What is Payment Modernization?

Financial Institutions have taken up various methods to modernize their payments systems over the past decade.  While there was a consolidation effort of channels and customer-facing applications as part of Phase 1 of the modernization program through a “payment hub” approach, the next phase has been where institutions are embracing various global standards (i.e., IS020022, Open Banking) and adopting methods to achieve faster payments and leverage the most cost-efficient rail to settle a payment.

Institutions have now realized that any digital transformation should consider revisiting their core banking and payment systems by adapting core modernization principles and take a holistic look at the end-to-end payments value chain, looking at ways to simplify or isolate their core system of records, from client initiation to the clearing and settlement, targeting middle and back-office functions to enable innovation and connect to new networks and schemes

 Drivers for payments modernization

Financial Institutions have realized that the key drivers for payment modernization are actually multi-layered and not mutually exclusive in nature. They usually fall under four main categories.

1. Customer Expectations – have exponentially changed with the onset of digital revolution where consumers expect ubiquitous, convenient, frictionless, real-time and instant payments and gratification
2. Regulation and Government policies - including security, risk and compliance driven by GDPR, PSD2 and Open Banking in EU, stringent KYC and AML adherence, more financial inclusion and operational resilience.
3. Emerging technology and industry innovation - with cloud enabled, Open API, data and analytics driven microservices based cloud native architecture for digital transformation
4. New market entrants and competition - with the proliferation of BigTechs, FinTechs, Non-Banks, Challenger banks and ecosystems driven service integration and collaboration to provide value added services to customers.

 Envisioning the Target Payment Operating Model

Reimagining payments strategy to deliver real-time, frictionless payments experiences anytime, anywhere, creating an environment without boundaries and one that is accessible and scalable is a key element while building the next payments architecture and its ecosystem.

1. It’s a framework to modernize the existing payment hub to have a single holistic payments platform leveraging advances in core payments architecture built on cloud or hybrid model that empowers organizations with scalability, resilience and an agile and adaptive ecosystem
2. Supports channels, middle office and back-end systems, with clear API end points for integration, with the goal to support the next evolution of BaaS/Open Banking
3. Open API based collaborative framework to achieve interoperability & seamlessly integrate all banking ecosystems, including channels, partners, vendors, Fintechs, Regulators etc. 

Strategies to overcome payment modernization challenges

Abstraction Model

Approach –

• Focus is on simplifying core systems by enhancing its peripheral architecture to support digital channels. Extract / Hollow-Out functions of core to reduce complexity prior to its modernization
• Prevalent in banks with complex operations and with limited time, resources or risk appetite

 Use Case  –

• Capabilities that can be extracted from the core payment systems / engines and reused as general functions in the bank.
• Ex: Payment & Relationship pricing and product bundling, Geography specific payment regulations that can be either externalized / centralized.

 Challenges & Limitations –

• Short-term strategy that yields limited value.
• Rise in risk due to adoption of bimodal (two-speed) IT
• Though focus is on simplifying core payment engines, the modernization of real core is deferred

Benefits & Key Success -

• Enhanced business-agility in the short-term due to adoption of Mode 2 (bimodal) IT
• Enhances new age IT delivery skills and credibility & prepares for long term modernization

Value Chain Model

Approach –

• Targets holistic look at payments value chain from initiation to clearing and settlement.
• Phase wise modernization approach of this value chain, based on the business objectives to enable innovation & connect to new networks / schemes

Use Case  –

• Migrating from legacy MT payment messaging format to ISO20022 global standards format
• Impacts onboarding channels, core systems, payment hubs and network interfaces in the payment value chain.

 Challenges & Limitations –

• Extended legacy core costs remain until all cores are modernized
• Realizing efficiency is limited due to  phased deployments by Product/LOB (Retail/Corporate)

 Benefits & Key Success -

• Wholesale modernization by Product/LOB enables localized, streamlined value chains
• Increased ROI due to targeted technology deployments with shorter durations

Progressive Modernization

Approach –

• Strategy targets “New Core” payment system as the destination
• Progressive modernization approach with both new and old payment engines co-exist
• Payment engines are migrated to the new core along with data

 Use Case  –

• Migration of existing schemes such as SWIFT, SEPA, ACH, CHIPS, Cross-Border, Real-Time
• Typically start with a proof-of-concept or MVP to test the feasibility
• Continued Core banking payments operations, with value-added services built on new Core.

 Challenges & Limitations –

• Maintaining both old and new core payment systems will increase integration complexity
• This cyclical process to the new core should be followed by data migration from legacy stack

 Benefits & Key Success -

• New payment scheme launches to embrace ecosystem play with API economy
• Phased / progressive approach would help in decommission of old payment engines

Orchestration Based Modernization

Approach –

• BIAN Inspired “Coreless Bank” approach. Enables plug & play through microservices and APIs
• Focus on standardized interoperability to source and adopt new business services

 Use Case  –

• Typically involves SORs including Debit/Credit Accounts, Party, Product & Pricing systems
• API driven and cloud native architecture. Domain centric, modular, componentized

 Challenges & Limitations –

• Varied effort required to advance each vendor’s solutions to support coreless architecture
• Bank’s experience APIs and Vendor’s consumable APIs should be BIAN / OpenAPI compliant.

 Benefits & Key Success -

• Standardized integration is an enabler for open banking
• Highly leverageable platform that enables interchangeable service options / vendor products

Rip & Replace Approach (Big Bang Approach)

Approach –

• Help banks to future-proof their technology and derive business and operational benefits
• Rip and Replace model of execution for Banks with minimal IT footprint
• Consolidate various payment engines and replacing them with unified enterprise payments hub

 Use Case  –

• Banks looking at multi-product, multi-channel and multi-currency capabilities in quick time
• Comes with SaaS, Hybrid Cloud Models. Move towards a usage-based fee model

 Challenges & Limitations –

• Loss of control on payment execution and value-added services , branding, customer service
• Not applicable for large global banks with heavy IT and diverse technology landscape

 Benefits & Key Success -

• Banks and FIs can outsource their payments platform technology and operations
• SaaS deployment enables continuous application updates and avoids expensive maintenance