Philip Lowe: Innovation and regulation in the Australian payments
system
Address by Mr Philip Lowe, Governor of the Reserve Bank of Australia, to the Australian
Payments Network, online, 7 December 2020.
* * *
I would like to thank my colleagues in Payments Policy Department for assistance in the
preparation of this talk.
Introduction
Thank you for the invitation to join you today. It is very good to see the tradition of AusPayNet's
annual summit continue, even if it is taking a different form this year.
As we all know, the world of payments has become an area of excitement: it brings together two
things that people have a fascination with - money and technology. The pace of change is rapid
and the payments landscape is complex and evolving quickly. New technologies are creating
new ways of moving money around and new business models are emerging. There are also new
players, including the big techs and the fintechs. And blockchain and distributed-ledger
technologies are opening up new possibilities. This innovation is raising many issues for both the
payments industry and for regulators.
This morning I would like to discuss some of these issues and their implications for the
regulatory framework. I will then discuss some of the Payments System Board's preliminary
views from its Review of Retail Payments Regulation.
Innovation
The Payments System Board has a long standing interest in promoting innovation in the
Australian payments system. Those of you who have followed our work over the years will recall
that back in June 2012 the Board released a report titled 'Strategic Review of Innovation in the
Payments System'.
In promoting innovation we have employed a mix of strategies. We have used a combination of:
i. suasion and pressure on industry participants to do better
ii. regulation to promote competition and access
iii. using our position to help overcome coordination problems, which can act as a barrier to
innovation in a network with many participants
iv. helping the industry establish benchmarks that can be aspired to collectively.
I will leave it to others to judge the success of this mix of strategies. But from my vantage point,
Australians enjoy an efficient and dynamic payments system. There are still gaps that need
addressing, but by global standards we have done pretty well. Australians were early and rapid
adopters of tap-and-go payments and increasingly are using digital wallets. We have a very good
fast payments system, which after a slow start, is seeing continuing strong volume growth. And
there is a roadmap for the development of new payment capabilities using this fast payments
infrastructure. I would though like to draw your attention to two areas where we would like to see
more progress.
The first is the move to electronic invoicing and the ability to link e-invoices to payments as a way
to improve the efficiency of business processes. The second is improvements to the speed, cost
and transparency of cross-border retail payments and international money transfers. We are
looking forward to progress on both fronts.
Against the backdrop of this generally positive picture, the Payments System Board recognises
that the structure of payment systems is changing. In some cases it is now better to think of a
payments ecosystem, rather than a payments system. In this ecosystem, the payment chains
can be longer and there are more entities involved and new technologies used. This more
complex and dynamic environment is opening up new opportunities for innovation as well as new
competition issues to consider.
One of the factors driving innovation is the increasing interest of technology-focused businesses
in payments. These businesses include the fintechs and the large multinational technology
companies, often known as the 'big techs'. They are a source of innovation and are playing a role
in the development of digital wallets. These wallets are being used more frequently and I expect
this trend has a long way to go. Another trend is the increasing use of payments within an app.
Big techs are playing important roles on both fronts.
This influence of the big techs is perhaps most evident in China, with Ant Group (owners of
Alipay) and Tencent (WeChat Pay) having developed new payments infrastructure that has led to
fundamental changes in how retail payments are made in China.
In Australia and many other countries, Google, Apple, Facebook and Amazon are increasingly
incorporating payments functionality into their service offerings. Mobile wallets such as Apple Pay
and Google Pay are the most prominent examples of this in Australia. In some other countries
the big techs are also offering person-to-person transfers and consumer credit products.
Facebook also announced its Libra project.
The Apple Pay and Google Pay wallets illustrate some of the new and complex issues that are
arising. These wallets are clearly valued by consumers and they will reduce industry-wide fraud
costs through the use of biometric authentication (e.g. fingerprint or facial recognition). The
tokenisation of the customer's card number is also a step forward. So these wallets are a good
innovation. At the same time, though, they are raising new competition issues.
One of these relates to the restriction that Apple, unlike Google, places on access to the
nearfield communication (NFC) technology on its devices. Many argue that this restriction limits the
ability of other wallet providers to compete on these devices and that this could increase costs.
