questions about whether an accelerated shift to digital payments exacerbates participants’ risks in terms of both compliance and costs (Krahnen and Langenbucher, 2020).
Through their dominance of e-commerce, social media, messaging, taxi-hailing and other platform services, Asian apps – such as QQ and WeChat in China or Go-Jek and Grab in Indonesia – provide a simple solution to connect their mass market users with their respective mobile wallet products – Ali Pay, WeChatPay, GoPay, GrabPay, respectively (Aveni and Roest, 2017; Yunus and Pamungkas, 2018). The Asian cashless experiences have yet to be replicated in Europe and North America as indigenous platforms – Uber, Amazon, Netflix, Facebook, Skype, etc. – rely on plastic cards for payment.
Global supply chains have been disrupted causing a contraction in cross-border payments – for example, a purchase in Amazon.co.uk being billed through Ireland or Luxemburg.
Long-term impact: potential structural changes
There is and will be greater competition among individual providers of credit and debit cards, or between payment cards and digital solutions, than between any of these and cash (for example, Brown et al, 2020).
As a single, independent payment solution, the volume of transactions with banknotes will continue to outpace any other single provider for settling on-the-spot transactions and small value payments.
The Visa-Mastercard duopoly position as chief clearing platforms for domestic and cross-border retail payments will remain unassailable (pending the success of national initiatives such as those in China, India, Russia and the European Processor Initiative).
Consumer surveys sponsored by central banks consistently suggest that over 70% of respondents and particularly those currently using banknotes in retail transactions have no plans to go cashless (for example, Cleland, 2017; Chen et al, 2020), prompting questions about whether the needs of vulnerable sectors of the population with a strong preference for cash can be accommodated.
It has been argued, while not empirically supported, that cash hoarding by financial institutions prevents a deeply negative interest rate policy as well as reducing corruption and tax avoidance in the ‘shadow economy’ (Rogoff, 2016). Steps aimed at preventing illegal transactions and diminishing the size of the informal economy (while aiming to improve countries’ fiscal positions) could thus lead governments to support and encourage cashless payments in a way that they have not done before (for an opposite view, see McAndrews, 2020).
Applications of technology can help to increase financial inclusion (Demirgüç-Kunt et al, 2018; World Economic Forum, 2011). The role of state actors is critical in the genesis and dissemination of these technologies (Batiz-Lazo et al, 2020). But increasing evidence of financial inclusion leading to over-indebtedness among people living in poverty (Anderloni and Vandone, 2008) and the apparent superiority of direct cash transfers to the economically vulnerable raise questions about financial inclusion as a goal and its effectiveness as a policy tool (Duvandack and Mader, 2019).
How reliable is the evidence?
Although there were calls to replace notes and coins with paper cheques as early as in 19th century France (Baubeau, 2014 and 2016) and Edward Bellamy proposed a credit card in his 1888 utopian novel (Bellamy, 1888), the modern idea of a cashless economy emerged in the United States during the 1950s, as banks adopted computers and faced the rising cost of processing paper cheques (Batiz-Lazo et al, 2014).
Despite this long history, there are no systematic studies of changes in means of payment during pandemics or health crises. Nonetheless, the evidence cited above emerged predominantly from peer-reviewed journals and reports from national and supra-national institutions with responsibilities for oversight of financial markets and institutions accumulated over the past 30 years and during the early months of the current pandemic.
As countries begin to exit lockdown and with the threat of a second wave of infections, it will take a while until we can confidently assess the effects of the global pandemic on the public’s long-term use of cash.
UK Finance provides readily market information but it is only available to members. LINK, the single operator of ATMs, provides regular, freely accessible information on cash distribution volumes. Central banks have scheduled surveys of consumer demand and payment preferences for the autumn of 2020 and mid-2021.
What else do we need to know?
Short-term: ascertaining the force of the shock to the system
Previous economic crises, including that of 2008/09, were associated with a strong ‘unexplained’ increase in the demand for cash, leading to suggestions that such a shift could be related to increased uncertainty (Jobst and Stix, 2017). Rising unemployment has the potential for individuals to lose access to credit facilities and even bank accounts. These individuals might turn to cash as the ultimate budget management tool.
What will be the impact of Covid-19 on the profitability of Independent ATM Deployers (IAD) and, in turn, the location of free-to-use ATMs? In this regard, a consultation was underway before lockdown (see Payment Systems Regulator, 2019). It is unclear how recent events will modify the recommendations of that consultation.
