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The payments ecosystem is made up of various participants interrelating throughout the process of a payment transaction. This myriad of parties can be financial institutions, messaging and payment gateways, and third-party service and application providers, each playing unique and specific roles in a payment processing workflow and lifecycle.
New transaction banking initiatives are changing traditional payment processing paradigms. Innovative methods of payment and receipt, new currencies, and payment formats are altering payment, compliance, and liquidity management policies, practices, and procedures.
These new initiatives impact banks of all sizes, from the largest global banks to the smallest local credit union.
In order to keep pace, these banks’ payment ecosystem faces certain challenges and the need for change.
ISO 20022’s role in payments
The global adoption of ISO 20022 is changing the language of payments, and, therefore, the way payment messages are sent, received, and mapped.
This common standard enables more interoperability between the network participants dealing with cross-border and domestic payments and workflows. There can be as many as 200 internal bank systems affected by ISO 20022.
The new SWIFT MX message types can contain up to seven times the number of characters of the former MT message.
This new messaging standard incorporates more structured, robust, and comprehensive data. These innovative elements enhance speed and efficiency, improving cash recognition and account reconciliations.
The new SWIFT MX messages introduce a new field and party names, requiring the retraining of many payments, customer service, and compliance personnel.
A bank’s back office system(s) and applications were not designed to support ISO 20022–– in some cases, even the ISO formats can be different––rather, they use a number of legacy systems and applications. All of these will have to be updated to support ISO 20022.
The recently announced delay in the global rollout of ISO 20022 until March of 2023 by SWIFT and most of the in-country payment market infrastructures only shortens the implementation gap. In countries like the United States, this is still an issue as The Clearing House will implement ISO 20022 on their CHIPS system later in 2023, and The Federal Reserve will not implement ISO 20022 on Fedwire until sometime in 2025.
In the United States, this requires a prolonged period of coexistence support for both the former SWIFT standard and the new ISO 20022 MX standard. This period will last for at least two years, whereby banks will have to support existing MT standards and the new MX standards and be able to map messages between them.
This will require considerable due diligence to ensure that data being truncated because of the larger MX formats can be properly translated and mapped, accurately accounting for any data trimming.
The proliferation of real-time payments means that the traditional batch-based processes are no longer adequate to meet the immediate payments processing time mandates.
Real-time payments can be initiated and received 24/7, 365 days a year. This means that financial institutions need to provide access to the rails that can offer instant payments all year round, and their internal systems and applications must be available to process these payments.
The need for continuously available payment processing requires a rethinking of end-of-day cycles and introduces the need for stand-in processing for the times when host applications are down for end-of-day cycles or unavailable due to system outages or maintenance.
Liquidity must be managed 24 hours a day to ensure the availability of funds for both customers and the bank’s real-time payments, alongside clearing and settlement systems.
Additional real-time payment services are being implemented, such as Request to Pay/Request for Payment, and this will change the way payment requests are received, validated, and authorised.
CBDCs and cross-border payments
The number of Central Banks exploring Central Bank Digital Currencies (CBDCs) continues to grow. According to the Atlantic Council, there are 112 countries representing over 95 percent of the global gross domestic product (GDP) exploring a CBDC.
CBDCs have the potential to streamline and simplify existing cross-border payment channels.
Today, cross-border payments use a correspondent banking model. unds move through a series of banks based upon established relationships of the parties in payment and the payment’s final destination.
A payment made using a CBDC could be sent directly to another bank using a distributed ledger, negating the need to go through a correspondent bank network.
This reduction in parties a payment passes through could result in lower costs and a reduction in the overall timing of an end-to-end payment.
CBDCs have the potential to reduce the current high fee and foreign exchange (FX) charges and improve the tracking of a payment.
This reduction in the number of parties a payment passes through could result in lower payment costs and a reduction in the time it takes to complete an end-to-end payment.
Using a CBDC model for cross-border transactions could impact current banking relationships and related revenues. Payment method selection, alongside liquidity management policies and practices, could also be affected.
Open banking and APIs
Open banking allows customers to control their own financial data. Using application program interfaces (APIs), customers can now permit authorised third-party organisations to access their data at their respective financial institutions.
Using APIs, banks can authorise third-party access to financial information needed to develop new applications and services. This will also provide account holders with greater financial transparency options.
This new approach is changing the way banks and their customers interact with one another, allowing the customer to have ownership rights and privileges over their transaction data instead of their banks.
Ultimately, this requires changes to the bank’s core systems by allowing authorised third-party access to previously walled-off applications.
How AI is changing the banking ecosystem
The use of data and artificial intelligence (AI) is impacting every component of the banking ecosystem.
Banks and credit unions are rethinking how to integrate information, analyse data and use data insights to improve decision-making.
While there are benefits such as reduced costs and enhanced customer experiences, the challenges of disparate and siloed data and formats must be overcome. New access methods and metrics must be created.
The future of payments
A financial institution’s payment ecosystem has evolved over many years. There is a need to continuously adapt and change for new technologies, new industry initiatives, mandates, and regulatory and compliance directives. The pace of these changes has only accelerated and will continue to do so.
This requires a constant review by all internal and external stakeholders responsible for ensuring a smooth and efficient payments workflow, as well as an assessment of the impacts on the entire payments ecosystem.