This issue has recently attracted the attention of policymakers in several countries. For example,
in 2019 the German parliament passed a law requiring device manufacturers to provide third
parties with access to technologies (such as NFC) that support payments services. And the
European Commission announced in June that it would commence a formal antitrust
investigation into Apple's restriction of third-party NFC access on the iOS platform and in
September announced that it will also consider legislation on third-party access. This issue has
also been raised in submissions to our review of payments system regulation, and we are
watching developments in Europe and elsewhere closely.
Another issue being raised by these wallets is the value of information and data, and again we
observe Google and Apple taking different approaches. Google states that it may collect
information on transactions made using Google Pay, which can be used as part of providing or
marketing other Google services to users. In contrast, Apple states that it does not collect
transaction information that can be tied back to an individual Apple Pay user. There are also
different approaches to charging transaction fees. Apple charges a fee to issuers when a
transaction is made with the Apple Wallet but a similar fee is not charged by Google when
transactions are made with Google Pay. It is certainly possible that these different approaches to
the use of data on the one hand and access and fees on the other are linked. So there are issues
to consider here too.
Beyond the issues raised by digital wallets, there are other competition issues raised by the
involvement of the big tech companies in payments.
These companies are mostly platform businesses that facilitate interactions between different
types of users of their platform. They have very large user bases, benefiting from strong network
effects that can make it hard for competitors. Data analysis is part of their DNA and they have
become increasingly effective at commercialising the value of data they collect and analyse.
Providing additional services, such as payments, also reduces the need for users to 'leave' the
platform. So there are complex issues to be worked through here. One of these is the terms of
access to the platform and whether the platform requires that payments be processed by the
platform's own payment system.
One specific issue that is raised by both digital wallets and the big techs is the nature of the
protections that apply to any funds held within any new payment systems, and outside the formal
banking sector. For confidence in the system and for the protection of individuals and businesses
it is important that strong arrangements are in place.
In this regard, I welcome the Government's announcement that it will accept the Council of
Financial Regulators' proposed reforms of regulatory arrangements for so-called stored-value
facilities. Under the proposals, APRA and ASIC will be the primary regulators, with requirements
tailored to the nature of the facility. It would be possible, for example, to 'designate' a provider of a
stored-value facility as being subject to APRA prudential supervision on the basis of financial
safety considerations. This could become relevant if the technology companies were to launch
new payment and other products that held significant customer funds.
Internationally, this and related issues came to prominence following Facebook's announcement
that it was developing a global stablecoin (originally called Libra, but recently rebranded as
Diem). Since the original announcement, the Libra Association (now the Diem Association) has
also announced plans to launch some single-currency stablecoins intended for use in consumer
digital wallets. In April, the Association applied to FINMA (the Swiss financial regulator) for a
payment system licence.
This initiative has raised concerns from governments and regulators in many jurisdictions
regarding a wide range of issues including consumer protection, financial stability, money
laundering and privacy. The Swiss authorities have established a regulatory college to coordinate
with other countries. The RBA is participating in this college on behalf of Australia's Council of
Financial Regulators. FINMA has indicated that Diem will be subject to the principle of 'same
risks, same rules' - that is, if Diem poses bank-like risks it will be subject to bank-like regulatory
requirements. It remains to be seen how this and other similar initiatives progress.
As I said at the outset, the world of payments is becoming more complex and raising new issues
for industry participants and regulators to deal with. This means that it is timely to consider how
the payments system should be regulated and the Payments System Board welcomes the
Government's review of the regulatory architecture.
The legislation governing the Reserve Bank's regulatory responsibilities was put in place over
20 years ago. This legislation gives the Bank specific powers in relation to payment systems and
participants in those systems. While the powers are quite broad, in practice the Bank has the
ability to regulate only a fairly limited range of entities. As I mentioned earlier, these regulatory
powers have been used in conjunction with our ability to persuade and to help solve coordination
problems in networks. As part of the Government's review it is worth considering what the right
balance is here and whether the regulatory arrangements could be modified to better address the
complexities of our modern payments ecosystem.
