Cash Displacement-The Final Threshold

1Cash Displacement: The Final Threshold

Cash Displacement: The Final ThresholdCooperative competition among telcos, financial institutions, and payment systems has yet to produce a satisfactory replacement for cash, even in highly developed markets. Perhaps government regulation is the missing catalyst.


Almost 65 years after the introduction of the first general-purpose credit card, most transactions today are still of the cold, hard variety. Cash is king, and its reign continues despite the hidden costs—as much as 1 percent of gross domestic product (GDP) in a mature economy, according to some experts. Moreover, lurking beneath the real economy is an underlying shadow economy that relies largely on cash to remain untraceable and untaxed.1 And there are entire industries—automatic teller machine (ATM) manufacturers, armored transportation providers, and armed security guards, to name a few—that are devoted to the movement and management of cash.

In middle-income countries, where the share of rural population tends to be higher and point-of-sale (POS) terminal penetration lower, noncash payments still haven’t gained much traction.2 Cash has an even stronger hold in lower-middle-income and low-income countries, where much of the population is beyond the reach of the banking system. In fact, more than 80 percent of transactions in the low- and middle-income countries we analyzed are conducted in cash. Still, alternatives are emerging—such as the mobile phone-based M-PESA money transfer service run by Kenya’s Safaricom and G-Cash, a similar service operated by Globe in the Philippines—primarily because storing and transporting cash can be expensive and risky.

Despite advances, technology has still not created the perfect substitute for cash.Not surprisingly, the situation is radically different in high-income countries, where broad financial inclusion, sophisticated banking systems, stable regulatory environments, and heavily urban populations are the norm. Yet even in these countries, cash continues to change hands in 30 to 50 percent of all transactions, and the rate is much higher in outliers such as Japan and Italy.

If history is any guide, we can expect to see an explosion of noncash transactions in low- and middle-income countries, accompanied by a much smaller increase in high-income countries where growth has plateaued (see figure 1 on page 3)—despite the proliferation of mobile services and technologies, including smartphones enabled for near-field communication (NFC), which will reduce the need to deploy expensive POS terminals. Indeed, evidence would seem to indicate that there may be a ceiling to cash displacement and that a completely cashless society will either come about at a glacial pace or remain “mission impossible.”

The Trouble with Noncash PaymentsSignificant advances have been made in the area of noncash payments over the past decade. For example, credit and debit card fraud has been reduced by the introduction of the EMV system, which requires the user to insert a chip-enabled card into a terminal and then enter a personal identification number (PIN). Moreover, e-commerce has made it easier for merchants to support value-added services such as coupons, financing, and return handling. At the same time, the cost of bulk electronic payments has fallen significantly. In some cases, such as direct payroll deposits or business-to-business transactions, automated clearing house (ACH) payments can be extremely efficient, costing less than $0.01 apiece.

1 See, for example, Visa Europe, Friedrich Schneider, and A.T. Kearney, “The Shadow Economy in Europe, 2013” at www.atkearney.com.2 In this paper, our definition of noncash payments explicitly excludes barter transactions.

http://www.atkearney.com/financial-institutions/featured-article/-/asset_publisher/j8IucAqMqEhB/content/the-shadow-economy-in-europe-2013/10192


Still, despite decades of experimentation, technology has yet to create the perfect substitute for cash in all use cases, because cash is (see figure 2 on page 4):

• Simple: Consumers just have to take it from their wallet and hand it over, with no need to enter a PIN, write a signature, or arrange for a wire transfer.

• Reliable: Card readers and ATMs can fail, or a POS connection can be slow or break down at a crucial moment.

• Safe: Only the cash on your person can be lost, whereas electronic identities and card numbers can be stolen and used to perpetrate fraud.

• Private: Cash can be difficult to trace—unlike e-payments, where every transaction is recorded by date, time, location, and merchant category code.

