Ranee Jayamaha: New opportunities in retail payments
Speech by Dr Ranee Jayamaha, Deputy Governor of the Central Bank of Sri Lanka, at the
IBA-Finsight Payment Systems Summit 2008, Mumbai, 16 May 2008.
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1. Background and present status
1.1 The rapid advancement of innovative payment systems we experience today is a
part of the financial system infrastructure in most countries. In both wholesale and retail
areas, new technologies, participants and alliances have emerged, transforming the payment
systems landscape. This transformation has blurred the distinction between large value and
retail transactions, and also the payment instruments used for such transactions. Often, we
find that large value payments are made through cheques, while electronic payments are
used for small value retail transactions. Although banks have been in the forefront of
promoting some payment instruments, such as credit cards and electronic payments, and the
related infrastructure, by and large, the wider payment reforms have been initiated by central
banks.
1.2 The retail payment mechanisms, some of which are also systemically important,
have been evolving over the past few decades. However, the progress has been slow. Given
the demand for integration of retail payments with high value payments, domestic as well as
international, pressures are building up to reform the retail payment systems. Accordingly,
the increased availability of convenient retail payment instruments at reasonable and
competitive prices has changed the individual payments behaviour and patterns. Although
the gradual move out of cash has made paper-based instruments such as money orders,
postal orders, bank drafts etc., popular for several decades, their market sizes have
continued to decline, largely due to inherited inefficiencies and cumbersome processes in
effecting and settling payments. Some of these retail payment instruments and systems have
now been replaced by electronic payment instruments and cards, and the tendency is to
move towards electronic credit and debit transfers. According to the statistical reports of the
Bank for International Settlements, some interesting movements in the use of retail payments
in selected countries can be seen. In volume terms, France, Germany, Italy and the UK have
reduced cheque use from a range of 3-38 percent of total non-cash payments, respectively,
in 2000 to a range of 1-26 percent in 2006, while there are no cheques at all in the
Netherlands. In Brazil too, cheques have decreased from 57 to 25 percent or less in the
same period. Credit and debit transfers and cards, on the other hand, have risen significantly
in these countries. This picture is different to that of India, where cheque use has reduced at
a slow pace from 84% in 2004 to 73% in 2007 and in Sri Lanka from 75% to 65% in the
same period, indicating the dominance of cheques. I believe the situation is the same for
other countries in the SAARC region.
1.3 In spite of these changes, a notable difference between high value and retail
payment systems is that the high value payments have become customer-centric, while the
retail payment systems have had limited success in securing customer centricity.
Crossborder retail payment systems are also fragmented. Compared to high value payment
systems, retail payment development is evolutionary and not revolutionary.
1.4 In general, users expect the payment system to possess three fundamental
characteristics. First, it must have integrity, i.e. transactions must be safe, reliable and
secure. Second, it must be competitive and efficient, i.e. the cost of making payments should
be as low as possible. Third, it must be accessible and inclusive, i.e. available to all and
include all.
1.5 As long as people see one or two of the above characteristics and accessibility, in
particular, they are comfortable and do not clamour for major changes. This complacent
attitude is a common challenge in retail payment reforms. People are also not too worried
about the systemic risks or payment system crashes and their impacts on the wider financial
system. Hence, there is no pressure for change from users although, from the policy makers'
point of view, there are many risks. In this context, while preserving public preference for
accessibility, the regulators and policy makers need to provide the policy and regulatory
framework, while the private sector should capture critical mass by introducing new payment
methods and instruments; promoting widespread access to such instruments; and removing
any impediments to accessibility. This is a clear entry point and a good opportunity for both
public and private sectors to coordinate their efforts.
1.6 Despite their inherent weaknesses, automated teller machines, debit cards,
automated clearing house networks and credit cards have reached critical mass. However,
smart cards and some e-cash systems, electronic bill payments and person-to-person
internet payment methods are yet to catch up. Accessibility, but at a high price, can also put
off people from opting to use such payment methods or instruments. Similarly, if there are no
service providers to facilitate transactions, card usage cannot be made popular and people
may continue to use cash, as they are uncertain whether the substitute or new instrument is
as accessible as the old ones. Despite inherent inefficiencies of cheques, they are still
popular due to easy accessibility, although the regulators keep worrying about the systemic
risks involved in cheques. That's why, in the recent past, India, Sri Lanka, Singapore and
many others have introduced cheque imaging or fully automated cheque clearing processes.
