BankTech

Is There a Threat to Card Networks?

Who is trying to replace the card networks?

There are hundreds of innovation attempts that are being made to replace the traditional payments mode of cards and the card network business of giants like Mastercard and Visa. On analyzing these attempts, the backbone of most technologies can be grouped into two broad categories:

  1. Automated clearing house (ACH)
  2. Telecommunication channels

The traditional ACH is not a real-time process; it takes a minimum of 1 to 2 days to clear the funds, which is way less than the time card settlements take – 7–8 days. That is one of the main reasons why people are looking towards ACH as a viable option. The economists and the technologists are not satisfied with that 1–2 days’ time either, so they are trying to find ways to make it real time using techniques like fast ACH.

The other prominent and explored option is through the telecommunication networks. For the consumer having a postpaid connection, the organization has the option to bill the consumer via their monthly bills. And for the consumers who use prepaid, it is even more convenient. The consumers just have to load their numbers and use it in all the places they want to. The biggest hurdle in this method is privacy, where the consumer's phone number will be provided to the merchant to bill for the transaction – there should be an electronic way identified to accept these transactions at the POS.

In the modern society, very few transactions – especially with a B2B payment – are cash, so some kind of mechanism is required to transfer the funds.

There are four core systems used for B2B payments in the US:

  • Checking
  • ACH (automated clearing house)
  • Corporate or virtual card
  • Wire transfers

This model describes an open loop system in which many buyers can connect to many sellers via a network. Some payment systems are closed loop, meaning that they do not use a network and the buyers and sellers are directly connected. An example of this is a store credit card. Closed networks have the advantage of being able to set their own rules and avoid network interchange fees.

Who is making a difference?

PayPal is one of the successful examples which use the ACH technique. Even though it is currently heavily dependent on the cards like Visa and Mastercard, it is urging the consumers to link their debit account to the PayPal account. But it takes time for the consumers to trust a third party and provide the account information.

Another major hurdle that the industry needs to deal with is the mode of payment at POS. If there is no card, then what else? The trends are moving towards, mobile, watches, etc. Can these be made available to everyone as a replacement to cards? Can all the merchant POS’ be replaced with devices to accept these transactions? No one can say for sure at the moment as there is a history of struggle in these areas.

Walmart is accepting merchants both online and in-store for ChaseNet, a closed network adding a wider base for merchant acceptance. ChaseNet is JPMorgan's closed-loop network, which already processes payments for Walmart's e-commerce channel. With the help of ChaseNet, businesses get guaranteed fixed-rate pricing for Chase Visa credit and debit payments under the term of the latest contract.

Some of the advantages of the Closed Loop Payment System:

  • Control resides with the payment system. It sets all the terms (unlike open loop, where banks can compete for card customers by offering different features.
  • Reduced risk for fraud for better business protection. Cards, merchants, transactions and externally acquired data are protected.
  • Greater visibility and unique insights into spending trends, buying patterns and peer-set benchmarking.
  • Competitive and secure foreign transactions for merchants who perform multi-currency transactions.
  • Generally, lower value and/or prepaid-based, so less anti-money laundering/combating the financing of terrorism risks.
  • Improves loyalty. Great for customer loyalty programs.
  • Maintains ownership and sets all the rules.
  • Data analytics and controls all the data.
  • Lower payments processing fees.

Can a private label card impact card networks?

A private label card is a credit card issued by a retailer for their consumers. Normally, these cards won’t be associated with the card networks like Visa/Mastercard or the banks. However, there are instances where the card issuance and management are done by a bank instead of the retail merchant.

The merchants normally issue private label cards to attract more consumers by offering loyalty programs, or additional discounts, or additional warranty, etc. The major advantage of these private label programs is the relief from the significant amount of fees that need to be paid to the acquiring banks and the networks (like discount fees, interchange fees etc.). The second major advantage is the increase in the store visits by the consumers who own a store credit card.

The regulatory restrictions on these cards are becoming harder and harder, in terms of collecting and storing consumer personal information and making the merchants responsible for any card security breaches that may occur.

Most of the retailers sold their credit card portfolios during the recession to raise some funds. And the private label credit cards are on the rise again. Retailers are adopting a method of partnering with private label issuers like Citi, GE, Chase, etc. to take care of portfolios called 'co-branding,' through which they are mitigating the financial risk they had by holding the portfolio to them.

The two main advantages of co-branded cards: it gives the loyalty benefits like a store-owned credit card at the same time, since the co-branded cards are issued by the banks or the financial services company, the card can be used at any places outside the branded retail store as well.

The shifting paradigm

That being said, can Visa or Mastercard or any other entities in same business be replaced? It is plausible. However, it will take some significant amount of time to completely eradicate card networks. Card-not-present transactions like online shopping, telephone shopping, etc., can be transformed a lot quicker than the traditional card-present transactions as there are physical devices and infrastructure involved it in. Organizations have already started seeing changes in terms of online wallets and net banking access, which minimizes the use of physical cards in the online industry.

The closed loop payment system is not an alternate technology for card networks; instead, it is just a localized card network. Looking at the history, both Mastercard and Visa were local networks which were later transformed into a global card network. The growth of the closed network will definitely gain some market share of the card network giants, but it may not replace them.

Considering the regulation restrictions, the financial risks, and the administrative overhead of maintaining the credit card portfolio by a retailer, the store-issued private label card may coexist along with the other mode of card issuances. The co-branded cards might be more prominent than the standalone private label cards of the retailer.

Avik Nandi

Avik has 11 years of IT experience in the manufacturing hi-tech and banking financial space. He is a Payments Domain Consultant at Wipro Limited, SaFe 4.0 Agilist and has a strong domain expertise in cards ecosystem across acquiring, issuing and network processing for credit, debit, prepaid products and mobile payments.

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