• Free: Cash usage appears to be free for consumers and merchants, who tend not to account for the time it takes to withdraw and deposit cash—whereas e-payments can carry an explicit cost of acceptance or transaction. Even new players offering smartphone-based acceptance solutions, such as Square and iZettle, impose relatively high transaction charges.

• Universally accepted: Cash is guaranteed by a central bank and can be used anywhere and anytime; interoperability is never a problem. In contrast, many small merchants don’t accept credit or debit cards or only accept specific ones.

00 5,000 10,000 15,000 20,000 40,000 45,000 50,000 55,000 60,000 65,000

10

20

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40

50

70

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80

90

100Indonesia

ThailandRussia

China

South Africa

Philippines

India

Mexico

Malaysia

Taiwan

Italy Japan

Netherlands

Australia

Sweden

Singapore

Germany

BrazilSouthKorea

United Kingdom

United States Canada

France

Noncash penetration vs. GDP per capita vs. expected growth(2012)Cash transactions, as a % of total transactions

GDP per capita ($)

Noncash paymentgrowth forecast(CAGR, 2012–17e)

14%

11%

6%

Sources: World Bank, Global Financial Inclusion Database; Bank for International Settlements, Committee on Payment and Settlement Systems, Statistics on Payment, Clearing and Settlement Systems in the CPSS Countries (“Red Book”); European Central Bank; central bank websites; Euromonitor; A.T. Kearney analysis

Figure 1 Noncash payment growth rates will be slower in high-income countries, where penetration is greater

Bubble area is proportional to the number of electronic transactions per capita.

100 electronictransactions per capita


On the dimensions of simplicity, reliability, safety, and privacy, cashless options are likely to become more competitive with cash over the next five years. E-payments will be made simpler by NFC-enabled smartphones with mobile wallets that can be used just as easily as cash. The mobile wallet from your bank or mobile operator will store multiple cards, and many of these payments will be performed with a wave of your mobile or a gesture with a wearable device, such as Google Glass or a smart watch.

Moreover, point-of-sale systems will have less downtime, and Internet connections will improve in speed and reliability. E-payments will also become safer, with new technologies, such as encryption and biometrics, used to prevent fraud. They will be more private, too, as new technology provides privacy options and laws catch up.

The issues of cost and universal acceptance, however, will be more difficult to overcome.

• Cost-wise, cash has a natural head start over e-payments by its very conception. The initial costs of producing and storing coins and notes are borne by a country’s central bank and are an inherent price of a sovereign monetary system. In contrast, e-payment systems are typically developed and funded by private companies, such as issuing banks, acquiring banks, payment networks, and technology providers—each of which seeks to maximize the return to its shareholders.

• In terms of universal acceptance, the e-payment marketplace is a fiercely contested battle-ground, where players are reticent to cooperate across industries. Banks, which typically move slowly, feel threatened by more agile players touting new e-payment mechanisms. Similarly, global payment networks such as Visa, MasterCard, and American Express are eager to protect their dominance in each country. Telcos are looking to use their networks and retail outlets to move into the payments space, but can find the economics of this market challenging, as the margins are much lower than they are accustomed to. Alternative

Note: PIN is personal identification number; NFC is near-field communication; POS is point of sale; IIN is issuer identification number; MDR is merchant discount rate.

Source: A.T. Kearney analysis

Figure 2Five years from now, cashless solutions will still not be free or universally accepted

Cash

Simple As easy as taking it outof your wallet

Need to sign or entera PIN

Swiping your mobileon an NFC reader

Cashless today Cashless in five years

Reliable Always works Card doesn’t read;POS connection is slow

Improved systems uptimeand connection reliability

Safe You can only lose what’sin your wallet

Identify theft, IINnumber attacks

New technology, such asencryption and biometrics

Private Di�icult to trace,shadow economy

Every transaction is recorded

New privacy laws; newtechnology enables privacyoptions

Free No cost to take moneyout of your wallet

Universallyaccepted

Accepted everywhereand anytime

MDR charged to merchants; surcharge often added

Not accepted universally (for example, at small merchantsor members of di�erent payment systems)