Given the reduced time from t+5-7 to t+1-2 and facilities at regional level, in Sri Lanka,
people now tend to use more cheques compared to cards or electronic payments, which is a
worry. The public policy objectives of payment system development thus demands that we
allay the fear of non-accessibility and, where possible, offer appropriate incentives to users to
move out of paper-based inefficient instruments.
1.7 Preserving the public policy goals is easier where the regulator is also the retail
payments service provider. However, where the service provider is not the regulator, it is
hard to coordinate and preserve the character of accessibility. The UK regulators have taken
bold steps to outsource the service provider's role and concentrate on the regulatory role,
while USA, Sri Lanka and India are still trying to strike a balance between the dual roles,
which we have inherited for decades.
2. Retail payments outlook and prospects
2.1 Retail banking is still the main force in banking, and is likely to stay that way for the
foreseeable future, despite the relentless growth of investment banking, corporate banking
and other forms of services. In 2006, retail banking business accounted for euro 1,220 bn in
revenue, or about 57% of the global banking revenue pool of euro 2,150 bn. The world over,
banks continue to open branches and attempt to make their branches more attractive for
retail payments. Sri Lanka, India, Bangladesh and many of the SAARC countries are
members of the South Asia Free Trade Agreement (SAFTA), Asia-Pacific Trade Agreements
(APTA), The Bay of Bengal Initiative for Multi-Sectoral Technical and Economic Cooperation
(BIMSTEC), Comprehensive Economic Partnership Agreement (CEPA) and several other
trade agreements. During 2002-2006, exports in the SAARC region as a ratio of world
exports rose from 1.09 to 1.29 percent, of which India accounted for more than 75 percent.
Although firm numbers are not available for 2007, exports are estimated to have increased at
a significant rate followed by higher cross-border payments. Prospects and outlook,
therefore, for Asian region trade, and consequently retail payments, are good.
3 Transforming challenges to new opportunities
3.1 Challenges and complexities: Retail payments development is very challenging due
to numerous complexities and is much more difficult to modernize than large value
payments. In order to complete even a small payment, it is necessary to have appropriate
and acceptable payment instruments, an institutional set up, an enabling legal environment,
infrastructure, processing procedures and money/fund transfer mechanisms. There are
enough opportunities to change this situation, if all stakeholders are committed to introducing
innovations, with appropriate safeguards. We need to look at some of the practical ways of
starting this transformation.
3.2 Discourage cash and paper-based instruments: Progress in the use of electronic
payments has been slow in our region due to numerous reasons. Cash is the most popular
mode of face-to-face payments for retail transactions. Cash does not require the user to go
to specific places, use computers or special equipment to originate or settle a transaction.
Moreover, the payment is final. Given the user preference and convenience, cash and
cheques still dominate as payment instruments in many countries. Businesses also prefer
cheques because of inherited cash management processes, legacy of accounting systems or
reluctance by their governments to transact in electronic payment instruments. If there are
cheque clearing delays or frequent cheque returns, small businesses have no choice but to
borrow for short periods, perhaps at exorbitant interest rates, from informal sources. They
also prefer cheques as they can make late payments through post-dated cheques and other
deferred instruments. A payment through a cheque is not final and the availability of funds to
the payee takes days. Cheques carry considerable credit risk and the payment can be
assured only with a cheque guarantee scheme. Although cheque returns is considered a
criminal offence, banks in many countries are reluctant to take appropriate steps to deal with
cheque returns, due to fear of recovery of loans and advances from customers.
