For the introductory Part 1 of this article, please click here.
Gateways to the rescue!
If you ask who's been the most innovative company of the last 5 years in the payments space, many will answer with Stripe. As a payment gateway, Stripe has essentially improved upon what PayPal started 15 years ago - making it easier for businesses to accept payments on the internet. They do this by handling most of the regulatory and operational burdens and becoming a "completely integrated stack of tools to facilitate all of commerce on the internet". Although definitely a leader, their business economics are no secret and are offered by many competitors, including Braintree (owned by PayPal) and more recently by Square. As the new generation of payment gateways, these and other similar companies have shown that through smart software, transactions can be made much more efficient even on top of the existing antiquated rails - to the effect that half of all U.S. internet users have made a payment through a merchant using Stripe, a company that didn't exist 6 years ago. This shows that as an "over-the-top" platform, payment gateways are well positioned to resolve a lot of the issues faced by global commerce.
How can then the Stripes of the world help a designer in Singapore selling a Wordpress template on a U.S. website, or an Uber driver in Istanbul receive their proceeds the same day, rather than in 7 days? First, let's take a look at the current picture.
At a very high level, we can observe that payments made by U.S. based gateways to merchants overseas take much longer. This is only natural due to the complexity brought on by all the different currencies, banking relations and payment systems involved. What's important to highlight is the pain point this causes to merchants outside of the U.S. Liquidity of funds for non-U.S. merchants is significantly more restricted than it is for their U.S. counterparts.
This is prohibitive of a flat world of value. Imagine the web designer in Singapore who's sold $100 worth of digital goods, who now has to wait a full week before she receives her payment. This may cause her to delay the purchase of a software tool she could use to make better use of her skills. Or the Uber driver who has to delay and face interest on the lease payment for his car. It's not like the payment gateways are making money off of this either. Value lost...
How then can we come up with practical solutions to this problem? Stripe is considered the new leader in the payments space not without a reason - they're coming up with ideas to help their merchants:
- Instant Payouts for Marketplaces: For an additional 1.5% fee, marketplaces can make instant (delivered in 30 minutes) payouts to U.S. sellers on their platforms by depositing the payment to their debit cards. U.S. only for now, I hope that it's only a matter of time before this becomes available to merchants in all countries Stripe is available in.
- Atlas - Start a U.S. Business from anywhere: Although Atlas opens many other doors to non-U.S. businesses, timely payments is one of the issues it can help resolve. By becoming a U.S. registered business through Atlas, a merchant in Singapore can start receiving deposits in 2 days or instant payouts in the near future (which is only for marketplaces for now). Not a perfect solution (as you may still need to transfer that money from your U.S. bank account to Singapore), but still a great alternative given the state of the payments rails we operate on.
These are admirable product features that Stripe has no doubt put together with a huge amount of research and insight. I'd like to exercise ideas for how else gateways can solve the issue of global liquidity and timely cross border payments.
Deals, huge deals
Correspondent banking is slow and expensive because one has to take into account the thousands of small and regional banks that money might need to be sent to. If the world consisted of one credible bank per country, all of which were able to ensure sufficient liquidity of funds and efficient settlements - well then we probably wouldn't be talking about this problem at all.
So why not make your own world smaller? Gateways already work with at least one local bank in each country they operate in to take care of their own business matters and perhaps process payments made by local accounts (e.g. credit cards issued by local banks). What if, at the cost of having higher operating expenses, they were to have an exclusive relationship with one bank in each country and create a settlement network out of them. This network would:
a) Forego banking fees for merchants that need to open a merchant account with these banks.
b) Guarantee that member banks (would have to be large, credible banks) settle cross-border transactions with each other in max 2 days.
Costly for the gateway? Perhaps. But the benefits of having many more businesses either prefer this gateway over other alternatives or better yet, start conducting business with international buyers from scratch, will far outweigh the costs. Marginal improvements at scale for problems that matter go a long way - for merchants and hence the global economy.
One giant leap: leveraging distributed ledgers
It's no secret why the finance world continues to get more and more intimate with Blockchain - the operational benefits of a robust distributed ledger platform can be life changing. Gateways can benefit from this as well.
First step would be to make use of what's immediately available - Bitcoin. There already are startups such as Align Commerce and Circle that are using Bitcoin behind the scenes to enable faster cross-border transfers. This is possible, not because businesses have suddenly gotten smart, but more so because the volatility of bitcoin continues to decrease and is at historic lows.
It's not hard for gateways to immediately start experimenting with BTC transfers triggered for a sample set of transactions. Most of them already accept bitcoin payments. One issue that this method will eventually face is scale. Bitcoin is facing scalability issues where transactions are going through the network slower (although still much faster than correspondent banking). Although this will eventually be resolved, a large gateway may not be able to adopt this as a solution to the entirety of its cross-border payments right now.
We went over two potential solutions: an exclusive network of correspondent banks and Bitcoin as a behind the scenes mechanism. Both however, are stop-gap solutions. As highlighted in the McKinsey Payments Report, the rails on top of which global commerce is built is in need of a major overhaul. Although there are different attempts at doing this, ranging from efforts by SWIFT to improvements in the cross operability of national real-time gross settlement systems (RTGS), many leading proponents converge to a distributed ledger solution, such as Blockchain.
Once banks start operating on a modernized infrastructure and bring down their costs, gateways will be able to support a truly flat world of value with minimal effort. What's important here is that this will be at scale from the get go and cross-compatible between different payment methods and stacks. This not a very distant future either, as the direction pointed by McKinsey in terms of the cost structure of transactions can already be supported by the likes of Ripple. There aren't a whole lot of fundamental differences in these two cost breakdowns, and that's no coincidence:
Flattening the world, one payment at a time
Our world can't become flat on free flow of information alone. We
deserve need cheap and fast access to value. Existing payments rails are inefficient at supporting this. McKinsey's payments report highlights how banks and payment originators should evolve to adapt consumer needs. However the loop isn't complete until funds reach the seller. Solutions need to be developed fast to make sure the loop is complete at scale across the world. Payment gateways are uniquely positioned in that they can implement smart hacks that help merchants have faster access to their funds. Until the rails of international banking get modernized and the whole system supports a flat world of value, the Stripes and Squares of the world can unlock a lot of value for merchants, customers and themselves.