An update on the Review of Retail Payments Regulation
At the same time that we have been considering these broad issues, the Payments System
Board has been conducting its periodic Review of Retail Payments Regulation in Australia. This
review was temporarily put on hold during the pandemic but has now restarted. I would like to
use this opportunity to provide you with a sense of our thinking on three important issues:
1. interchange fee regulation
2. dual-network debit cards and least-cost routing
3. 'buy now, pay later' (BNPL) no-surcharge rules.
I want to stress that we have not yet reached any final conclusions and the Bank's staff will be
meeting with industry participants over the next few months to discuss these and other issues. If,
at the conclusion of the review, we are to make changes to the standards it is our intention to
consult on these by mid 2021.
Interchange fee regulation
The Board's view is that interchange fees should generally be as low as possible, especially in
mature payments systems. While these fees might arguably play a role in establishing new
payment methods, once a payment system is well established these fees increase the cost of
payments for merchants and they can distort payment choices. So the direction of change in
these fees over the medium term should be down, and not up.
Having said that, at the current point in time the Board does not see a strong case for a
significant revision of the interchange framework in Australia.
The current interchange standards have been in effect for only 31⁄2 years and submissions to the
review did not point to strong arguments for major changes. The standards appear to be working
well and frequent regulatory change can carry costs. It is also relevant that the average level of
interchange rates in Australia is quite low by international standards, particularly the 8 cents
benchmark for debit card payments. Credit card interchange fees are also lower than in most
countries. One exception is the lower credit card interchange fees in Europe. The Board is
watching the European experience closely and expects that, over time, a stronger case will
emerge for lower credit card interchange fees in Australia.
There is one aspect of the interchange regulations where the Board is considering a change as
part of the review - that is the cap on the fees that can be applied to any particular category
within a scheme's schedule of debit card interchange fees. Currently a 20 basis point cap
applies when a fee is expressed in percentage terms and a cap of 15 cents applies when the fee
is expressed in terms of cents. The Board sees a case to lower this 15 cents cap.
This case has emerged as there has been an increasing tendency for interchange fees on
transactions to be set at the 15 cents cap, particularly on transactions that are less at risk of
being routed to another scheme. At the same time, the international schemes are setting much
lower strategic rates for some merchants, particularly larger ones, in response to least-cost
routing. This is resulting in large differences in interchange fees being paid on similar
transactions, with unreasonably high interchange fees on some low-value transactions,
especially at smaller merchants. For example, a 15 cent interchange fee on a $5 transaction is
equivalent to an interchange rate of 300 basis points, which is far higher than would apply to that
transaction if a credit card had been used. Over the coming months, Bank staff will be seeking
further information from the industry on this issue as the Board considers a lower cap.
Dual-network debit cards and least-cost routing
The second issue is dual-network debit cards and least-cost routing.
The Board has long held the position that merchants should have the freedom and the capability
to route debit card transactions through the lower-cost network. The Government and a wide
range of stakeholders have a similar view. It is understandable why: this choice promotes
competition and helps keep downward pressure on the cost of goods and services for
consumers.
Over recent years, the Board has discussed the right balance between regulation and suasion to
achieve this outcome. Its judgement has been that the best approach was for the industry itself
to support least-cost routing, pushed along by pressure from the RBA. While progress has been
slower than we would have liked, the slow progress by the major banks did create competitive
openings for other players, which led to some innovation. The major banks now also all offer
least-cost routing, with some making it the default offering for small and medium-sized
businesses. So there has been significant progress. The Board is not convinced that a better
outcome would have been achieved through regulation.
The concept of least-cost routing is most applicable when a physical card is used and where that
card has two networks on it. One recent trend that we have observed is that some issuers have
sought to move away from dual-network debit cards to issue single-network cards, with no
eftpos functionality. This may be partly in response to financial incentives from the international
schemes and possibly the additional costs to issuers from supporting two networks on a card.
