Sunday, July 28, 2013

Banks Get One Last Mulligan in Payments

By Jon Matonis
American Banker
Thursday, July 25, 2013

Rightly or wrongly, banks are often thought of as the dinosaurs of financial services because they typically wait for clear market penetration and several upgrade releases before adopting any new technology. Now, rather than simply following a revolutionary change in the financial industry, banks may get another chance at leading it.

After failing to respond to customer demand and missing the tectonic shifts in money services businesses and online/mobile payments, banks are about to get a third mulligan with the emerging futuristic area of cryptographic money.

For example, money services businesses like Xoom and TransferWise provide a wide variety of services, essentially filing the gaps of what traditional banks ignore or for one reason or another cannot provide.

Alternative payment companies like PayPal and Square have essentially built their businesses around what banks were not responding to and now they are national powerhouses – international, in the case of PayPal. Also, Stripe has become the online version of Square making it easy for software developers to integrate and accept payments on the web.

There was once a time when bankers led rather than followed. One example is the evolutionary shift to card payment networks; banks were the genesis of today's leading card brands. Visa originated from the BankAmericard project launched in 1956, when an in-house product development team pursued a mass mailing in Fresno, Calif., for a general purpose credit card.

By 1975 Bank of America had given up control of the BankAmericard program and Visa founder and former CEO Dee Hock took it from there. The term Visa was conceived by Hock because he believed that the word was instantly recognizable in many languages and he felt that the term denoted universal acceptance in most countries. (Interestingly, the term Visa has become a recursive backronym for Visa International Service Association.)
In true startup fashion, the bank-owned card brands of Visa and MasterCard eventually had successful IPOs. The inspiration is clearly there. But where are the visionaries in banking now?

With the breakthrough development of cryptographic money, banks appear paralyzed about understanding and harnessing its transformative power. This does not bode well for the future of banks. Just as they block and freeze the accounts of competitive money transmitters in the U.S., banks routinely freeze the bank accounts of innocent bitcoin exchanges, hiding behind the rationale that they are being watchful of and adhering to regulator guidelines.

Bitcoin exchange services like Mt. Gox, TradeHill, and CampBX are the primary way to purchase and sell bitcoin for national fiat currencies. They are mostly launched by technology experts who may or may not have any experience in the intricacies of federal and state anti-money laundering laws or know-your-customer guidelines. Exchanges depend on their banking partners to keep the funds flowing in both directions. But rather than provide expert counsel and cultivate a business customer relationship, banks have routinely pulled the rug out from under these new companies usually without warning.

Taking it a step further, banks could brand and offer bitcoin exchange services themselves, quickly becoming the de facto leaders because of their regulatory status and supreme customer identity procedures.

Banks are missing out on a huge and glaring opportunity in the area of exchange services, but it gets worse. Startup companies are springing up around the bitcoin ecosystem that replicate some of banking's other core competencies such as asset safekeeping and escrow services.

Online bitcoin wallet companies like Blockchain My Wallet and Coinbase are providing direct safekeeping services for the holding of customers' bitcoin balances. Amazingly, these companies look and feel like banks of the future because they offer sophisticated access control and integrate seamlessly with mobile phones. Coinbase, even has a direct username and password connection to a U.S. bank account, access that is granted voluntarily by the depositor. If it walks like a duck and quacks like a duck, it's probably a duck.

Transaction escrow companies protect online buyers and sellers via an impartial dispute resolution service. The services from BTCrow, Blockchain’s multi-signature escrow, and the now-closed ClearCoin, have filled the gap for trust in online transactions. Performing the role of ensuring customer satisfaction and keeping merchants honest, these services emulate what chargeback rights have done for consumer protection in the payment card world.

Finally, in the area of merchant processing, banks again have an opportunity that leverages their skill set staring them in the face. Similar to credit and debit card merchant processors, bitcoin merchant processors like BitPay, BIPS, and Coinbase help get merchants online and accepting bitcoin in a quick and easy way. In addition to robust merchant wallet solutions with detailed reporting capabilities and shopping cart plug-ins for electronic commerce, the essential service of a bitcoin processor is to “lock in” or guarantee the exchange rate for merchants that elect not to maintain bitcoin balances. This is accomplished by the bitcoin processor managing the risk associated with conversion through internal treasury trading or external hedging.

The message is clear. Architect the future. Develop a fintech startup company organically or acquire an existing best-of-breed team for a massively competitive head start. Either way, banks have to start thinking like Silicon Valley and Silicon Alley startups.

Banking institutions are ideally suited to all of these mentioned cryptocurrency functions. More importantly, they play directly to the core competencies of banks. When the market is nascent and still maturing, like now, is the perfect time to exert a leadership role and show the financial service newbies how it's done. It looks mighty doubtful that banks will be getting another mulligan anytime soon.

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