3.3 Automation of cheque clearing: The cheque clearing process and its modernization
have been taking place in many countries. Asia, Singapore, India and Sri Lanka have
changed their existing laws and introduced cheque imaging and truncation systems, which
have changed the whole process of cheque clearing and reduced processing time and
transportation costs. The Sri Lankan experience shows that banks modernized their
backoffice systems to accept electronically presented cheque information and link branches to the
central cheque clearing center at LankaClear to provide end-to-end cheque processing, by
crediting the proceeds to customers' accounts on t+1 or t+2. This has had a significant
impact in the rural and outstation areas in Sri Lanka, where businesses waited for 7 days or
more to get cheques cleared. The system has also helped to reduce geographical barriers
between regions and districts. Small businesses have begun to roll over finances better and
faster. However, although it is advantageous to customers, the inefficiencies inbuilt in
paperbased instruments continue to remain. Where possible, therefore, the use of cheques should
be discouraged.
3.4 Promote electronic retail payments and telecommunication systems: The first step
towards promoting electronic retail payment systems is to provide low cost current and
savings accounts that can be accessed with a cash dispenser card. The use of non-cash
payment instruments, in particular, mobile and telephone banking can be promoted together
with the use of high security standards, which would ensure reliability of the payment
instrument. Although the payment options for e-commerce or e-money are catching up, there
still remains a significant demand for increased efficiency in the delivery channels of these
instruments. The ATM machines have now extended their scope to provide a wide range of
services. Singapore has introduced an e-Giro system, which enables participating banks to
effect transactions using browser-based PCs at their offices, while in other countries, rural
and small businesses access through the use of telecommunication facilities is fast
developing.
3.5 Introduce Common Payment Switches (CPSs): The CPSs can be used for
managing the clearing of retail fund transfers initially among banks, but they are common
platforms for local retail transactions, online real time fund transfers and for miscellaneous
retail payments across banks. Through CPSs, both operators and customers will enjoy
benefits of service outside banking hours, reduction of administration work and paper
handling, on-line availability of information, ability to integrate future services, reduction of
settlement risks on retail transactions, etc. Accordingly, the participating banks will be able to
effect customer/bank initiated transactions relating to: third party transfers
(account-toaccount transfers), bank transfers, bill payments, inward remittances, statutory payments
such as taxes, local government rates, inter-bank transactions, direct debits and local credit
card transactions. Above all, CPSs, will help reduce bank charges on financial transactions
and pass on benefits to customers. Korea and Thailand have facilitated real time settlement
of retail payments from person to person (P2P) or business to business (B2B) through CPSs,
which is considered to be an affordable and an effective method of facilitating retail
payments.
3.6 Ladies and gentlemen, it is for us to convert these challenges to opportunities. I
believe that if policy makers, regulators, bankers and service providers work in a coordinated
manner with a commitment to improve the retail payments in the region, we will be able to
reap the benefits in the near future. I would like to mention a few areas that require urgent
attention.
3.7 Improve inter-operability and facilitate supply chain transactions: Many financial
products are not linked to financing the supply chain transactions, such as purchases,
transportation, marketing of produce of farmers' small businesses, SMEs and micro
enterprises, because many retail payment instruments and mechanisms are not
interoperable or flexible enough to facilitate supply chain transactions. Farmers and small
businesses use more cash at harvest times and both cash and cheques during post harvest
periods. It is time to make a move to provide supply chain transactions with cards or direct
credits and debits by providing electronic infrastructure or money transfer facilities through
telecommunication technology. Adopting new technology or upgrading IT networks and
infrastructure of retail payment systems is required to improve safety and efficiency gains.
Service providers should look for volumes and turnover, rather than highly priced payment
instruments. The users must feel that the payment instrument is secure and that the level of
technology permits savings on operational costs. The issuance of cards with ATM, point of
sales and e-money functions would help the user to use the same card for a variety of
purposes.
3.8 Enhance awareness and transparency: Limited awareness of the available payment
instruments, their advantages and disadvantages, and a lack of transparency have deterred
the use of retail payment instruments by the general public. A review conducted by the
Reserve Bank of India for the year ended March 31, 2007 reveals that the level of awareness
and familiarity with payment services offered by banks were at varying degrees. This, in fact,
has been one of the major inhibiting factors for migration from one retail payment instrument
to another. Banks need to promote merchants in small cities to enhance the acceptance of
cards at merchant locations and make users aware of the facilities. Another important
feedback in India's survey was that there is a clear need for transparency in service charges
on credit and debit cards.
