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Instant Payments - Hot or Not?

Although money transfers within Europe are set to take place in real time soon, we have not yet heard a great many specifics about how the instant payment process will work. Now, some initial proposals have been put forward, but a number of unanswered questions remain, and the deadline is looming. 

Hot or Not?

Financial experts, at any rate, agree that instant payments will trigger the next wave of innovation in the European payments landscape. In a survey carried out by the European Payments Council (EPC), 45 percent of respondents named real-time payments as the top innovation trigger. The oft-lauded mobile payments were mentioned by 28 percent of respondents, putting them in second place, with cyber security (11%), virtual currencies (9%) and regulation (7%) lagging behind. This makes instant payments the next biggest payment event in Europe, after the SEPA changeover. The European Central Bank (ECB) and the European Retail Payments Board (ERPB) are leading the field here, by driving the development of a SEPA-based real-time payment system. The EPC has now put forward its initial proposal for implementing instant payments within the SEPA region. 

SEPA Transfers As A Basis 

In June 2015, the ERPB tasked the EPC with developing a specific proposal for a real-time European payment method, and the “SEPA Credit Transfer Instant (SCT Inst) Payments Scheme” was presented in November 2015. As the somewhat cumbersome name suggests, the EPC uses SEPA transfers as a basis for the new regulations and for the technical standards for real-time transfers that will apply to the 34 SEPA countries. One of the main reasons for this is the aim of keeping costs manageable for all concerned. Although there are, as yet, no specific figures, the aim is to leverage the comprehensive investments in SEPA compatibility, including those relating to the use of IBAN and BIC, as well as to the processing of data records and the handling of transaction errors. Although direct debits, credit cards and other payment instruments will not be included initially, they will be made “instant” at a later date, after the instant credit transfer scheme has been launched. 

Unanswered Questions

Not everything pertaining to SCT Inst, however, has been clarified; not by a long chalk. There are still a great many unanswered questions remaining. The maximum sum that can be transferred in a single real-time transaction, for example, has not yet been defined. It is also unclear how quickly real-time transfers will actually be processed, as a maximum upper time limit has not yet been set. The ECB’s suggestion is five seconds, but the EPC states that negotiations are still ongoing with the parties involved. These include clearing and settlement service providers and payment service providers (PSPs). Thorough discussions are important, as the SCT Inst draft proposal does not define how and by whom the technical specifications of clearing and settlement should be handled. Instead, this is to be determined by the service providers involved, provided that they keep to the prescribed standards. Here, however, is precisely where the main difficulty lies. How quickly, for example, can the clearing process be completed if the sending and receiving banks use different service providers? And what about real-time settlement? Another open issue concerns money laundering prevention. Is it, for example, possible to build in sensible checks which take just a few seconds, or will transactions have to be verified after the fact? The bottom line is that the EPC still has a great deal of work to do. 

Fast-Track Schedule for Real-Time Payments

One thing is very clear: the pressure is on, as the timeline for instant payments has been shortened once again. The fear is that, if a SEPA-based solution is not rapidly implemented, a fragmented market of competing and partially incompatible real-time payment systems will exist in Europe. The initial details are now before the ERPB and the EPC was swiftly officially tasked with the implementation. Starting now, the EPC is creating a regulatory framework, as well as an implementation guide for real-time payments. At the same time, the organisation is trying to clarify all the remaining questions as quickly as possible. The proposal should be completed in the summer of 2016, and will be followed by a three-month review phase, during which the details will be discussed with external experts. One year later, real-time payments will be launched. This will give banks, clearing service providers and other stakeholders approximately a year to prepare. Already, however, the first objections to the speed of these developments are being voiced. These focus on the fact that the original launch date for instant payments was 2018, and that the payment industry currently has a great deal on its plate anyway—including the local implementation of the Second Payment Services Directive (PSD II), which is just around the corner. 

Accelerating the Clearing and Settlement Processes

When it comes to instant payments, the questions concerning clearing and settlement are particularly interesting. A transfer within the European economic area still takes at least one business day. Transfers are currently routed to a central bank which specifies a cut-off point once per day before reconciling the payments among the various different banks (clearing). Only then is the money actually credited to customer accounts (settlement). As there are still major differences between European countries, this is where experts foresee the greatest challenges. 

Conclusion

Any attempt to rush through instant payments at European level will undoubtedly run into obstacles, and compromises are to be expected. On the other hand, it is extremely heartening to note that this mammoth task has been assigned to the EPC. The EPC is undoubtedly the most experienced organisation and the one best placed to counter the looming divergence of national solutions by proposing a unified European system. As real-time settlement is, initially, improbable, the focus will be on reliable real-time clearing. Here, too, it is to be expected that receiving banks must take into account a certain amount of remaining risk if they credit incoming transfers in real time. Depending on the age of their technical infrastructure, some banks will have an easier time of this than others. These banks will be able to offer their customers SCT Inst sooner, and will thus gain a competitive advantage. It remains to be seen if and when the implementation of SCT Inst will be required by law.

 

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Comments: (3)

Daniele Astarita
Daniele Astarita - ACI Worldwide - Naples 18 January, 2016, 09:29Be the first to give this comment the thumbs up 0 likes

Thanks Ralph very clear and realistic picture. One thought I would add is about the end-users perspective, either consumers or businesses; the risk financial institutions would bring - in order to make money available to the payee before settlement occurs -  might be considered somehow transparent to end users, and as a consequence they could easily embrace - as you say - a "quicker to market" non SEPA-based solution, increasing the risk of a fragmented market and partially incompatible real-time payment ecosystem. The right balancing of EU project schedule, and a bit more inclusion of Instant Payment CSMs models (i.e. which settlement risk is applicable/acceptable ?) in the schema design would possibly help the adoption process here ?

Tom Hay
Tom Hay - Icon Solutions Ltd - London 18 January, 2016, 11:37Be the first to give this comment the thumbs up 0 likes

It has never been clear in what ways the new scheme will be "based on" SCT. Apart from (some of) the ISO20022 message formats (which will anyway need changes, as identified by the real-time payments working group), what other characteristics of SCT will carry over to the real-time world? It seems the degree to which banks will be able to leverage their investment in SEPA will be limited. 

Certainly clearing and settlement will be an issue in the new scheme, and it is difficult to see how they can be brought into alignment with the SCT rulebook in which the CSM carries out inter-bank settlement before the beneficiary bank credits its customer's account. In schemes such as UK Faster Payments, the beneficiary bank credits their customer immediately on receipt of the payment instruction, and inter-bank settlement happens periodically throughout the day. Handling the resulting settlement risk is a major challenge for all instant payment schemes.

Ketharaman Swaminathan
Ketharaman Swaminathan - GTM360 Marketing Solutions - Pune 19 January, 2016, 14:05Be the first to give this comment the thumbs up 0 likes

@TomHay:

I agree with your conclusion, "Handling the resulting...instant payment schemes". When banks refuse to provide a merchant acquirer account to small merchants - the typical target audience and raison d'être of SQUARE et al - I suspect it's because of a similar risk of liquidity in the event of chargeback.

I've read about the failure of Herstatt Bank hours before settlement, which led to the founding of CLS Bank. I also know that some banks failed during the GFC. Maybe I'm naive but, to me, they all seem like Black Swan events and I've always wondered if

This one-off risk should hamper real time payments;

There wasn't some insurance product to mitigate this risk? After all, investment banks have been innovative enough to come up with CDS type of insurance products that cover seemingly more exotic and unpredictable risks.