I had a call with an industry colleague earlier today talking the recent news on GMail Google Wallet integration, Dwolla’s funding round and the “Square Cash” announcement. At large I’m seeing two broad industry responses to these moves.
The first, is to see this all as a distraction from mainstream banking and that essentially all these new players are just competing between themselves for marginal business, here’s a few notable examples:
- “Google and Square Take a Bite Out of PayPal’s Market”, BankInnovation.net
- “Square will challenge PayPal with its own peer-to-peer cash service”, GigaOm
- “Square’s new ‘Square Cash’ takes on PayPal with payments over email“, The Verge
Alternately, you have Google, Square and Paypal taking aim not at each other, but at an industry mired in friction, process, and rules and regulations that appear to make a very simple task like sending money from Person A to Person or Business B, a lot harder than it would appear to be. This very friction, is for many in the industry, the reason why they think new P2P processors won’t ever compete with the industry at large – quite simply, the barrier to entry and the workload and overhead from a regulatory/reporting/risk perspective means new players will always have to defer to the existing rails, particularly when you have to cash-in and cash-out.
Here is an interesting dialog on Y-Combinator’s Hacker News which refers to this conundrum - https://news.ycombinator.com/item?id=3944745
Dwolla’s take on their service is very different to this – Dwolla are positioning themselves as a true alternative not only to ACH, but also to the merchant rails provided by Visa and Mastercard. In my recent interview with Ben Milne from Dwolla on Breaking Bank$, he made the following insightful comment on their role in the payments ecosystem:
“…because the internet is always available you should be able to access your money and exchange it with anyone else, and because all that money is essentially tracked as data, it shouldn’t really be that expensive to exchange. What we ended up realizing was, that in order to do that we had to create an end-to-end solution. As the company started scaling up on the volume side we started to realize some of the limitations to ACH and things like that. So, one – our early kind of philosophy was ‘we just want to solve this simple problem’ and I don’t think I realized exactly how big it actually was. To solve the problem we had to come up with an end-to-end solution that not only allowed us to communicate with financial institutions, but directly with consumers, developers and merchants… what we were left with is a solution that communicates directly with the financial institution core, right down to the end consumer.”
- Ben Milne, Founder of Dwolla, Breaking Bank$ Radio Show, May 9th, 2013
The issue perhaps is one of philosophy. Banks are trying to reinforce the existing rails for two very simple reasons:
- They perceive existing rails as “less risky”, and
- They make money off the existing rails and the surrounding friction/complexity, and don’t want new entrants displacing that very large, but still essentially closed-loop mechanism (i.e. you need a banking license to be a part of the ‘club’)
So you have two competing goals here. One is simplification of the mechanism of sending money, and in doing so it is creating new closed-loop systems, but systems that are far more user friendly, offer lower or equivalent costs (both on fee and time) for consumers, and also are technically far more open and capable from a platform perspective. When was the last time your bank let you GMail your employees their salary? Ok, we’re not there yet, but the day is coming.
While the bank SWIFT and ACH networks, and Visa/Mastercard/Amex/Discover rails are certainly massively dominant, by far the fastest growing payments modalities right now are the likes of PayPal, Square, Google and Dwolla. These players aren’t competing against each other, they are solving the friction problem in moving money from one person to another. But here’s the kicker…
Once enough people join the closed loop system of a PayPal, Google, Square or Dwolla, then the only remaining issue is getting cash in and out of that system. This is where proponents of the current system breath a huge collective sigh of relief. They’ll point to the news around BitCoin’s and Mt. Gox recent run in with the Fed around unregulated movements of cash, as Governments clearly want to monitor and regulate cash going in and out of the system due to concerns on money laundering, and the banks are the only players in town that have the license to do that right? Well, technical money transmitter licenses also allow non-bank players in this space.
The challenge is this – once enough people are using alternative P2P payment networks or mechanisms, then the utility of that system goes through the roof. Metcalfe’s law is one of those nice little laws that govern the growth of closed loop systems that turn into these highly scalable networks, but probably Reed’s law governing social network growth is more applicable. The beauty of a independent payments network can easily be shown by the success of PayPal and more recently iTunes and even Starbucks…
With 128 million active accounts in 193 markets and 25 currencies around the world, PayPal enables global commerce, processing more than 7.6 million payments every day. Because PayPal helps people transact anytime, anywhere and in any way, the company is a driving force behind the growth of mobile commerce and expects to process $20 billion in mobile payments in 2013
While the banking industry might like to categorize these P2P initiatives as hemmed in by regulations, or limited in impact, the implications are far more reaching. Since the arrival of the internet we have seen an explosion of alternative payment schemes. While initially on top of the existing rails, these closed loop systems are now creating behavior that is far more efficient than the incumbent systems they’ve replaced, and are connecting payers and payees in whole new ways. Inject context, rich overlay, merchant deals and offers, interchange fee pushback, mobile modality, social context of payments (e.g. splitting a bill at a restaurant), etc then the current ACH network and card network rails just aren’t robust enough to adapt.
P2P is the start of a whole slew of alternative payment modalities and use cases. Payment modalities that are being created by users on the move, and by networks that are much lower friction than the incumbent networks. The only thing stopping this from cutting out the back-end players, is volume and the cash-in/cash-out problem. Once you have enough utility in the network, however, as we have seen with the likes of M-PESA in Kenya, then the incumbents have to play by new rules or else they are simply circumvented.
Utility will trump the old rules. P2P is just the beginning and I’ll let you in on a little secret … they’re not competing with each other.