The Limits of Co-opetition

In co-opetition, industry players such as banks and telcos form a coalition to share costs, defend revenues against rivals, and provide benefits for customers and the wider economy. In Singapore, NETS, the dominant debit and EFTPOS scheme, is owned by major banks DBS, OCBC, and United Overseas Bank.3

Far-sighted and strategic industry collaboration of this kind,

however, can be derailed by the need for private companies to deliver shareholder returns in the short term, which may fundamen-tally go against a collaborative model and lead to competing payment ecosystems (see figure). And, in fact, the noncash payment landscape in Singapore is highly fragmented. For example, you can pay for groceries with a NETS debit card. You can recharge your contactless EZ-Link card to travel

by toll road to work in the morning and use the same card to make small payments to merchants displaying the EZ-Link logo. You can also use a bank-issued Visa credit card with payWave (or MasterCard with PayPass) to pay for your coffee and shop online, and you can pay bills through Internet banking or mobile banking.

providers, such as Google, PayPal, and Facebook, are challenging existing business models in an attempt to capture valuable customer insights and transactional data.

Sometimes, however, players do team up, and the result of this cooperative competition— or “co-opetition,” to use a neologism—is usually a disorderly array of overlapping and often incompatible e-payment ecosystems (see sidebar: The Limits of Co-opetition).

Note: NFC is near-field communication; OEM is original equipment manufacturer; POS is point of sale.

Source: A.T. Kearney analysis

FigureCompeting payment ecosystems make noncash adoption more di icult

Financial subsystem

Issuing banksHSBC Bank of America

Acquiring banksCitibank

Paymentinstrumentstandards

GSM Association EMVCo

Datasecurity

standards

Certificationand testingstandards

Anti-moneylaundering

PCI SecurityStandards Council

Adoptionincentives

ConsumerFinancial Protection

Bureau

J.P. Morgan

CardassociationsVisaAmericanExpressMasterCard

Third-partyprocessors oracquirersGlobal PaymentsEverlinkSquare

Retailsubsystem

Onlinesubsystem

Mobile subsystem

Regulatory bodies andindustry associations

Scanning modules andhardware providersVeriFone ROAM Data

Mobile carriersAT&TVerizon

Mobile solutions and application vendorsBokuZoosh

NFC chipmakersNXPBroadcom

POS terminalmanu-facturersToshibaID TECH

Merchantswith in-housecardsTargetSears

Closed-loopnetworkFacebookPayPal

E-walletsGoogleV.me by Visa

Handset OEMsAppleSamsung

3 EFTPOS stands for electronic funds transfer at point of sale.


In sum, interoperability and universal acceptance continue to be a pipe dream. Consumers now and in the foreseeable future will need to go out of their way to be entirely cashless, and even then it may not be possible. They will need to sign up with multiple mobile wallets from banks, wireless operators, and retailers, managing the account balances across each mobile wallet. To avoid using cash, they may sometimes even have to pay a surcharge to use a credit card or avoid small merchants who don’t accept cards due to the high merchant discount rate (MDR).

Crossing the Final ThresholdCash won’t be displaced on a large scale until today’s closed-loop systems, where multiple players seek to collect rent for the infrastructure they have built, are replaced by a zero-fee, open-standard ecosystem that allows consumers to use any device—mobile phone, car keys, access card, or transit card—in any scenario.

One example of a successful zero-fee, open ecosystem model is Wikipedia, with over 10 million articles in 200 languages. Wikipedia, despite its growing pains, is unlikely to be displaced any time soon, as there is no compelling reason to create an online rival. In the smartphone market, the Android mobile operating system has overtaken Apple iOS primarily because any device manufacturer can use Android. On the Internet, the free-to-user model has been one of the cornerstones of the success of Facebook and Google, which have funded their core services through alternate revenue streams coming from advertising, content, and add-on services.

