Giant Killer: Open Banking vs. Cards
Prologue: This is part of my “Giant Killer” series exploring emerging FinTech verticals that could challenge incumbent oligopolies and flipping the status quo. Note that in FinTech, the path to success is usually by making “frenemies”, with a lot of room for collaboration and co-existence.
TL:DR
- Open Banking allows trusted third parties to retrieve your banking information and make payments on your behalf, giving steroids to plain bank transfers
- Open Banking payments is a potentially big market that could rival Visa and Mastercard revenues
- However, adoption is limited by “clunky” user experiences and user inertia from using cards, specifically, card rewards
- Overcoming these limitations could attract use cases other than B2B payments and slow-paced retail to use Open Banking payments
- Ultimately, it will not completely eliminate cards, but probably coexist as a viable alternative
Ever had an amazing Chinese dinner at this restaurant but their 12-year-old cashier says, “No Amex”? This is what Open Banking could potentially resolve! Open Banking enables bank account owners of participating banks to 1) share transactional information and 2) initiate payments (bank transfers) securely with trusted third parties. In Europe and the UK, regulators are driving this initiative through legislation (via the Payment Services Directive), which mandates banks to build, maintain and share its APIs to eligible third parties to use and process financial data. This has rapidly accelerated the innovation in retail banking, personal finance and similar verticals. There are thousands of possibilities for Open Banking, but disrupting payments could be its most attractive proposition yet, especially in regions where card payments dominate.
European Payments Are Dominated By Cards
5 out of 10 payments made in the EU are made using a prepaid, debit or credit card. The consistent growth of card payments in the EU has also led to a quick uptake of Point-Of-Sale (PoS) terminals for shops to accept in-person card payments. The popularity of card payments in the EU could have also been a major driver for Visa and Mastercard to keep interchange fees low, at 0.30% for debit cards compared to their US debit card interchange rates, which could be up to 1.65%. Card dominance should also be even more pronounced in the US, the birthplace of card payments!
Visa and Mastercard enjoyed decades of dominance in the EU and globally, raking in about 50bn USD worth of revenue in 2022 alone, based on their financials. The Open Banking market is predicted to exceed 120bn USD by 2030 by multiple industry research shops (Allied, GrandView, Polaris). If we assume that one out of three Open Banking uses are for payments, that brings the potential market size to 40bn USD by 2030, comparable to Visa and Mastercard’s current revenue!
Adoption Will Be The Biggest Barrier To Challenging Cards
There are two glaring weaknesses that bank transfers via Open Banking have, compared to card payments. Overcoming these weaknesses will be key to rapid adoption and dethroning of incumbent card networks.
User Experience (UX)
If you ever used Open Banking before, especially before 2020, you’d remember how “clunky” everything was!
Clicking on an Open Banking link (Step 1) leads to multiple clicks on your phone’s browser (Step 2 and 3) before opening up your mobile banking app (Step 4 and 5), where you’ll be prompted to enter your banking app password (Step 6 and 7) before redirecting you back to the browser (Step 8), which finally redirects you to the merchant’s app (Step 9). While this is a generic process flow, the steps in brackets can be visualised, and tried out on Sway’s UNHCR donation page. I’ve chanced upon Sway during its recent Crowdfunding round on Seedrs. Sway is an Open Banking payments disruptor tackling the card dominance in the UK and EU market. While I noticed that the number of clicks to complete a payment have been decreasing and Open Banking providers like Sway could make their UI as sleek as possible (Steps 1–4 and 8–9), this cannot compare with something like Apple Pay (2 clicks on home button + Face ID).
There is no way Open Banking will see adoption from the masses with such a sub-optimal UX in today’s age of sleek apps and UI. Reducing the “clunkiness” in Open Banking requires an effort mainly from the originating bank and the Open Banking APIs itself. Improvements in cybersecurity processes and standards should also increase the regulators’ confidence towards reducing the frequency of authentication.
Branding & Rewards
The stickiness of card payments come from the cashback and points from using debit or credit cards, and the branding of the card networks. Rewards help to gamify the spending process and have helped numerous brands build loyalty and even prestige, like American Express and their Black cards. On the other hand, bank transfers are very commoditised and honestly, plain. It would be challenging to make Open Banking payments a sexy or attractive alternative to card payments with today’s line-up, but perhaps this is an opportunity for future start-ups! In Asia and Africa, where incumbent card networks don’t really dabble in because of “high risk”, mobile wallet (such as Alipay and M-Pesa) rewards are proliferating — so I don’t see why rewards can’t be infused into Open Banking and bank transfers as well!
