More Card Payment Options are yet to come

A Little Bit of Money

Thought Experiments on Cross-Border Payments - Of Couriers, Bankers, and Bitcoiners

Series 24: More Card Payment Options are yet to come

Intentional Delays by Banks are a Myth

Contrary to popular belief, intentional delays that allow banks to benefit from interest on funds which have been held back are not common in the financial industry. In fact, delays are determined by the system. Legacy payment systems split clearing and settlement into two different operations. This process is time-consuming and costly. It’s the nature of the beast. Clearing and settlement times are determined and agreed upon through bilateral agreements between correspondent banks.

Bitcoin Disrupts the Traditional Clearing & Settlement Mechanism

Card networks operate on the rails of established relationships among banks. Participating banks use the double-entry accounting system to keep track of credits and debits, just like the Medici Family did when they first conceived the practicality of correspondent banking. The processing of payments through cryptocurrency is quite different compared to the traditional clearing and settlement mechanism. Bitcoin technology carries out clearing and settlement in one operation - and amazingly, in real time. This process is smart and highly advantageous in a pure cryptocurrency ecosystem, but can potentially disturb old systems incrementally.

Digital Cash is Striving to Make Card Networks Truly Instant

Cryptocurrency payments are processed on a transaction-to-transaction basis without payment clearing advice; there are two steps in one go, as the clearing of the funds is followed by the settlement automatically and instantly, without the need of correspondent banks. This simplified clearing and settlement mechanism works because the blockchain acts as the middleman. It represents trust in digital form, eliminating any and all counterparty risk.

Stablecoins surpassing the Dollar

Bitcoin technology bridges the gap through so-called stablecoins, meaning cryptocurrency pegged to stable assets, such as gold or fiat currencies. Legal tender can be converted and stored in the form of digital cash whenever needed, thereby fixing the missing link and supporting banks in the acceleration of their settlement processes. Admittedly, these options have not yet arrived, even though companies like Ripple and R3 are working on such solutions. Not to mention Tether, which harbors dollars crypto-style, and by doing so, USDT supports crypto traders all over the globe, as they have a hard time maintaining bank accounts for US Dollars.

Instant Clearing, but Slow-Motion Settlement

Card processing occurs behind the scenes. Credit card schemes maintain formal technical standards, timescales for reimbursements, rules outlining what happens if something goes wrong, and so on. Payments are cleared instantly over the network, but the underlying settlements among banks take place using the old-fashioned batching method, including the usual delays. Consumers may sense this since their card payments are immediately visible on their statements, but the funds are not deducted from their account balances until a few days later, or even once per month.

Insufficiencies Due to Clearing and Settlement Delays

On the other end of the line, merchants feel this system in their own pockets. Settlement payments are held back for 10 to 30 days, making it difficult (especially for smaller merchants) to maintain a healthy cash flow. The final settlement process is done through the mechanism of correspondent banking relations maintained with the card scheme, which acts as a clearinghouse. Holdbacks and snail-payments via correspondent banks are the reason for the delay in merchant settlements. Nevertheless, card networks riding on the age-old transfer systems were an epic innovation in the 1950s. Hard to beat, but why try to beat them? Let’s collaborate.

To be continued. Further Reading:

J. Bonneau et al. “Research Perspectives and Challenges for Bitcoin and Cryptocurrencies.” In 2015 IEEE Symposium on Security and Privacy, 2015.    

J. Wonglimpiyarat. “Bitcoin: The Revolution of the Payment System.” In Journal of Payments Strategy & Systems, no. (11) (Winter 2015-16), pages 230-240, 2015.

Oliver Bussmann. "Banks will not adopt blockchain fast." In The Financial Times, October 14th 2016.

W. Wang and P. Li. “IC card-based bitcoin payment design and implement.” Research paper, 2015.


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