August 26, 2019
Blockchain is in its element as the basis for cross-border payments technology, writes Vlad Lounegov, CEO of Mbanq.
Skeptics have had much fun pointing out that “blockchain is a solution searching for a problem.” While it is true that digital ledger technology was overhyped and over-marketed in recent years, today, blockchain has found a particular problem that it can solve extremely well: cross-border payments.
The history of remittances is fairly straightforward. Until the advent of blockchain, only two viable methods of international payments existed: through banks or money transfer operators (MTOs). Both of these types of transfer have a track record of capabilities and limitations.
The traditional banking route costs the customer an exchange rate and a processing fee of about 8–10%. Additionally, there are delays due to the technical back-end processes in a bank which cannot be changed easily. According to the World Bank, the average cost for sending a remittance was 6.94% in Q1 of 2019.
MTOs, on the other hand, are challenging the norm, but they are not doing it well enough. They require users to go through a fiddly legal process to set up, and also use intermediaries for legal compliance and to mitigate fraud risks. They also charge 2–9% in fees. For an average individual, these tasks are cumbersome, and the costs mount up.
Currently, the top recipient of remittances is India, followed by China, Mexico, and the Philippines. So far in 2019, over $31 billion was sent to India by non-resident Indians. Estimates suggest that the market potential of global remittance transactions is expected to reach $550 billion by the end of this year, and remittances are expected to become the largest source of external financing in developing countries.
Such numbers look very promising, but there is a further element to consider. Most remittances are low-value transactions by migrant workers who send salaries back to their home country using money transfer systems in which it is proportionally cheaper to send larger amounts.
Globalization, an increase in international trade, and the spread of e-commerce has given rise to the need for mass-volume, cheap and fast cross-border payments, but there are additional challenges that need to be ironed out:
These challenges have led FinTechs and banks to begin exploring technology they can leverage to streamline the process. And blockchain technology looks like it might fit the bill.
In the last few years, there has been an emergence of disruptors like Ripple, SWIFT, and new digital currencies. These players are changing the game of cross-border payments. Exactly what neobanks did for financial services, they are now repeating in the remittance market.
Viable blockchain solutions are long overdue and have steadily picked up the pace. They use cloud-based networks to reduce costs and to store every transaction on the distributed ledger system. This eliminates the need for expensive middlemen and drastically increases accountability. A payment that would usually take 2-3 days may now take only a few seconds. Blockchain is a serious game-changer.
One of the frontrunners in the market is Ripple. It is challenging existing solutions by settling transactions in four seconds or less using its own cryptocurrency: XRP.
This contrasts with SWIFT, which takes a different approach and integrates its open banking solution with a financial institution’s existing system to send messages between banks. However, despite the backing of financial institutions, SWIFT payments lag far behind emerging blockchain solutions. They process payments in over 24 hours and require human intervention.
Amidst these developments, central banks are running their own trials to solve their biggest issues with cross-border payments. In May 2019, the Monetary Authority of Singapore used blockchain technology to send $105 Singapore dollars to the Bank of Canada. They quickly realized they would not be able to scale this process on their own and would require the help of FinTechs to assist them.
Businesses and FinTech players have started to embrace this change. For example, Mbanq is partnering with IBM Blockchain World Wire to carry out cross-border payments efficiently.
IBM World Wire is among the world’s first blockchain-based global payments and settlements systems for banks, financial institutions, and non-bank entities. It allows network participants to transact in near real-time, using different currencies and asset classes. It uses blockchain as evidence of the transaction.
Financial institutions across the globe are slowly starting to adopt cryptocurrencies, not as a speculative investment, but as an attempt to transform cross-border payments. Blockchain provides cost-effective, instantaneous, transparent, and secure transactions. In fact, it is looking like the savior of the old cross-border system. It will be interesting to see how these disruptors will scale while pushing through the barriers of adoption and trust.