What is Open Banking?
Open Banking is a new regulatory standard implemented under the EU Payment Services Directive (PSD2) through which bank accounts, more broadly, the financial service ecosystem, is interconnected via a common API mechanism. These regulations allow for authorised third-party access to bank accounts for account information (AIS) and payment initiation (PIS) services.
This fundamental change in the regulatory landscape has created the opportunity for a new paradigm payments channel. Critically, this is not a privately-owned or “alternative” payment mechanism, but a government-initiated legislation and regulation mandated by EU law.
Open Banking legislation changes the payments landscape in Europe and opens the market to those innovative companies able to develop technology solutions compliant with the new legislative requirements. Open Banking payments bypass traditional cards channels and direct funds in real time from consumer bank account to merchant bank account without intervention, avoiding fraud and significantly reducing costs.
What is the Open Banking payment experience?
At first time, the experience looks familiar, like PayPal, for instance, except the user is directed to their own bank to authorise the payment, rather than to a PayPal e-wallet – and there is no need to pre-register.
Consumer acceptance of payments mechanisms is driven by convenience and ease of use. A standard called “decoupled authorisation” in the Open Banking technical specification simplifies the user experience:
User selects “Pay by Open Banking” at the checkout
User enters username or email address
User mobile bank app prompts for authorisation
Payment completed.
The benefit lies in time and convenience. We believe the impact of this “smart payments” mechanism will drive end user adoption. Recurring payments (for subscription services, for example) are also a feature of Open Banking payments. The consent token issued is multi-use and there is no need for the payment user to authorise each payment. The user selects the amount, frequency, and term for the recurring payment order, and the consent process is identical to that above.
Merchants incur high fees and typically wait three days for settlement across card channels. Open Banking offers a low-cost alternative and real-time settlement. Open Banking payments are also inherently more secure than card transactions – so card fraud is eliminated, with no card information transmitted or exposed.
The industry anticipates a gradual uptake of Open Banking payment methods in the short term, while the concept is socialised. Merchants will be strongly incentivised to promote Open Banking channels to customers in order to capture the significant cost savings available.
Is the Open Banking market a competitive one? What is the nature of the companies servicing Open Banking?
The Open Banking market is multi-faceted and not all participants are directly competitive. As we see it, the market is comprised of disparate channels and opportunities.
Activity falls into three broad categories:
Compliance: the provision of technology and IP to support banks and other financial institutions in becoming PSD2 compliant;
Infrastructure: the provision of a connectivity and communication layer aggregating a network of banks through a single API;
Service Provision: the provision of services to merchants, PSPs and others looking to adopt opportunities arising from PSD2.
Where payments are concerned, market incumbents have a cost problem. They must protect current revenue streams and profit margins. Open Banking payment initiation costs are low, against typical current costs between 1% and 3% of transaction value.
What will be the impact of Strong Customer Authentication?
Strong Customer Authentication (SCA) will add a layer of complexity to card transactions, as a response to the card fraud epidemic. Consumers previously have been required to provide only their card information, whereas under new SCA requirements they will be additionally subject to a form of two-factor authentication. When the SCA process is invoked, consumers will be redirected to their bank for a second layer of authentication before any card transaction can proceed. The payment process under this model is similar to that of Open Banking, the difference is that for card payments, users will enter card information before being redirected to their bank to authenticate, whereas for Open Banking, card information is not required. Consumers will become accustomed to a two-stage referral process, however the “pay by Open Banking” process will be simpler and less onerous. The bank direct mechanism is also real-time and more secure. Banks will have some discretion in the way they apply SCA (exemptions for certain transactions) and the precise application of SCA requirements, and thus the impact that they will have on the user experience is not yet clear. Regulators have recently extended the deadline for SCA compliance. The educational effort associated with the roll out of SCA and the resultant change in payment experience in cards, will impact consumer perceptions and we anticipate reduced resistance to uptake of Open Banking payment methods.
What is the forward outlook for Open Banking?
The disintermediation of payments channels should not be a surprise. In this instance, the new paradigm is driven primarily by regulators looking to increase competition, drive consumer choice and protection. Existing card payment processes became popular in the 1970s, but now they are inflexible and expensive. Considering this, Open Banking is a logical next step. In China, a vast population have already bypassed the banking model completely, and an Open Banking-like environment is universal. Financial regulators around the world are in process of implementing Open Banking models and it is broadly expected the concept will be adopted globally in the medium term.
The interview was first published in the Open Banking Report 2019, which offers insightful editorials, interviews and expert analyses that paint an exhaustive picture of the Open Banking regulatory shifts and the important extents in which this impact the industry.
About Tom Greenwood
Tom Greenwood is founder and CEO of VOLT Open Banking. He is a successful fintech entrepreneur and a subject matter expert on PSD2 Open Banking. Prior to the VOLT project, he was a co-founder (2005) and Chief Operating Officer of IFX Payments a USD 3 bln turnover foreign exchange and payments business.
About VOLT Open Banking
VOLT is a next generation digital money platform that manages bank direct payments in a secure environment, mitigating card fraud. This innovative solution displaces incumbent payment participants through deployment of state of the art technology; and is enabled by recent Open Banking (PSD2) regulatory initiatives in Europe
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