3.9 Attract retail remittances through innovative methods: The denial of access to the
retail payment system was also seen in small-scale cross border transfers. Bank and
nonbank financial institutions and money transfer agents use their own costly and proprietary
instruments for remittance transfers. The inability or inaccessibility to use the full potential of
the formal remittance infrastructure has resulted in the mushrooming of popular informal
systems, such as "Hawala" and "Undial", with a significant loss of foreign exchange to the
banking system and perhaps to the entire country, indicating the loss of opportunities due to
the inheritance of ad hoc retail payment systems. Penetrating successfully into this critical
area of business is a challenge, but there are plenty of opportunities for banks. The "Padala"
system in the Philippines and the agency banking system through mobile telephones
introduced recently in Sri Lanka are examples of success stories. In the Philippines, telecom
companies offer remittance services through mobile phones and e-money, i.e. stored value.
The sender pays cash to one of the service providers, who sends a secure text message to
the mobile phone of the receiver in the country. The "last mile" of service is provided by
banks and financial institutions, the postal network or their agents or representatives. If
remittances can be channeled through a single low-value bulk payment mechanism, the cost
per transaction could be reduced. Once domestic connectivities are upgraded, they can be
extended to cross border retail payment systems by ensuring safe and efficient remittance
transfers. Similarly, the domestic postal systems can be connected to the global postal
network and the Giro payment mechanism used for cross-border remittance transfers.
4. Framework for retail payment development
4.1 How do we seize the existing or emerging opportunities or create new ones? I hope
many suggestions and initiatives may come up during the rest of the day. Let me mention a
few of the major steps. The framework suggested here is by no means a well-designed
blueprint for retail payment development in the region. It is only an effort made to put
together a few thoughts. The key elements are not in any particular order either, but for
convenience, I have categorised the key elements into policy and operational aspects.
4.2 In order to enable retail payments to play a critical role in financial inclusion, it is
necessary to develop a comprehensive, medium-term framework that facilitates the reform
process. Once a framework is prepared, all stakeholders need to operate within the
framework designed to achieve common goals. Although the culture and patterns vary from
country to country, it is clear that retail payment system reforms require the involvement of
both the public and the private sector. In the public sector, the central bank's or monetary
authority's involvement is essential, because they are responsible for monetary policy and for
the preservation of public confidence in money. The private sector is equally important, as it
has the most relevant information on the payment preferences of the people and is directly
involved in providing payments services. The optimal mix depends on the level of
development of the financial market, but a more active role has to be played by the
authorities to achieve the public policy objectives of retail payment reforms.
4.3 Policy elements
4.3.1 Central banks to play a catalytic role: Central banks should be at the centre, take the
leadership and coordinate the development process as other stakeholders tend to have
vested interests. While it is important to enhance oversight and supervisory functions by the
central banks and ensure that governance arrangements for infrastructure and service
providers are in place, it is also necessary to ensure that such arrangements do not lead to
unnecessary restrictions on competition and innovation.
4.3.2 Stakeholder participation: It is essential that central banks engage in effective
participation and secure cooperation from all stakeholders in the payment systems, through
establishing National Payment Councils (NPC) or National Payment Committees/Advisory
Councils etc. India, Sri Lanka, Pakistan and some others have already established NPCs
and they are the highest level policy making authorities for development of national payment
systems. Banks have a good opportunity to give their inputs at these meetings, especially on
operational matters.
4.3.3 Declare public policy objectives of retail payment system development: The
undeclared and unsaid public policy objectives have been a contributory factor for ad hoc
retail payment system developments in the past. We need to avoid this lacuna by getting the
policy authorities to announce the public policy objectives, such as providing safe and
efficient retail payment services, enhancing access to finance and financial inclusion, offering
payment services at affordable prices, preserving customer and user rights, providing a legal
and regulatory framework and supporting the development of effective standards and
infrastructure arrangements.
