Digitalization has significantly transformed the landscape of payment systems. With the advent of fintech and blockchain technology, domestic payment systems have become more inclusive, safe, and efficient. Despite the transformation at the national level, cross-border payments remain expensive, slow, and opaque and involve multi-dimensional challenges and complexities. With every cross-border payment, transactions must comply with a wide array of technological, regulatory, and legal systems, increasing transaction costs, reducing efficiency, and bringing risks to market integrity and financial stability.
To enhance cross-border payments systems, countries/regions are adopting a range of bilateral and multilateral approaches, which include achieving economic and monetary integration (with or without a joint central bank and settlement system), enhancing interoperability by way of using uniform messaging standards, utilizing advanced technologies, such as distributed ledger technology (DLT) or centralized fast payment systems (FPS) in providing remittance services, and pursuing legal harmonization to establish a common payments area.
Our new Bank for International Settlements working paper observes that a high degree of cross-border harmonization in the technological, regulatory, and legal dimensions has been instrumental for successful regional integration projects and has promoted straight-through-processing. Drawing on the insight, we lay out a comprehensive framework, arguing for a “Single Rule Book”—a globally-coordinated action to enhance safety, efficiency, and integrity in cross-border payments. We suggest that developing detailed rules through a Single Rule Book and implementing them at the global level will lead to a greater degree of harmonization of payment laws and regulations across various regions. Once regional integration occurs on a granular level, individual areas can cooperate to improve international transactions among themselves.
Current Challenges in Cross-border Payments: Possible Approaches to Resolve Cross-border Payments Challenges
Ideally, multi-currency cross-border transactions would be processed as seamlessly as domestic payments. However, the reality is different. Cross-border payments are complex, risky, slow, and opaque. At the global level, mismatches between the inter-institutional framework on the back-end and the contractual relationship with clients on the front-end represent potential costs for the payment service provider and increase legal risk, prompting costly manual adjustments in payment processes. Four approaches are prevalent at the regional level to resolve these challenges and achieve harmonization in payments processing across borders.
The first approach is to implement various regional integration projects initiated by the public sector or in public-private partnerships (such as RTGS and retail FPS). In combination with digital ID infrastructure, these initiatives have been able to bring some degree of efficiency to region-specific cross-border payments systems. Some examples of such regional integration projects are the Single Euro Payments Area (SEPA), the West African Economic and Monetary Union (WAEMU), and the South African Development Community (SADC).
The second strategy focuses on enhancing the interoperability of existing and future payment systems by adopting uniform messaging and bank account identification standards, such as ISO 20022, Electronic Banking Internet Communication Standard, and International Bank Account Number. Nevertheless, developing and adopting common messaging standards for cross-border payments requires updating legacy technology platforms, which is a challenge for many countries.
With the advent of peer-to-peer and decentralized technology, such as distributed ledger technology (DLT), the third approach is underpinned by the novel use of technologies in the payments systems. We observe that “some DLT infrastructures combine a messaging system (competing directly with SWIFT) with digital currency and blockchain technology in retail payments.” Integrating this kind of advanced technology in the payments system by the incumbent financial institutions has the potential of ensuring immediate transfer and settlement of remittances. This also provides greater transparency regarding liquidity and foreign exchange (FX) rates, thus minimizing liquidity and FX risks.
We further examine the use of DLT-based digital currencies, such as stablecoins and central bank digital currencies (CBDCs), in cross-border payments and conclude that both stablecoins and CBDCs (specifically, “synthetic CBDCs”) can simplify the international payments processes by making them cheaper, more accessible, and widely available. They can be pivotal in ensuring atomic settlement and supporting programmable micropayments. However, the technical infrastructure associated with stablecoins could increase the operational costs of cross-border payments made with stablecoins.
The fourth approach is the central bank’s efforts to establish monetary areas tied to a regional CBDC arrangement. Central banks are already discussing the potential use of CBDCs to enhance efficiency in the payments systems—national and cross-border. Regional CBDC projects (such as m-CBDC Bridge and Project Dunbar) assess the efficacy of using a CBDC as a common settlement asset across various transactions involving multiple currencies and jurisdictions. Alternatively, CBDC also provides several ways for connecting multiple domestic payments platforms systems through its interoperability feature. Aside from the regional and interoperable CBDC efforts, multiple countries initiated fintech-led connectivity programs that link instant payment systems nationally (e.g., Singapore’s PayNow and Thailand’s PromptPay) and regionally (e.g., “Nexus” launched by the BIS Innovation Hub).
The fifth approach is to pursue legal harmonization as a policy objective in an effort to establish a common payments area (e.g., SEPA). Regional efforts have primarily focused on payment efficiency and safety, reducing transaction costs, increasing financial inclusion, and supporting regional trade, investments, remittances, and travel. We argue that regional efforts to pursue legal harmonization as a policy objective are one of the precursors to enhancing cross-border payments within an integrated payments area. Nonetheless, obstacles remain to realizing a successful regional payments system integration—lack of regulatory harmonization, incompatible digital infrastructure, concerns about currency substitution, and absence of information-sharing mechanisms among various regulators.
