Payment systems are critical infrastructure that generate positive network externalities. The more people who use them, the better off everyone using them is. They allow households, businesses, governments, and nonprofits to clear and settle transactions. People rely on them to receive their income through direct deposit or cashing checks; pay their rent, mortgage, or other bills; use their credit or debit cards; write checks; and wire money.
We are currently in the midst of a payments revolution. New technologies enabled by smartphones and real-time payments are creating new ways to pay. And these technologies have the power to be a remarkable equalizer, allowing marginalized groups to enter the mainstream payment system and access lower-cost services. But they can also be a catalyst for further inequality – excluding lower income people through the digital divide, excessive fees, consumer abuses, and other barriers.
In most countries, central banks operate at least part of the payment system directly. They also often serve in a regulatory capacity, overseeing private sector payment providers such as banks, card processors, and money services businesses.
In a new paper, we highlight four ways that central banks can use their operational and regulatory authorities to better serve low-income households, small businesses, and marginalized groups.
1. Expanding Access. Central banks can pursue universal access approaches for low-fee or no-fee bank accounts. They can also work with private providers to set up low-fee or no-fee mobile payment systems like Kenya’s M-Pesa network and China’s WeChat Pay. And, some countries are considering whether to provide digital money directly in the form of a bank account at the central bank.
2. Increasing Speed. Central banks can build – or encourage or require the private sector to build – back-end systems that allow for real-time gross settlement of retail payments. Central banks can also change “good funds” rules to generally require instant availability so that households and businesses can get deposited funds right away, when they need them.
3. Eliminating Predatory Practices. Central banks can prohibit excessive fees and predatory practices by banks and privately owned payment system operators. The high costs and uncertain contingent fees sometimes associated with transaction services are harmful to the poor.
4. Reducing Cross-Border Costs. Central banks can ease remittance costs, increase the speed of payments, and improve reliability of delivery, by reducing the number of intermediaries required to make payments internationally. Central banks can also facilitate innovation by requiring interoperability so that payment apps and other digital payment services can seamlessly connect with each other. And central banks can work to reduce the burdens of Know Your Customer and other anti-money laundering rules on legitimate, low-risk transactions.
Many central banks have already launched major initiatives to improve speed and access, and eliminate predatory practices. We consider three case studies in the paper:
1. China is at the forefront of two major payment system innovations: low-fee, high-speed digital payment networks that use mobile phone technology, and a central bank digital currency. China’s digital payment network is cheaper, faster, and more inclusive than card-based networks used in advanced economies like the United States. Instead of using costly point-of-sale terminals and landline internet or telephone connections, China’s networks, known as Alipay and WeChat Pay, rely on smartphone devices and QR codes. Buyers can scan a seller’s code and enter an amount to transfer, and only one party needs access to the internet. And this new digital money is safe: China’s central bank, the People’s Bank of China (PBoC), requires Alibaba and Tencent, the operators of these networks, to back all of their digital wallet account balances with deposit account balances at one of China’s banks.
China’s new digital currency is the result of years of research and development. It runs on a centralized network operated by the PBoC. It charges no fees. All transactions are visible to the central bank. And it does not require bank access to operate—like China’s existing digital payment network, it ses digital wallets, which users can set up even if they do not have bank accounts. Earlier this year, the PBoC rolled out a pilot testing program in four major cities, and this summer, the PBoC announced that it would soon expand its test to much of the rest of the country including Beijing. Analysts believe that in the coming years China plans to make its digital yuan available internationally.
2. The Central Bank of Kenya (“CBK”) is a leader in promoting financial inclusion through mobile payments, specifically by supporting the development of M-Pesa. M-Pesa is a mobile phone-based money transfer service launched in 2007 by Vodafone and Safaricom. A bank account is not required for using M-Pesa. Instead, M-Pesa converts cash into digital account balances, and consumer funds are then deposited into trust accounts with commercial banks. Like China’s Alipay and WeChat Pay, M-Pesa balances are fully secured, backed 1:1 with bank deposits.
3. In 2019, the Philippines Central Bank, Bangko Sentral ng Pilipinas (“BSP”) launched an online payment system, eGov Pay, to aid citizens in making government transactions. The BSP is also heading the creation of a national QR code standard in an effort to reduce cash use and payment errors. The BSP is aiming to digitize twenty percent of total retail payments by the end of 2020, up from one percent in 2013. The BSP is also requiring interoperability, increasing the likelihood that its emerging digital payments systems will grow rapidly and work efficiently with low costs and low fees for consumers and retailers.
Other central banks should take note of what is working and what is not in China, Kenya, and the Philippines, and adapt best practices to their jurisdictions. The future of payments is promising, and through well-crafted policies central banks can make this critical financial infrastructure easily available to all households and businesses.
Michael S. Barr is the Joan and Sanford Weill Dean of the University of Michigan’s Gerald R. Ford School of Public Policy.
Adrienne A. Harris is a Professor of Practice at the University of Michigan’s Gerald R. Ford School of Public Policy.
Lev Menand is an Academic Fellow, Lecturer in Law, and Postdoctoral Research Scholar at Columbia Law School.
This post is adapted from their paper, “Building a Building the Payment System of the Future: How Central Banks Can Improve Payments to Enhance Financial Inclusion” available on SSRN.
 “‘Good funds’ is a colloquial term for withdrawable, spendable money.” Peter Conti-Brown & David Wishnick, Private Markets, Public Options, and the Payment System, 37 Yale J. Reg. 380, 382n.8 (2020) (citing Hal Scott, Corporate Wire Transfers and the Uniform New Payments Code, 83 COLUM. L. REV. 1664, 1670 (1983)).