Addressing Weaknesses Can Make Open Banking’s Strengths Shine Brighter
Once the UX improves and payers become more willing to use Open Banking transfers, merchant adoption should skyrocket. Open Banking can benefit merchants greatly because of lower fees, faster (instant) settlements and the security of bank transfers is also comparable or even better than card payments.
Most Smaller Businesses Are Paying Way Above The Interchange Fees
Although it has never been easier and cheaper to set up your own business today, these online checkout solutions or user-friendly PoS terminals (such as Stripe and Square) are charging 1–2% of your sales as a payment collection fee. That may be comparable to the interchange fees for business card users or American cards but recall that those fees can be as low as 0.3% in Europe!
Using bank transfers to collect payments instead can thus be extremely beneficial and instantly boost a business’ margins by a few basis points.
Receiving Card Payments May Take Several Working Days
Besides saving on cost, receiving payments as bank transfers are usually instant in countries with real-time payment rails. Getting paid with UK Faster Payments or SEPA instant is very helpful for smaller businesses with a small (or no) pool of working capital. Receiving card payments could be relatively quick as well, but firms may have to execute another step on the PoS platform and initiate a payout — adding one extra step. For firms in emerging markets, getting paid by Stripe might not even be possible or it could be prohibitively slow.
Quicker settlements allow smaller businesses to manage their cash flows more effectively, reducing the stresses in their already hectic day-to-days and could also reduce the fees they pay for expensive short-term loans or overdrafts.
Even though numerous smaller establishments are already basking in these perks by offering an additional Open Banking payment method at their physical or online checkouts, this is still just a small slice of the overall economy.
The Current State Of Open Banking Benefits A Niche, But Growing Segment
Realistically, Open Banking payments today is only a viable alternative for B2B payments and slower paced retail experiences.
B2B Payments Are Hilariously Slow
The Association for Finance Professionals (via Jeeves) estimates that a typical business invoice gets settled in 30 days. Thirty days! Could you imagine how painful it is for a smaller business with tons of suppliers at their necks?
In addition to reducing the invoicing cycle by 2–3 days through light-speed Open Banking payments, it could also help numerous businesses save on using payment links to collect payments. A simple demonstration of a payment link use case would be you sending a URL to your friend after a meal to split the bill instead of sending 20 digits of your bank account that you remembered by heart. Now take that example and apply it to importers and exporters — it isn’t uncommon for an exporter to send a payment link within an invoice to collect his share from 10 crates of pineapples. Payment links are basically single-use checkout portals for someone to pay for something using…a card. For businesses, receiving business card payments could incur a fee of 2% and hence, using Open Banking payments could eliminate this fee entirely.
Open Banking can benefit B2B payments greatly, this rapidly growing market can become a significant tailwind for the adoption and growth of Open Banking payments.
Chinese Restaurants Won’t Take Your AmEx Card
Going back to the first sentence of this article, slower-paced retail or service type businesses could also benefit from Open Banking. This is also the target audience for Sway. Sway’s CEO (when responding to investors in their recent crowdfunding round) observed that customers who went to get a tattoo or eat at restaurants would be more willing to try out a “clunkier”, slower payment method instead of Apple Pay. These customers have already spent 1–2 hours with the merchant, and could be more open to complying with the merchant’s request.
Moreover, the merchant could also offer special discounts for paying via Open Banking, similarly to how Chinese restaurants could give you a 5% discount for paying in cash (but that’s probably to avoid tax? Who knows?). Personally, I believe that it’s up to these smaller businesses to drive adoption of Open Banking payments. With the opportunity to bypass traditional card rewards programmes with their own bespoke loyalty cards or discounts, and an opportunity to convince their customers, it should help generate traction in Open Banking payments and drive adoption.
In conclusion
Open Banking is truly revolutionary, opening up the playing field for new FinTechs to offer new creative solutions, experiment with interesting use cases and supercharge boring, old bank transfers! There is still a long way to go before Open Banking payments make it to the mainstream, but merchants who currently adopt it should be more proactive in encouraging their customers to use this payment tool. More usage will lead to more feedback and therefore, more improvements to the Open Banking payment flow. Combined with further catalysts such as cybersecurity improvements, digital fiat monies and wallets, Open Banking will be a force to be reckoned with. Many payment methods can coexist for sure, but Open Banking payments could give cards a good run for their money.