4.3.4 Customer-centric strategy and fair treatment to customers: Retail payment reforms
should go beyond the current requirements and be able to cater to future requirements, given
the rapidly expanding trade and financial transactions in the region - primarily in India and
some other countries. The strategy should include guidelines to move towards open and
standardized customer-centric systems. The retail payment system operators and service
providers should attempt to achieve the following outcomes to ensure that the customer is
treated fairly:
i. To begin with, relevant initiatives should be embedded in the corporate culture of the
organization. This requires leadership at senior management level;
ii. Products and services marketed and sold in the retail payments market should be
designed to meet the needs of identified customer groups and targeted accordingly.
Customers in different groups should be advised appropriately. This would help to
reduce misleading advertisements, which often use various gimmicks to attract
customers;
iii. Customers should be provided with clear information and kept appropriately
informed before, during and after the point of sale. Products should maintain
acceptable standards and meet customer expectations. This involves transparency
on the part of service providers; and
iv. Customers should not be faced with unreasonable post sale barriers imposed by
banks and financial institutions or service providers, forcing them to purchase
supplementary products and services.
4.3.5 Ensure fair treatment to customers: Treating customers fairly throughout the life of a
payment product, as well as at service points, is an essential theme that should be focused
on by all stakeholders. In this regard, it is necessary to establish principles-based regulations
on payment related activities rather than compliance or rules-based regulations. The
regulations should relate to the payments mode or the payments product life cycle and the
payments culture in each country. The principles and related reviews should seek to
accomplish the provision of solutions to significant and persistent problems in the distribution
of products in the retail segment of the payment services, and to build financial capability, i.e.
equipping customers with the skills and knowledge needed to achieve a fair deal.
4.3.6 Established customer protection and rights, and legal framework: The retail
customers and their rights should be protected in the legislation. Several countries have
passed separate laws to achieve this. In the Payments and Settlements Act, the Central
Bank of Sri Lanka has included a separate section on customer protection. In 2005, the
Reserve Bank of India established regulation and supervision within its Payment and
Settlement Act. It is imperative that customer rights are looked after as many financial
institutions and service providers have been accused of customer exploitation. In addition to
protecting customer rights, the legal and regulatory framework should keep pace with
changing circumstances and promote innovation and integration to suit customer needs.
There should also be regulatory provisions to remove any restrictions to market entry and
product development, especially for those who try to link retail payment instruments with the
high value payment systems.
4.3.7 Setup standards and governance structure: International standards and practices
have been established for credit and debit cards. The joint efforts for introducing micro
processing chip or tamper proof cards and security solutions in the credit and debit cards
should be encouraged to foster Internet payments. Setting standards by the authorities would
promote developing off the shelf software solutions to automate systems and integrate
different systems. The general guidelines for retail payments development issued by the
Bank for International Settlements in 2005 sets out guidelines, but they are basically policy or
regulatory related matters. The information technology industry needs to take an initiative in
preparing guidelines and governance structures to meet standards on a self-regulatory basis.
4.3.8 Operational elements: The framework should set out operational responsibilities for
the other stakeholders. The most important of these are
i. Explore new technological capabilities: Policy makers and regulators should attempt
to discourage preference by vendors, system operators, financial institutions,
service providers and users in defending inefficient and old systems, which have
hidden benefits or other comforts. Priority should be given to use up-to-date
technology for transactions routing mechanisms, security systems and codes for
inter bank clearing and settlement mechanisms.
ii. Efficiency and risk control: Many developing countries, in general, and South Asia in
particular, are characterized by a heavy use of cheques, which indicates that the
retail sector is far from being optimal from the point of view of efficiency and risk
control. Central banks and all stakeholders in the retail payments arena need to take
early action to reduce the cheques and design a strategy to incentivise users to
move towards other electronic payment instruments. It is also important to correct
the wrong impression that cheque processing through Automated Clearing Houses
(ACH) is cheaper than investment in electronic payment systems and on line
processing. The view that outstation and rural customers are reluctant to use
electronic cheques or credit and debit cards is no longer true.
iii. Involve governments: Government involvement in the development of retail payment
system is a key, although it has become one of the difficult tasks. Many government
transactions are in cash or by cheque, and governments are not keen to acquire
modern payment infrastructure or recognize the benefits of using newer payment
instruments. One obvious reason for this is the ready access governments have to
state banks' cash items in process of collection, which enables immediate credit to
governments. Efforts are now being made by some countries such as the
Philippines and Eastern European countries to involve governments in retail
payment development by diverting revenue receipts from income tax, custom duties
and other income sources through modern retail payment instruments.
iv. Establish confidence in payments media: Either the service providers, the regulators
or consumer protection authorities, or all of them jointly, should ensure that new
products are safe and efficient and that they have public confidence in them.