Policy concerns about the reduction in the number of bank branches and ATMs in the UK pre-dated lockdown (for example, Bank of England, 2020; Payment System Regulator, 2019). There is a potential to increase the number of ‘underbanked’ users and unbanked communities if Covid-19 further reduces transaction volume at physical bank branches and ATMs by accelerating a move towards cashless payments, e-commerce and online banking services. It remains to be seen how non-banking intermediaries, participants in ‘shadow banking’, and fintech start-ups respond to the challenge (see Lepecq, 2020b).
At a time of major economic contraction, investors’ appetite to continue funding fintech start-ups remains to be seen.
Consumers ultimately have no clarity as to the cost of using alternative means of payment. This involves both pecuniary costs (for example, commissions) and non-pecuniary costs (for example, traceability of transactions, loss of anonymity and fraud). Research is mostly mute on these topics.
Innovations in digital retail payments have been mostly incremental while bank-based systems (such as contactless mobile payments, digital wallets or card-based e-commerce) will continue to dominate the trend towards digital transactions. In other words, it is unlikely that a shock like Covid-19 and lockdown will by itself originate a payment innovation.
It is unclear whether there will be a political appetite for an accelerated move towards a cashless economy considering some of the socio-economic groups it would potentially put at a disadvantage in terms of accessibility, financial inclusion and financial literacy. All of these issues cross lines of age and gender, income and wealth levels, race and ethnicity, and the urban/regional divide (in particular the case of London and the south of England versus other parts of the UK).
The regulatory landscape
Other than General Data Protection Regulation, there is no framework for determining access to and exploitation of digital transactions. National and local policy-makers have relied on aggregate card usage data as a high-frequency proxy for economic performance to understand the extreme shifts in consumer expenditures caused by the pandemic and lockdown, and to design targeted policies to support the most affected sectors.
Systematic studies based on credit and debit card transactions are beginning to emerge, such as one for France by Bouine et al (2020) and one for Mexico by Campos-Vázquez and Esquivel (2000). But questions remain about privacy, particularly in countries without a robust regulatory framework protecting users’ personal information.
As a large and complex infrastructure, it is unclear the extent to which the payments system complies with United Nations sustainability goals (other than those relating to financial inclusion and gender). It should also be subject to a climate-resilience stress test.
Counting On Currency’s Cash Per Diem is the blog of Daniel Littman (formerly of the Federal Reserve Bank of Cleveland) where he comments on news and stories on currency and payments from around the world.
Consultant and industry practitioner David Birch‘s 15Mb blog offers on-the-edge takes on digital financial services.
Graham Mott‘s LinkedIn updates provide his insights as strategy lead for Link on the use of cash and the ATM market in the UK.
The hype around the success of mobile money in Kenya has been growing as mobile payments develop both there and worldwide. This week’s Economist cites a figure that 43% of Kenyan GDP is being channelled through M-Pesa each year, attributing the statistic to Safaricom itself. The figure has been rising from 31% last year, which was cited by both The Economist and the Financial Times. In August 2013, GSM Association released an infographic on “The Kenyan Journey to Digital Financial Inclusion”, which also used the 31% figure. The World Bank, CGAP, AFI and others have also used or cited such measures of progress in this field.
A brief introduction contextualised the discussion by enumerating the deployment and use prior to the crisis of ATMs, mobile and internet banking as well as some data on Point of Sale (POS) terminals in this small, open economy (where tourism is one of the main sectors of economic activity). The interaction between these elements of the payment ecosystem is even more clear when considering new technologies. For instance, Leonidas and Sophia note:
1) The only bank which offers a Contactless visa card is the Bank of Cyprus. Their 18-25 Youth card is the first card in Cyprus with contact-less technology and can be used for transactions below 20 euros, without having to insert a PIN in front of the POS. For transactions above 20 euros, you can keep the card in front of the POS, but you have to input your pin.
2) There are approximately 1460 enterprises across the island with contactless technology. Some of these enterprises include cafes such as Costa Coffee and Starbucks, pharmacies, bakeries, supermarkets, petrol stations and shops in malls.
3) JCC, the main payment system provider in Cyprus, is currently running a campaign at Nicosia cafes. All contactless transactions that take place at Nicosia cafes are eligible to participate in three monthly draws for 3 IPAD minis.
Essential to the 15 day closure of the banking system in March 2013 (similar only to the US in 1933 and Argentina in 2002), was that all electronic transactions and money transfers were frozen with the exception of credit/debit cards and ATM withdrawals. Leonidas and Sophia adopt a ‘sequence of events’ method to discuss an intensification in the use of cash during this period as ‘people can sustain themselves only by queuing at the long lines of ATMs to withdraw cash, or stay cashless and use their credit cards.’ Interestingly, during their research, they were unable to provide evidence to support rumours that ‘IOU’ notes replaced cash and cards as means of payments during Cypriot banking crisis.