Large-scale cash displacement requires a zero-fee, open-standard ecosystem that comprises any device in any scenario.If, as we have seen, laissez-faire co-opetition has proved unable so far to produce a satisfactory solution, what other alternatives are available to catalyze a zero-fee, open ecosystem in noncash payments?

We believe that government regulation will be required to break down the barriers. Under this scenario, governments and central banks would acknowledge the cost of cash to the economy and seek to actively reap the benefits of a cashless society. As a result, they would lead an aggressive drive by investing directly and heavily in building national payments infrastructure and platforms (or by mandating others to do so), defining standards to ensure harmonization and interoperability, and applying incentives and penalties for compliance and non-compliance. Some countries already offer glimpses into this scenario. One example is the South Korean government’s aggressive approach to encourage noncash payments by, for instance, allowing consumers to file complaints against merchants who will not accept credit cards. In Australia, regulators have pushed the banking industry to innovate, resulting in both successful and unsuccessful industry initiatives such as BPAY, MAMBO, and, most recently, the move to real-time payments.

Another possibility is a provider-led play, in which an incumbent (for example, a bank or a telecom operator) or disruptive player becomes a dominant force in payments, either regionally or globally. Banks, telcos, PayPal, Google, Amazon, Apple, and Facebook are all experimenting with new models, but an entirely new player could also successfully disrupt this market.


Lessons for StakeholdersRegardless of how the transition plays out, achieving a cashless economy will require stakeholders to adopt a new mind-set, strategy, and business models. In this brave new world, e-payment players will need to learn to make money in different ways. When they do, however, consumer take-up will snowball and quickly reach critical mass, prompting more players to get on the bandwagon rather than rebuild an entirely new system to rival the existing one.

Governments and regulators have a critical mission to maintain financial stability in an increasingly electronic world: guarding against new security threats, regulating new entrants, and—as we have seen—forcefully ensuring interconnectivity across geographies and banking systems. Thus, we contend that government and regulators must play an activist role in displacing cash in any scenario, just as they did in setting up cash in the first place.

Global payment networks must adapt to a world where transactions will be free.Banks, as custodians of financial accounts, will always be an important part of the payments ecosystem. However, they should not be complacent. Banks need to be prepared to experiment and partner with other players to innovate within the limitations of banking regulation. The industry should invest to learn by experimenting with new solutions, partners, and business models (for example, charging consumers for impartial financial advice, rather than for payments in which they don’t add value). As cash is displaced, banks can eventually reduce costly infrastructure and related operations required to support coins and notes. And importantly, banks will also need to become more agile and nimble to operate in a largely digital world.

Telcos are well placed to drive e-payments penetration and usage, particularly if they work closely with banks. The industry should use its telecom networks and cloud-based IT systems to build convenient and easy-to-use platforms and terminals, while exploiting its extensive sales and dealer networks to build awareness and uptake in remote areas. Telcos should also experiment with innovative revenue models based on mobile advertising, loyalty programs, and data usage.

Global payment networks (such as Visa and MasterCard) must innovate and review their business models in a world where the transaction is free, while retaining key services such as fraud protection and guarantees for large payments. For example, payment networks could act as advisers to governments, work to prevent e-fraud globally, and offer customer information and insight services to industry players.

Alternative players such as Google, Facebook, and PayPal could change the game by rolling out compelling e-payment services (for example, mobile wallets or e-currencies) that are attractive to consumers and then work out how to make money later. However, they should bear in mind that a closed-loop system is likely to have less staying power and broad appeal than an open standard and will eventually be toppled.

Despite the challenges, we are convinced that all key stakeholders have a vested interest in reducing the use of cash. With a clear vision, strong regulation, and a heavy dose of creativity, a truly cashless future may not be as far away as you think.


Authors

Naveen Menon, partner, Singapore [email protected]

Joongshik Wang, partner, Singapore

Sridhar Narasimhan, principal, Singapore [email protected]

Henri Guedeney, partner, Singapore [email protected]

Khamphanh Kittikhoun, principal, Kuala Lumpur [email protected]

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Cash Displacement-The Final Threshold