Faster Payments Demand Faster Action

With major markets adopting real-time payments processing, U.S. banks that don’t
act soon risk being left behind.

All around the world, banks are making the move to real-time payments. Throughout Europe, Latin America and Asia, we’re seeing banking customers reap considerable benefits from being able to transact in real time.

However, the picture here in the United States isn’t quite so rosy.

That’s not to say that it’s impossible to make real-time payments in the U.S. market. The Clearing House Payments Co. offers a real-time payment platform to its members, while the forthcoming introduction of FedNow will see many smaller financial institutions able to offer this facility to customers.

But overall—and largely due to the fractured nature of the financial ecosystem here—the United States is behind when it comes to real-time payments. And from conversations I’ve had with some bankers here, there seems to be a reluctance to accept that now is the time to get on board.

In this article, I’ll explain why financial institutions large and small should be making real-time payments part of their strategy right now, the risks of not doing so, and the challenges we face in moving to the real-time future.

Digital Means Instant

Payment processing has traditionally been done in a very linear fashion. Payment information is gathered, then screened. There are some fraud checks. Then the availability of funds is checked. This sequential processing was handled by big, on-premises mainframe systems within the bank.

The technology itself was the limitation to how quickly payments could be processed. It had to be managed and maintained in-house, was difficult to scale up, and very soon became out-of-date. Banks relied on this legacy infrastructure to perform all of their core processes—not just payments—so if there was an outage, everything could grind to a halt.

More recently, many banks have learned to place their trust in cloud-based systems. Suddenly, the ability to process payments at whatever scale is required is there. Instead of having to implement additional hardware to address spikes in volume, banks can readily access incremental processing capacity by leveraging the services of public cloud providers.

Also, the way in which many cloud-based systems are built revolves around micro services. This structure allows banks to break apart that sequential processing model and leverage different micro services simultaneously to allow payment processing to happen in a much faster way.

Using APIs, banks can stitch all of these micro services together to pull the relevant data much more quickly, while integrating the micro services of ancillary service providers into their own platform. Simply put: Advances in technology offer everything needed to support real-time payment processing and make it readily available.

There’s no reason now why payments can’t be delivered digitally instantly. But banks may still be in some doubt as to the need to move from three-day payment processing to instant. I would argue, though, that customers have become more demanding in the digital age.

With online shopping and services like Amazon Prime, I know if I order something today, I’m going to get it tomorrow or maybe even on the same day. Most things that can be delivered digitally are being delivered instantly. You can receive a physical item in some places faster than you can receive the actual payment for it. This is a dislocation in customer expectation.

The changing nature of our lives also supports the case for real-time payments. Many people are reliant on money coming into their account quickly. The growth of the gig economy is well-documented and has led to an increasing number of people who receive their wages day-to-day rather than at the end of the week or the month. They need to make sure that, when they need to buy food and pay bills and make their rent payments, they can.

While services such as Zelle, PayPal, and Venmo are available in the U.S. market, in reality these services have some significant limitations. They’re not using faster-payment rails, which means that, while funds become available, they are not irrevocable and come with some significant risk.

Many of these services have relatively low payment limits to help mitigate this risk. But with the addition of the ability to send real-time payments over real-time rails, this risk posture is significantly changed—with payments being cleared and settled centrally at all hours and with more control.

Highly Fractured

Seeing what is happening overseas should give banks good reason to contemplate offering real-time payments to customers. The United Kingdom is already looking to introduce its next generation of Faster Payments. We’re also seeing some interesting interconnectivity plays in Asia, where markets are linking their real-time payment platforms so that cross-border transactions become much more easily facilitated.

Some of the Latin American countries have been particularly quick to adopt real time payments. Brazil and Mexico, in particular, stand out as examples of countries where real time payments have taken off in the consumer retail market.

Here in the United States, some banks have been aggressive in their digital-transformation projects, but many others have been weighed down by legacy infrastructure.

So far, around 260 banks have adopted The Clearing House’s Real Time Payments (RTP) platform. Many of these are only set up to receive rather than send, but at the very least this adoption has seen them start the process of adapting their infrastructure to handle real time payments. Those participants that will be sending as well have been announcing enablement features and solutions for some specific use cases, such as U.S. Bank’s real time payment capabilities for auto dealers.

We here in the States have a well-developed but highly fractured banking system, meaning it is more difficult to move away from where we are to a new environment. The U.S. market has 10,000 or so financial institutions, and all of them need to come up to speed to allow for that shift. In the U.K., there are five or six big banks and then a bunch of smaller building societies, many of which are quite advanced in technological terms.

On a macro level, there are issues that affect the whole ecosystem. Fraud is one of the biggest problems when it comes to real-time payment processing. Though fraud checks are still one of the most important aspects of payment processing, fraud is often only exposed at the central level, where you have a view of what’s happening in the whole market, rather than what’s happening with just one institution.

Malicious actors will ping multiple institutions at the same time to try to make or receive a successful payment. If you don’t see what’s going on in the ecosystem as a whole, you won’t be able to spot these patterns.

A Paradigm Shift

Looking at the institutional level, one significant challenge for real-time payments revolves around liquidity. Banks have to deal with instant delivery of funds, rather than delivery in three days. How do you make sure that you have enough cash in the system to facilitate that on behalf of your clients? And how do you upgrade your technology platform to support it?

These are complex problems that banks that want to offer customers real-time payments must get on top of.

For banks that are struggling to upgrade their legacy infrastructure, there will be significant investment—in both time and money—required to get themselves to a position to be able to offer real-time payments to customers. However, they could also put their trust in third-party providers to help them with this transformation.

In a digital world, financial institutions from an analog era need some help to adjust. There’s no shame in admitting this. While self-reliance is an admirable quality, pragmatic organizations that want to keep their customers happy don’t have to do everything on their own.

They can strike partnerships with technology providers that will give them access to managed, cloud-based services that will allow them to offer features such as real-time payments without having to build anything themselves.

Judging by the conversations I’ve had, there are a lot of banks saying real-time payments won’t take off in the U.S. market for some years. So they’re kicking this issue into the long grass. Happily, though, there are others that are saying they see real-time payments as a clear differentiator from the competition, so they are looking to be early adopters.

Additionally, the fact that the US Department of the Treasury’s Bureau of the Fiscal Service has now announced that it will be taking part in the FedNow pilot should persuade many of the financial institutions currently sitting on the fence.

I’m not a gambling man, but if I were I know who I would be backing. The banks that see real time as tomorrow’s problem might find that they get left behind, while those that choose to get on board now will keep their existing customers happy—and probably attract a load of new ones, to boot.

Overall, though, the bigger macro trend that real-time payments represents is a movement by banks away from having to do everything themselves. Instead, they can use service providers for tasks and processes previously considered core to their operations, including the processing of payments.

This may be something of a paradigm shift for a fairly traditional, conservative industry. But those banks that can make the leap will find themselves in good shape for the future.

—Dave Scola is U.S. chief executive for Form3.