[Dave Birch] A day or two ago, I was in an interesting discussion on mobile financial services, and the topic of regulation wandered across the conversation, as it so often does in such circumstances. This led to a question: are payments “financial services” or not? I said that they are not. As I wrote a while go,

Just as one might see growing regulatory pressure for some form of narrow banking, I expect to see some pressure for narrower banking that does not include payments. The business of banking will focus more on its core of lending and borrowing and payments will become more of a genuine utility infrastructure.

[From Digital Money: They’re easy, predictions]

I think that, as the economist John Kay has written, payments are a utility and should be regulated as such, in a regulatory framework that is different to, and separate from, the regulatory environment for financial services such as pensions, life insurance and credit agreements.

The utility element of the financial services system is the payments system. Like the electricity grid or the telecommunications network, failure even for a few hours imposes economic damage. The payments system is inherently a natural monopoly, like the electricity grid or the telecommunications network. There are alternative, and to some degrees competing, payments systems but—as with telecommunications networks—all are ultimately dependent on the core clearing and settlement systems.

[From John Kay – Should We Have ‘Narrow Banking’?]

The electricity grid example came up in our discussion as well. The US National Academy of Engineering calls the electricity grid the “greatest engineering achievement of the 20th century” and it’s a pretty impressive machine. Philip Schewe’s excellent book “The Grid” tells the story of the US national grid from Edison’s first node at 257 Pearl Street in New York to its current state (a fascinating story, by the way), explaining how the grid was originally created by the power companies and that factors that led to the shared utilities (there are actually three grids in the US). The grid may, as an aside, change again in the not-too-distant future, under the technology drivers of high temperature superconductors and distributed, neighbourhood power generation, but that’s another topic, except to note that the first superconductor grid elements are already in use.

American Superconductor Corp. has teamed with Consolidated Edison Inc. to develop new high-temperature superconductor (HTS) power grid technology for New York City. The U.S. Department of Homeland Security (DHS) will provide up to $25 million of the total project cost of $39.3 million to develop technology for “Secure Super Grids.”

[From NYC’s Con Ed to get superconductor power grid]

Perhaps the DHS will have to fund development of a terrorist and banker-resistant payments grid in the future! Anyway, my point was that the electricity grid is a useful way to think about payments: a regulated machine that anyone can connect to with the right, standardised, safety-certified equipment. There’s only one electricity cable running into my house, but I can buy electricity from a great many people. I could even put a solar panel on my house and send electricity back along that cable and into the grid. So it’s a useful analogy that helps, I think, the discussion about regulation.

If there is vertical integration from deposit-taking into transmission, deposit takers will use the economic power that such vertical integration gives them to distort competition in their favour—to advantage a single firm which is owner of the network, or to benefit established firms at the expense of entrants if ownership is collective. That distortion of competition is what currently happens. Narrow banks are institutions that have access to the payments system and take the deposits necessary for that access.

[From John Kay – Should We Have ‘Narrow Banking’?]

In other words, the separation of banking into casino banking and narrow banking, where narrow banking comprises the payment utility plus savings and loans, would be a better economic environment with a less distorted market. I’d go further, and separate the payment utility from the savings and loans, leading to a tripartite structure. This would actually map to John’s description of the fundamental requirements for regulation.

Utility: even very brief disruption causes systemic disarray and extended economic loss (e.g. the electricity grid, the telecommunications network).

Essential goods and services: continued supply is necessary but partial or temporary disruption can be accommodated (e.g. food, fuel).

Nice to have: free markets can and should generally be allowed to define market price and availability. If the market does not provide, too bad (most goods and services).

[From John Kay – Should We Have ‘Narrow Banking’?]

This seems to me to imply that the payments utility should be regulated for what the telco guys would label Grade of Service (GoS) and Quality of Service (QoS) and anyone able to meet those requirements should be able to provide the cables, switches and sockets. The crucial economic functions of savings, loans, risk management and information provision should be provided by banks and, further away from the utility, the investment functions should be provided by investment banks (the casinos).

But the more I thought about this, the more I thought that to help structure practical discussions, there should be two components to the grid: the money transfer part and the payments to support commerce part (roughly speaking, the ELMI and PI in European terms) because we will want to have sensible regulation of retail payments but we don’t want that to impede the evolution of “simple” electronic money services. This led me to sketch out a diagram:


Tripartite view of Mobile Financial Services

I thought that this might be a useful backdrop to discussions about the regulation of mobile financial services and, in particular, the regulation of electronic money and electronic payments as businesses that are distinct from banking and insurance. I hope that I can find more and more effective ways to communicate this, particularly to the regulators themsevles. As always, I’m genuinely interested in feedback on this.


These are personal opinions and should not be misunderstood as representing the opinions of
Consult Hyperion or any of its clients or suppliers




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