On one level, the reason is straightforward: digital payments allow buyers to pay sellers without changing the physical currency hands. Although the technology is long overdue, it will eventually become much easier to use for small-value retail payments. In addition, as people turned to e-commerce and took steps to avoid managing currency in regular purchases, the epidemic accelerated the transition to digital payments.
Digital payments generate real-time data on sellers ‘businesses, cash flow times and buyers’ buying habits, allowing payment providers to provide credit, savings, wealth management, acquisitions, insurance and other financial services. If credit was once a way to attract customers and provide a panoply of financial services, payments could be the safest channel for such high sales.
But the provider who manages only a portion of the customer payments will only have a partial picture of that customer. Therefore payment providers are interested in controlling all payment methods: bank accounts, e-wallets, Credit cards, Cryptocurrencies, And so on. And e-commerce and social-media platforms want to go a step further by combining their powerful data-collection engines with payments.
With total knowledge about customer behavior, the provider can address every need of customers (directly or through partners) and lock them in for a long time, as their costs are too high to look for such services elsewhere. This tie-in does not need to be completely exploited: the merchant who uses the provider for a wide range of services can be given more credit because she is less likely to lose those services by default.
There is also a lot of excitement about crypto-currencies, which are simply a form of digital payment, usually requiring the conversion of a fiat currency such as the US dollar into a given unit. Cryptocurrency, like bitcoin, offers benefits that appear to be a payment tool because, unlike fiat currencies, it cannot be inflated (as its supply is stable), and it allows for decentralized payment verification, eliminating the need for any party to trust others involved, such as trusting the government or regulators.
But there are barriers to bitcoin use. Its value is not maintained by the central bank, so it can change drastically. Companies, with the exception of companies led by true believers, do not like to keep the currency subject to 10% value fluctuations every day. And bitcoin transactions are expensive and inefficient, due to the expensive decentralized verification process. According to some estimates, the annual power consumption required to verify bitcoin transactions exceeds that of the medium-sized country. It is difficult to imagine that such an eco-destructive process would be tolerated indefinitely.
Other cryptocurrencies have a fixed value because they are pegged to a currency such as the dollar and fully supported with cash reserves. These ‘stable coins’ are easy to use in payments; But like other traditional exchange methods, they rely on (those awkward) regulators. Although some stable coins have tried different payment verification methods than bitcoins, none have emerged as the next ‘killer app’.
Cryptocurrencies are thus in progress. By design, Bitcoin solves the lack of trust in fiat currencies, central banks and governments. But, beyond the insane, criminal and terrorist categories, such concerns are not widely shared. That could change if more people begin to believe that central banks are ready to devalue fiat currencies or that the world splits into US-China-led alliances, which do not trust one’s currency or settlement systems.
A more immediate use of cryptocurrency is to focus on reducing transaction costs in difficult payment situations such as small-value or border exchange. For example, an extreme but eclectic reader can make micro payments for every article she reads online without taking a bunch of expensive subscriptions. Proposals for smart contracts that pay automatically after a verifiable condition is met are equally promising (eliminating the need to trust humans).
However, the dominant digital-payment provider, cryptocurrency or otherwise, raises important public policy concerns such as the reliability of collecting and maintaining customer data responsibly. Due to its mixed track record on data and privacy issues, Facebook’s proposed Stable Coin (Libra, which has since changed its name to Deem) has raised doubts from financial regulators. For its part, Europe has made an initial attempt to regulate data usage under its General Data Protection Regulation. But in light of the developments in the field of digital-payments this law should be fine.
The related issue is related to infidelity. Does a single payment provider handle all business services, including e-commerce and logistics, have high market power? Recent tensions between Chinese regulators and the Ant Group have led some to fear that e-commerce platforms such as Alibaba (Ant’s parent company) are increasing their market power through payments to limit competition. One solution here is to create public payment bridges such as India’s Unified Payments Interface, where key payment services are available to all and are not regulated by any single private entity.
But perhaps the greatest regulatory concern is the systemic risk. When one or two providers dominate the digital retail payments of the entire country, trade is ruined if anything goes wrong. Advances in cryptography (via quantum computing) make it easier to suppress current schemes of digital authentication. And public bridges, while increasing competition, can focus on risk. The only way to do this is to have multiple providers, multiple bridges and multiple technologies in the payment sector.
Central banks are now thinking of getting into the digital-payment game. They fear that with the recurrence of physical cash, the private sector will err, or other central banks may steal the parade on them. Central Bank digital currencies ensure public presence in payments. But, again, this option focuses on data and risk, while at the same time raising questions about the feasibility of private digital payments. But that is the subject of my next comment.© 2021 / Project Syndicate
Raghuram G. Rajan is Professor of Finance at the Chicago Booth School of Business