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Changing markets demand new payments models

The current correspondent banking solutions date from the 1970s and cards from the 1950s. Are they really the best answer for the 21st century?

The current correspondent banking model was designed in the mid-1970s to support international trade flow of that era. It is an accepted fact by a growing number of bankers that correspondent banking is not fit for purpose for low value payments. SWIFT, the messaging infrastructure which underpins correspondent banking, in ‘Correspondent Banking 3.0’, say:

“This [correspondent banking] model is still too bank product centric, based on inherently inefficient multiple agreements. The world has changed around us.”

Equally, the card model dates from the 1950s. Today card transactions are prone to fraud when used in the e-commerce environment and total global fraud losses increased by over 10% to $7.60 billion in 2010.

It is not a secret that the largest proportion of these losses are “cardholder-not-present” transactions, where the risk and cost is largely borne by online merchants – a financial burden for businesses typically operating on low margins. Card companies have tried to respond by putting extra security measures in place, yet many merchants are unhappy with the solutions.

One retailer reported that when the SecureCode™ and Verified By Visa™ solutions were implemented, checkouts dropped by 80%, leaving them with a difficult choice of losing either customers or money through fraud.

Meanwhile, back in the real world….

Over the last 40 years, there have been massive changes in the market:

• Demographics – far greater numbers of people now work, travel and settle abroad. According to the Economist, international migration has doubled in the last 25 years, to more than 200 million people who now generate over 2 billion individual transactions per annum

• Technology – mass market adoption of personal computers, tablets and mobile phones; connectivity resulting from internet and mobile networks along with social media have fundamentally transformed communications. Telexes and faxes are now largely redundant

• Trade - global trade continues to grow, with export volumes growing by 14.5% in 2010 and were forecast to expand by 6.5% in 2011.

Consequently there is a widening gap between the old business models, which still work well for the market segments for which they were intended, and today’s market. New and emerging segments are poorly served – which, as they grow, create fertile territory for new entrants.

New markets – but no new solutions?

e-commerce

• Forecast to be a $900bn category, driving down average transaction values globally. According to the World Payments Report 60% of payments in TARGET2 were for amounts it considers to be retail payments; the research consultancy Glenbrook, based on research for Earthport, says “The majority of cross-border transactions are between $500 and $100,000 in value”

SMEs and midcaps

• More than half of total payments and cash management revenue is actually generated by small businesses and midcaps, yet only now are banks responding to political pressure to orient services specifically for them

Overseas worker remittances

• The average fee paid to make a person-to-person payment is about 9%, a significant sum when the average value of a remittance is around $200. Whilst much of the publicity around remittances focuses on the unbanked and financial inclusion, a growing proportion of transfers are between banked individuals – who in turn have broader banking needs. Only a few banks treat remittances as a ‘lead’ service to win new clients with their business case based on cross-selling other products.

And whilst it is frequently assumed that itinerant workers are poor, some beneficiaries fall into that category as a result of emigration, retirement, having second homes or as a result of their employer centralising its treasury globally

Time to reflect?

Banks that have traditionally profiled customers by size should also segment by type of transactions required and provide solutions to meet those needs, rather than offer a one-size-fits-all solution that does not completely match the needs of anybody – and suffer market share erosion as a result. Furthermore, because efficient cross-border disbursement is a challenge for many banks – they sometimes have described them as ’nuisance payments’. Is that true or is that a reflection of the banks (current) capabilities?

Banks need to consider:

• Do current payments services serve the changed market and especially fast growth segments adequately?

• Do alternative models offer different cost and service characteristics, such as better customer satisfaction and lower transaction costs?

• Are alternative sourcing strategies available which deliver value faster than traditional build, buy and outsource?

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Comments: (2)

Andrew Churchill
Andrew Churchill - MIDAS Alliance - London 20 March, 2012, 11:40Be the first to give this comment the thumbs up 0 likes

Neil,

You're absolutely correct that the majority of card fraud is CNP, and also that VbV et al put off the customer more than the fraudster (as resetting the password is trivial anyway in the unlikely event they didn't phish it with the rest of the static data). 

But given Earthport's business area, I'm surprised you don't raise one of the other areas, both in terms of fraud and false rejection of genuine transactions, namely overseas card use. Gartner's Identity Assurance event last week was just the latest to highlight the continued irritation to all of us as genuine users when our cards are rejected overseas, no matter how many times one informs the bank in advance, or the fact that Heathrow was the transaction before, etcetera.  

This and cross-border payments are both areas I expect will get pulled up in the EU future payments consultation next month, though it's clearly not just an EU or developed market issue. Also interesting to see how changes in Data Protection regulations impact on some of the proposed mobile GPS solutions.

Andrew

Ketharaman Swaminathan
Ketharaman Swaminathan - GTM360 Marketing Solutions - Pune 23 March, 2012, 13:25Be the first to give this comment the thumbs up 0 likes

"...total global fraud losses increased by over 10% to $7.60 billion in 2010". Not clear compared to when? If 2009, this is not a bad trend at all since transaction volumes increased by much more than 10% from 2009 to 2010, which means fraud as a percentage of sales actually reduced in 2011. 

As I'd pointed out in my 3-part Finextra blog post a couple of months ago, SMS Alerts are quite effective in keeping CNP fraud in check. 2-way SMS Alerts are even better.