The Ancient Mayans predicted that the world will end on 21st December 2012. While some of us may laugh at those stocking up on the non-perishables or forgoing Christmas shopping, the Mayans – who considered themselves a developed economy – may have been on to something. While booming markets in Africa, India, Asia and South America delight global investors, we in the so-called ‘developed’ world may be in grave danger of bringing the end times upon ourselves - through red tape.

We’re going to need a bigger Kindle

Payments and transaction banking continues to be dominated by regulations. The sheer scale of the documentation is barely possible to comprehend, let alone adhere to effectively. Whereas the US Glass-Steagall Act ran to 37 pages, the latest financial regulation to come out of the US, Dodd-Frank is 20 times larger. To quote Andy Haldane’s ‘dog and Frisbee’ speech at the Federal Reserve conference in Wyoming earlier this year, ‘with less than a third of the regulatory rules required by the new law already in place, Dodd-Frank has yielded 8,843 pages of rulemaking. At that rate, the law could generate at least 29,477 total pages of rules, or roughly 1,000 times the requirements of Glass-Steagall’. The CFPB is now reviewing Section 1073 so that already looks like an underestimate. According to the Economist, ‘Voracious Chinese officials, who pay close attention to regulatory developments elsewhere, have remarked that the mammoth law, let alone its appended rules, seems to have been fully read by no one outside Beijing’.

When did you last read anything over 300 pages? (Maybe even this blog is a stretch…)

The problem is global and widespread. Whilst the ‘gambling’ sides of banks must shoulder much of the blame, the impact of the new regulatory medicine on transaction banking may turn out to be more severe than the previous era - when it was merely starved of investment, as funds were mostly poured into dealing rooms, and out into dealers. Haldane’s paper explores ‘why the type of complex regulation developed over recent decades might not just be costly and cumbersome but sub-optimal for crisis control’.

Consequences may be unintended, but that is no consolation when you’re being hung drawn and quartered. Which is back in fashion, if you hadn’t noticed. Regulations are only effective if policed. One nation is working hard to set best practices. Regulators at a conference in New York last month outlined the following list of recent fines for ‘egregious behaviour’:

•          UBS, $100m, 2004
•          ABN AMRO, $80m, 2006
•          Credit Suisse, $536m, 2009
•          Lloyds Banking Group, $350m, 2009
•          Barclays, $298m, 2010
•          JPMorganChase, $88m, 2011
•          ING, $619m, Standard Chartered, about $340m (twice), Moneygram, $100m, and HSBC’s eye-watering $1.9bn, all in 2012.

Banks are bound to take action; indeed some are closing the accounts of MTOs, so as to exclude some of the risk.

But much of payments innovation comes about from non-bank providers; M-Pesa’s 20m users regularly use it for B2B and e-commerce. Extrapolating the roughly $70 of principal sent per registered M-Pesa user per month across Africa’s 1bn people is $70bn per month; a useful source of funds to any bank. However, M-Pesa emerged in a very lightly regulated economy; adoption of similar models in other countries has been slow, largely because of regulatory hurdles.  No surprise then that the World Bank, whose agenda targets developing economies, has called for remittances to be deregulated.

The elephants in the room

Meantime, there is thunder in the (very close) distance. According to McKinsey, ‘Britain’s industrial revolution required 150 years to double its economic output per person. In the US, doubling GDP per capita took 50 years. When China and India industrialised, the two nations doubled their GDP per capita in 12 and 16 years respectively.’ Furthermore, because of the size of their populations, they’re doing it on 100 times the scale. Together, that makes an economic force that is over 1000 times as big as UK and USA experienced during the Industrial Revolution.

At the NACHA Global Payments Strategies 2012 conference, Earthport asked ‘Can we feel confident our financial services, carefully honed over many years to meet the needs of corporates and consumers in developed economies, will be optimal for the fast-growth South-South trade routes?’ The internet and smartphones have dramatically reduced the scale advantage of mature industries; we are in the ‘born global’ era. Boston Consulting Group in ‘the Transaction Banking Advantage’ detail different market demands in the fast-developing economies. Whereas in developed economies SMEs share of global trade is falling, in China SMEs account for 78% of exports. In India, SMEs share of exports will rise 44% by 2013.

Supply chains are becoming more complex.  Finance and servicing revenues from open account trading are expected nearly to triple by 2020. Can traditional transaction banking services, implemented through the silo organisational models operated by most banks, be adapted, or do we need new models?

Meanwhile, there is nothing to stop developing economies from adopting the best open standards and technology in their payments infrastructure. As indeed they are.

Another recent McKinsey study, commissioned by the Bill & Melinda Gates Foundation, found that automating the Indian government’s payments could save US $22.4 billion per year, equal to nearly 8% of the total payment flows between the government and its citizens. Unburdened by the need to maintain backwards compatibility with legacy systems and processes, the research estimated that the initial investment payback for India would be somewhere between six and 12 months.

Not that India is still a developing economy, according to HSBC’s current ads (‘we think a bank should know when a country has emerged’). ISO20022 may be becoming a global standard, but its rate of adoption appears fastest in emerging economies, if only because of their scale. The extent to which their governance models will accede to the extra-territorial demands of developed economies remains to be seen. SWIFT is certainly worried about the prospect of a two-tier world:

“If we become the tool of choice for imposing sanctions on a whole series of countries, then we really are on a road we think is not conducive to the global banking systems.” Gottfried Leibbrandt, CEO SWIFT, in The Banker October 2012.

Change happens slowly in payments– doesn’t it?

Payments systems are complex, continually adapting. We are used to changes being small and slow. But occasionally change can happen remarkably fast, and big. Mr Leibbrandt, in ‘A BILLION HERE, A BILLION THERE:  THE STATISTICS OF PAYMENTS’, graphs the ‘tipping point’ of the telex. Once SWIFT achieved sufficient adoption, the decline of the telex was swift. Fax has gone the same route.

Can we assume next year will be like the last? Payments are the keystone product for one-third to one-half of most banks’ total revenues.  Dominating the hilltops has always been a good early goal en route to market dominance, and today’s battleground is domestic payments. As Mr Leibbrandt says, ‘once an instrument has critical mass in a country, why would it change to a standard from another country, especially since cross-border transactions are such a low fraction (5% at most  - Global Payments 2010, Boston Consulting Group) of total?’.

At the IPFA Regional Meeting Americas, which preceded the NACHA conference, delegates heard updates on the - mostly developing – countries which are adopting IPFA standards, themselves based on ISO20022. The SADC project in Africa is in the vanguard, with others in Latin America and SE Asia close behind. Meanwhile, the USA struggles to build a business case for adopting ISO20022, and speeding up its domestic clearing schemes.

Where will the payments industry be in 10 years from now? Perhaps a long way from where it is today. In ‘the Transaction Banking Advantage’, Boston Consulting Group says ‘In theory, Asian Global Challengers are in the best position to benefit from the rise of Asia. Yet few of them have either strong expertise in international trade and its products or their own platforms.’

There is a short window of opportunity. The Mayans may not quite have it right. But hiding up a French mountain won’t help.

‘Empires behave like all complex adaptive systems. They function in apparent equilibrium for some unknowable period. And then, quite abruptly, they collapse’. - Niall Ferguson