Enhancing Cross-border Payments Efficiency: A Single Rulebook Approach
A single rulebook (SRB) is a comprehensive framework that integrates legal, procedural, and technical harmonization. It provides a robust foundation for efficient cross-border payments and provides harmonized standards for banks and financial intermediaries participating in a payment transaction. If principal terms and conditions are fully harmonized, software vendors can develop standard technologically based compliance products and monitoring and supervisory solutions to replace proprietary and legacy systems at a much lower cost. In our paper, we highlight significant aspects of a single rulebook:
Integration of Private and Public Law
A meaningful SRB approach aims to curb all potential risks associated with the front-end and back-end of the payments process chain for both service providers and end-users. Therefore, an SRB incorporates issues regarding private law, financial regulation, and technical standards. In addition, an SRB integrates harmonized principles of market integrity, transparency, data governance, and data privacy and security. Concerning AML/CFT standards, a SRB integrates the requirements of customer due diligence, digital ID, and basic reporting principles (example: OECD’s Common Reporting Standard)
Convergence of Regional and Institutional Approaches
The SRB approach is premised upon an integrated payment region. Effective enforcement of the SRB determines how often certain checks and regulatory compliance are performed within the region. For instance, with respect to AML/CFT compliance, if all institutions agree, such checks can be conducted by the first institutions where the payment is initiated. Concerning data protection, provided a clear rule is laid out among the participants in a payment arrangement regarding the use of data, data flow involved in the payment is likely to face fewer barriers. We highlight that “an integrated regulatory compliance mechanism embedded in the SRB approach would lower user-costs, generate simplified financial services, achieve faster cross-border transactions, and create more efficient and reliable payments services within the region, particularly when technologically enabled via RegTech / SupTech.”
Implementation of an SRB
We identify five principal ways an SRB approach can be achieved. First, within regions that have attained some degree of political, financial, or monetary union, a single regulatory regime can effectively harmonize the mandatory rules, regulations, and compliance of competent authorities for cross-border payments. Within the European Union, SEPA is an example of a single regulatory authority for retail transactions across the EU. Second, standardization of contractual terms across various systems, schemes, and participants can also help bring to fruition an SRB. For instance, Visa and Mastercard rely on harmonized contractual terms for their scheme participants, as well as mandatory compliance for merchants accepting these cards. Third, establishing a cooperative or association that lays out uniform rules for participants (such as SWIFT) can potentially converge various payment systems rules. Therefore, common contractual terms or payment schemes across different regulatory jurisdictions reduce transaction time and make settlements faster and more secure. Fourth, coordinated behaviours of multiple group entities can bring about an SRB. For instance, fintech companies like PayPal or Alipay maintain an SRB-based closed-loop payment scheme. Similarly, international card schemes often integrate different payment solutions into their core services and thus diversify their businesses beyond card payments. Finally, to achieve regulatory harmonization across borders, various technical (e.g., ISO) or financial standards issued by standard-setting bodies can be implemented harmoniously in domestic systems.
We distinguish between SRBs created by mandatory regulation and those created by contract and membership rules among these possible approaches. We are of the view that “[m]andatory rules differ in their enforcement and sanctions, are binding on third parties, and prevent opting out.” In contrast, SRBs achieved through harmonization of contractual and participation rules are likely to have the problems of “different countries constru[ing] contractual clauses… in different ways.” Therefore, we suggest some degree of mandatory cross-border regulation is integral in achieving full legal, regulatory, and technical harmonization.
Way Forward: A Model Rule Book
While regional integration helps ease barriers to payment between regions, centralization or complete harmonization of payments systems laws, regulations, and supervision are unlikely to be achieved even within the most economically and politically integrated areas. For a concerted effort, we propose developing comprehensive global guidelines through coordinated international action. In our paper, we recommend a Model Rule Book based on an SRB approach. However, the success of a Model Rule Book is likely to depend on the political will and a country’s digital infrastructure and technological advancement. In this regard, we recommend the following.
- Establish a governance mechanism to monitor the implementation of global features via the SRB;
- Complement the Rule Book for new sectors with global features of the SRB based on comparative studies, working groups, and country-level experience with regional integration;
- Monitor implementation via a peer review comply-or-explain approach regarding the SRB;
- Bilateral (or potentially multilateral) memoranda of understanding establishing a framework for mutual recognition based on peer assessment of compliance; and
- International organizations, such as development banks, could play a critical role in disseminating and implementing SRBs with global features and including them in their various monitoring processes.
Douglas Arner is the Kerry Holdings Professor in Law at the University of Hong Kong.
Ross Buckley is a Scientia Professor and the KPMG Law – KWM Chair in Disruptive Innovation and Law at the University of New South Wales.
Thomas Lammer is the Deputy Head of Secretariat for the Committee on Payments and Market Infrastructures at the Bank for International Settlements.
Dirk Zetzsche is a Professor in Financial Law and the ADA Chair in Financial Law and Inclusive Finance at the University of Luxembourg.
Sangita Gazi is a PhD candidate at the Faculty of Law of the University of Hong Kong.
This post is adapted from their paper, “Building Regional Payment Areas: The Single Rule Book Approach,” available on SSRN.
The views expressed in this post are those of the authors and do not represent the views of the Global Financial Markets Center or Duke Law.