Shortly after the central banks’ announcement that that banks will remain closed, long queues begin to form in front of the cash machines (18-III-2013)
In spite the Central Bank of Cyrpus’s instructions to banks that they should keep re-supplying the ATMs with money several times, by March 22nd (seven days into the crisis) long queues have formed at almost every one of the bank’s ATMs island wide. This was partly a result of panic and partly a result of the rejection of card payments by merchants. In other words (and like was the case in New York during Huracain Catrina), the payments ecosystem suffered a massive blow ‘as every card transaction directs the retailers’ money into a bank account. With a bank system under the threat of bankruptcy, or levy as the best option, most retailers prefer to turn down customers rather than accept their cards.’
In summary, the paper of Leonidas and Sophia offers a detail reach account of the Cypriot banking crisis, with a focus on the effects on the retail payment system but without loosing its connection with institutional stakeholders and macroeconomic developments. This narrative is enriched when the authors compare and contrast with developments in the US and Argentina, as it enables to ascertain the unique features of the crisis in Cyprus.
In a recent post in the Celent Banking Blog entitled The Mobile RDC Cost-savings Myth, Bob Meara discusses the mirage of costs savings for banking thinking of introducing mobile payments alongside a well developed mulch-channel network. His argument is spot on, the cost of the transaction might be lower but there are also maintenance issues to be considered, activity cost in banking is the stuff of Alice in Wonderland and more important, potential savings might be small when considering that many have already been realized.
At the other side of the spectrum, however, are micro-finance institutions working in developing countries such as Mexico. So far many they have relied on staff as the main distribution channel. Mobile payments offer the possibilities of foregoing legacy investments and jumping the queue, sort to speak.
Thanks to a travel and subsistence grant from FUNDEF,with Gustavo del Angel and Enrique Cardenas, we have started to map the evolution of payment systems in Mexico. While on site, I was lucky to be invited to a field visit to see first hand operations from Banco Compartamos, a Mexican microfinance institution.
The day started early (kicking off at 0630 hrs) to travel in group to the nearby city of Cuernavaca. The sherpa for the day was Enrique Majos, Banco Compartamos CEO, together with his IT and PR directors. We were joined by two other directors at the site. These visits are a regular thing for Compartamos’ directors.
I was introduced to all the local staff members and took part in the daily debrief (a pilot scheme in which all team leaders report on their activities for the day and any issues from the previous day). All “colleagues” set off on to meet with their customers groups – along the lines of Gramin, Compartamos lends small amounts to individuals (chiefly self-employed women), who are part of co-sponsor groups.
During the meeting individuals bring their weekly repayment and make sure everyone has met their commitment. The “colleague” role is to inquire on the nature and state of the indiviudual’s business while also looking for cross selling opportunities. An “expert colleague” will establish good rapport with all/most the members of the group. If appropriate he/she will also hand deliver a certified cheque for any new loan.
Virtually all individuals will bring their weekly repayment in cash. The leader of the meeting will keep track (through a basic ledger and updating individual pass books manually). At the end of the meeting all repayments are then taken to be deposited in a nearby retail bank branch.
Repayment: cash is collected within the white box and is also evident on the table (Compartamos’ staff in their distinctive pink shirts)
Hence, Compartamos’ staff do not handle cash. Yet Compartamos has to rely on larger banks and a network of correspondents (such as a chain of convenience stores) to collect deposits and distribute loans. Most of these, in turn, will charge individual depositors onerous fees to provide their service. Like many other microfinance, the distribution channel is challenging growth and diversification.
Mobile payments are not the solution at present. For one, the service is highly unreliable outside of big cities and in some of the regions where Compartamos operates, there is no network cover at all. Second and most important, individuals who borrow from Compartamos work in a cash economy. Their business (such as market stalls, beauty products, or seasonal goods) is carried out in cash. Few have access to the Internet or a smart phone (yet all have a mobile).
A mobile branch (i.e. on the back of a bus or minivan) could provide some relief provided it is not a target of highjacking or highway robbery. The volume of individual business is not enough to justify deploying ATMs (let alone self-replenishing machines) in the most remote areas while other financial intermediaries discourage their use of ATM through punitive fees. The time is perhaps ripe for Compartamos and other microfinance come together in the deployment.
A recent item in the BBC News website on the Royal Mint (below), found the apparent controversy that where money is actually made (well coins really), employees are not allowed to use them to purchase their food during lunch. This in turn let to a invitation to discuss the pros and cons of the cashless society.