Pushing efficiency too far could adversely affect public confidence in payment
instruments. For example, moving aggressively into credit cards, which are
considered to be efficient and safe payment instruments, has also resulted in
numerous frauds and risks, and this has begun to scare people. New technologies
break physical distance barriers enabling efficient real time transactions, but the
critical factor is network security, which should ensure access only to a person's
own funds. New delivery channels for retail payments such as the Internet, on-line
personal payments, electronic bill presentments, telephone, e-cheques or e-invoices
are becoming popular, although they do not always assure the same level of
security as some of the other products. Tamperproof cards are generally considered
to be safeguard against credit card frauds, but the relevant software appears to be
expensive. Financial intermediaries are not keen to invest in such safeguards. Even
if they do, they will pass on the costs to customers, which will defeat the affordability
purpose. Vendors and service providers need to be flexible to pass on the benefits
of technological advances to a larger group of users. Demand driven innovations
should also be promoted and vendors should look for volumes and turnover, rather
than high-priced software sales.
5. Agenda for SAARC region payment systems development
5.1 The banking community in India as well as in other SAARC countries need not
reinvent the wheel. There is good news. Following a request made by the SAARC country
Governors, a SAARC Payments Initiative has been set up to take forward the payment
reforms in the region. Within this Initiative, a SAARC Payments Council (SPC) has been set
up, consisting of high level officials from SAARC central banks who are also the
Chairpersons or senior members of their national payment councils. SPC will be the policy
making authority for both high value and retail payments. The organisational structure is
considered a very practical one, because of the involvement of all national stakeholders in
the national payments councils, which will provide a good forum for the banking community
and all service providers to give their inputs for retail payments developments in their own
countries, as well as in the region. Currently, Sri Lanka chairs the SPC and a Secretariat has
been set up in Colombo to facilitate operational processes. SPC has already prepared a road
map for the first year and a rolling plan for the medium term.
6. Conclusion
6.1 In concluding, let me re-emphasize that technological advances and changing
industry structures are two key forces that impact on payment system developments, of
which retail payments is a critical component. However, attention to public priorities, i.e.
integrity, accessibility, efficiency and the safety of new retail payment methods, has been
low. There is, therefore, an urgent need for coordination between policy makers/regulators
and the private sector to ensure that they cater to the general public.
6.2 There is a clear role for banks, service providers and technical solution providers in
the SAARC countries to take forward the region's retail payments development. First, we
need to understand the environment in which we work by estimating gaps in the systems.
The SPC has already begun the preliminary work in this regard. Banks in the SAARC region
will have to coordinate with their respective central banks and national payment councils in
taking forward the SAARC payment initiative.
6.3 Development of the retail payment system is crucial for the development of financial
markets in South Asia, particularly at a time at which faster growth requires supportive
financial services. It is necessary for all stakeholders to be involved in the area of payment
system development in preparing a realistic agenda within the national jurisdiction, as well as
taking into consideration cross country legislation. In doing so, it is essential to understand
the critical issues in the retail payments area and try to minimize the inefficiencies and
improve safety issues involved in some of the popular payment modes.
6.4 The NPCs and the regulatory bodies should make all attempts to persuade retail
payment service providers to use common national and inter-regional and infrastructure and
fostering the standardization and harmonization of retail payment systems. The high cost
involved in retail payment systems processes is not necessarily due to the large volumes or
the wide array of payment instruments, but due to the use of a large number of proprietary
infrastructure systems by service providers and the passing on of these high costs to users.
While introducing customer-centric products, it is important to ensure that customers are
protected and their rights are preserved. I hope some of the opportunities mentioned above
and many others that will be highlighted during the rest of this Summit will be taken up by the
banking community and service providers and that they will work closely with the SPC to take
the region's payment system development process forwar