The pandemic has acted as a digital catalyst in the financial world, as companies have realised the need for digitisation. Sadly, digitisation is not a simple procedure that will solve all problems within the payments industry: scalability is a huge factor that must be taken into consideration as some companies, having made their solution/platform more accessible, do not have the resources to deal with the influx of consumers.
Discussing the issue of scalability is Luukas Ilves, Head of Strategy, Guardtime. With extensive experience working within the European Union, Ilves has seen how digital payments have developed across different countries and how they must further evolve to make sure scalability isn’t an issue.
Covid-19 has inaugurated a transformative decade in electronic payments. In the last year, electronic payments volumes shot up as cash usage plummeted. But this is just the beginning: several technological and societal megatrends are converging to create exponential growth in global payments volumes.
The provision of ‘everything-as-a-service’, from micro-mobility (scooters) to energy (decentralised power grid) to entertainment (Patreon), encourages pay-as-you-go business models. Decarbonisation and the green transition will require us to attach costs – and payments – to polluting activities. 5G and the proliferation of IoT devices create the sensors and transmitters necessary for ubiquitous payments. And autonomous devices and services will start making purchases on their own.
All of these trends could lead to massive growth in the global volume of payments. For example, in 2019, 45 billion electronic payments were made in the Eurozone. That is not very much – just over 100 payments per person per year. We can easily expect that number to grow a hundred-fold in the next decade.
But can today’s (and tomorrow’s) retail payments systems keep up?
Visa and Mastercard today each process a peak of slightly over 20,000 transactions per second. Chinese payments platforms handle an order of magnitude more – in 2020, Alibaba handled a peak of 583,000 purchases in one second during their “Single’s Day.” But these are closed loop systems for making payments messages – they don’t actually settle the funds for payments until several days after the transaction.
Today’s end-to-end payment systems (which are also used to settle Visa, Mastercard etc transactions) are slower. Best in class fast payments systems, which enable final settlement in near-real-time (within 10 seconds), handle a few thousand transactions per second, though they may be capable of scaling that up to tens of thousands.
Cryptocurrencies are making great strides – newer currencies can deliver thousands of transactions per second, instead of Bitcoin’s seven – but they are still not overtaking existing payments systems.
These performance constraints also translate into costs that are dampening growth in payments volumes. The minimum per transaction merchant fee varies between 1-30 cents depending on payment rail (with Alipay on the low end and Paypal, Stripe on the high end). Central Banks, which operate on a cost-recovery basis and offer fewer functionalities, charge banks as little as 0.2 cents for wholesale payments on a cost-recovery, no-profit basis. These numbers are OK for existing retail payments, but they do not begin to offer a practical solution 100x higher volume of payments whose value might be measured in fractions of a cent.
In the last decade, we have gotten used to the idea that market share and user numbers matter more in digital innovation than core technologies. However, in payments, technology is a fundamental constraint. We’re still letting older technologies — legacy banking stacks, with complex multiple layers to move funds – and credit cards, designed for in-person transactions, with high fees and financial surveillance baked in — determine the shape of a new technological paradigm.
Volume is the killer app. The ideal money system of for the next decade can handle millions of transactions per second with near-zero latency and instant settlement.
To do so, it will need a new technological approach to break through the performance and cost bottlenecks of today’s payments systems.
When the infrastructure cost of moving value becomes a zero marginal cost event, innovation in payments models will take off. A functioning system for micropayments (transactions below $/£/€1, down to fractions of a cent or penny) would be revolutionary. It would replace subscription fees (and capital expenditure), allowing users to pay for the exact amount of services they consume. It will allow us to attach value, payment and remuneration to many unpaid forms of labour.
Drastically raising the volume and lower the cost of payments can unleash the green and circular economy, attaching economic value to externalities and allowing frictionless incentive payments for small improvements in environmental footprint. It could rewrite the rules of work and corporate organisation, allowing contractors or employees to be paid income streams in real-time for every second of work (something we are starting to see in consumer-supported content creation). And ubiquitous payments would help us attach a monetary value to attention and data, challenging the advertising-driven business models of monopolistic internet firms.
Across the world, both public and private initiatives are looking to change how money moves in the next decade. Commercial banks are working together on next-generation payments initiatives. Central Banks are considering the introduction of Central Bank Digital Currencies (CBDC), digital money that would replace the cash as free, universal consumer and retail money. At the same time, payments networks and platforms – Visa, Mastercard, Paypal, Stripe – and tech companies – Google, Tencent, Alibaba – are fast becoming global hubs for payment. Finally, waiting in the wings are cryptocurrencies and the quick-growing area of decentralised finance (DeFi).
All are vying for the same crown – the commanding heights of payments and money.
The players – and economies – to master the technological and business challenge of cheap, near-infinite payments first will have a major leg up over the coming decades in every form of competition and innovation.