Notwithstanding this trend, the Board's view is that it is in the public interest for dual-network
cards to continue and to be the main form of debit card issued in Australia. It is also important
that acquirers and other payment providers offer or support least-cost routing and that the
schemes do not act in a way that inappropriately discourages merchants from adopting
leastcost routing.
The Board is again considering the best balance between regulation and suasion to achieve
these outcomes. Consistent with its earlier approach, its preference is for the industry to deliver
these outcomes without regulation. To help achieve this, the Board is considering setting out
some formal expectations in this area. If these expectations are not met, the Board would then
consider regulation.
To be clear, the Board sees a strong case for all larger issuers of debit cards to issue cards with
two networks on them. At the same time, it recognises that there can be additional costs of
supporting two networks, which can make it harder for new entrants and small institutions to be
competitive. So it may not be appropriate to expect very small issuers to issue such cards. Over
the months ahead, the Bank will be consulting with small authorised deposit-taking institutions
and the schemes to get a clearer picture of the costs and their implications for determining any
regulatory expectations.
The Board also expects that in the point-of-sale or 'device-present' environment all acquirers
should provide merchants with the ability to implement least-cost routing for contactless
transactions, possibly on an 'opt-out' basis.
In the online or 'device-not-present' environment, it is not yet clear how least-cost routing should
operate and what expectations on its provision might be appropriate. In this environment, there is
scope for consumers to make more active choices, there are various technical challenges to
least-cost routing and there can be more providers in the payments chain. So the idea of how
least-cost routing might apply in the online world will be explored by the Bank's staff over coming
months.
Buy now, pay later no-surcharge rules
The third issue that I'd like to cover is the no-surcharge rules of buy now, pay later providers.
The Board's long standing view is that the right of merchants to apply a surcharge promotes
payments system competition and keeps downward pressure on payments costs for
businesses. This is especially so when merchants consider that it is near essential to take a
particular payment method for them to be competitive.
The Board also recognises that it is possible that no-surcharge rules can play a role in the
development of new payment methods. While new payment methods can be developed without
them, these rules can, under some circumstances, make it easier to build up a network and
thereby promote innovation and entry.
The Board's preliminary view is that the BNPL operators in Australia have not yet reached the
point where it is clear that the costs arising from the no-surcharge rule outweigh the potential
benefits in terms of innovation. So consistent with its philosophy of only regulating when it is clear
that doing so is in the public interest, the Board is unlikely to conclude that the BNPL operators
should be required to remove their no-surcharge rules right now.
Even the largest BNPL providers still account for a small proportion of total consumer payments
in Australia, notwithstanding their rapid growth. New business models are also emerging,
including some that facilitate payments using virtual cards issued under the designated card
schemes that are subject to the existing surcharging framework. In addition, the increasing array
of BNPL providers is resulting in competitive pressure that could put downward pressure on
merchant costs.
The Board expects that over time a public policy case is likely to emerge for the removal of the
no-surcharge rules in at least some BNPL arrangements. Some of the BNPL operators are
growing rapidly and becoming widely adopted by merchants, particularly in certain sectors. As
part of the Bank's ongoing consideration of this issue, Bank staff will be discussing with industry
participants possible criteria or thresholds for determining when no-surcharge rules should no
longer be allowed.
If the point is reached where the Board's view is that the public interest would be served by the
removal of a no-surcharge rule, the Board's preference would be to reach a voluntary agreement
with the relevant provider. This would be similar to the approach adopted with American Express
and PayPal. In the event that this were not possible, the Bank would discuss with the Australian
Government the best way to address the issue. More broadly, as I discussed above, the current
Treasury review of the regulatory architecture provides an opportunity to look holistically at this
issue and whether the existing legislation and regulatory provisions could be amended to better
reflect our modern and dynamic payments ecosystems.
Conclusion
So that is a quick review of some of the issues that the Payments System Board and the RBA
staff have been focusing on recently. It is clear that payments is an increasingly exciting area and
that significant innovation is occurring. This presents opportunities to deliver improved services
to end users of the payments system as well as raising new questions for policymakers. The
Bank very much appreciates the ongoing engagement we have with the industry as we jointly
work towards better outcomes for the Australian community.
Thank you.