2016
O
UTLOOK
:
U.S.
D
EBIT
C
ARD S
Prospects for the U.S. debit issuing industry and
other “pay now” payments for the coming year
December 2015
Several events that took place in 2015 will alter the
development of debit cards and other “pay now”
payment products for years to come. Migration to
EMV specifications got under way for debit,
real-time payments made conceptual if not concrete leaps
forward, and mobile wallets began to gain some
ground. Not since the enactment of the Durbin
Amendment has there been such a profound impact
on this slice of the payment market.
2016, the Year Debit EMV Happens. (No, really.)
Debit issuers invested much of their available resources on the very tactical planning aspects of migration to debit EMV in 2015. Some issuers managed—despite delayed certifications, extended testing times, a lack of EMV- knowledgeable talent, and industry capacity constraints—to actually get cards into the hands of consumers. Because of technical problems with the specification for the U.S. common debit application identifier and legal complexities including federal lawsuits, debit EMV issuance was far behind credit card EMV issuance and only a minority of the total population of debit card holders was reissued EMV cards. The October 1, 2015 liability shift date came and went with very little visible evidence. The migration did not happen in 2015. As Mercator Advisory Group first forecast in the July 2015 research note Predictions for the U.S. Migration to EMV Debit Cards, only 25 percent of debit cards issued would be replaced with an EMV chip cards in 2015. Not only was the percentage of debit cards being issued small, but an even smaller percentage of merchants upgraded their retail terminals to accept EMV chip cards. So debit issuers are looking rather smart for having waited. Why issue cards with a new technology before the infrastructure is in place and consumers know how to use it? If I were a debit issuer, I would claim it as a prescient strategy. Not to make light of the fraud prevention capabilities that EMV provides in card-present environments, but a debit card portfolio may not achieve a net financial benefit if confused card holders opt for another form of payment because they can’t figure out how to use their new card.
The current state of debit and EMV will continue to have an impact in 2016 and for the next few years. This will consume precious resources of time and money and reduce opportunities for product enhancements. Those issuers who were able to migrate at least a portion of their debit portfolio will need to continue their
communication and customer reeducation efforts concerning EMV as merchants begin to implement their side of the EMV equation and card holders have more points of sale where they can use the chip on their cards.
Communications will also begin to warn debit card holders as automated teller machines are upgraded to EMV. These notifications will begin as soon as a noticeable number of EMV-enabled ATMs are in market, regardless of the issuers’ plans for their own ATM fleet upgrades. EMV will keep financial institutions with instant issue platforms busy with EMV upgrades as well.
As merchants begin to process EMV and migration ramps up for ATMs, more fallback transactions will arise that will require issuers’ attention. “Fallback” is the term used to denote an instance in which an attempted transaction conducted with an EMV chip card at an EMV terminal needs to revert (fall back) to using the magnetic stripe on the card to complete the transaction. A fallback can occur for a variety of legitimate reasons. Merchants’ terminals may not have been updated for EMV such that the application identifier (AID) in the chip is recognized when it is placed in the terminal. Or the data personalization process that customizes a card’s chip with specific product parameters and the account holder’s unique information could be faulty and not readable by the point-of-sale (POS) device, requiring the card to be swiped instead. A fallback can also occur in a fraud scam whereby mag-stripe data is stolen and then copied to a chip card containing a damaged chip. Since the merchant can’t read the chip, the card will need to be swiped. If the issuer approves the mag-stripe fallback transaction, the issuer will be liable
for fraud that ensues. Issuers will need to fine-tune authorization strategies to be able to accurately discern, as best as possible, which transactions are fraudulent. Denying all fallbacks is a dangerous approach because it is likely to result in many false positives (denials of legitimate transactions), which will cause the card holders to place the issuer’s card farther back in their wallets.
While issuers fine-tune their authorization strategies, so too will merchants. After the holiday rush, midsized to large merchants processing EMV will begin work to recognize the U.S. common debit AID and reduce their overall processing expenses. Given the late arrival of specifications for the AID, not all merchants or their processors were in a position to update their terminal equipment to recognize the electronic funds transfer (EFT) debit networks represented on the AID. Currently, they are recognizing only the global AID, which carries a higher fee to the merchant’s detriment and the issuer’s benefit. The nice bump in interchange that issuers, particularly exempt issuers, with EMV debit cards in market saw, will start to decline toward pre-EMV levels as more transactions begin to route through EFT debit networks.
Issuers and the industry at large will be bracing for new forms of fraud as EMV closes up some of the vulnerabilities of magnetic-stripe cards, at least for card-present transactions. Criminals intent on committing card fraud will begin to focus on debit cards not yet converted to EMV as well as on online and mobile transactions, where EMV doesn’t offer any protections. This shift is already beginning to occur (as it has in other world regions that switched to EMV earlier). There are also reports of more account takeover activity, whereby fraudsters secure information about a customer and, through financial institutions’ call centers and other touch points, attempt to gain access to accounts. Debit issuers will spend time with their security teams in 2016 considering how to incorporate
tokenization, encryption, biometrics, and other solutions to counterattack the next ingenious wave of fraud.
Mobile and Debit
Mobile payment wallets did not achieve world domination in 2015, but they did achieve some progress. Android Pay, like Apple Pay, began offering solutions based on Near Field Communication (NFC) technology. Samsung Pay was launched with Magnetic Secure Transaction (MST) and NFC capabilities that enable it to be accepted at nearly every merchant. CurrentC got off the ground, at least in pilot phase, and then got a huge lift with the
announcement that Chase Pay will be operational at all MCX merchants in 2016. What debit issuers are planning for now is a way to ensure that their cards are not lost in the shuffle when card credentials are tucked away in mobile wallets.
The (few) financial institutions, notably JP Morgan Chase and Barclays, with their own payment applications definitely have the advantage of being able to prepopulate their app with the customer’s credentials. This makes the setup process much simpler for the consumer than the setup for Apple Pay, Android Pay, Samsung Pay, and the “next” pay from another phone manufacturer, and helps to lock in the financial institutions’ payment brand. Understanding few banks have their own payment apps, financial institutions looking to guard against
disintermediation are using the new accounts desk, branch staff, online banking sites, and proactive messaging to get customers to put their debit card into their preferred payment app.
Similarly, issuers are looking at opportunities with person-to-person (P2P) payments solutions to ensure that their debit card is added as a funding source for P2P mobile applications. Rapid growth is anticipated over the next several years in the use of P2P payments displacing cash and checks from their current preferred status. Although the third-party financial technology (fintech) companies attract most of the attention for this payment product, surveys such as Mercator’s CustomerMonitor Survey Series confirm that consumers would prefer to receive such services from their bank.
Debit Gets a New Strategic Approach
Some financial institutions will profoundly alter the way debit is managed within their organizations and the way it is included in strategic plans. Debit card is often managed as its own line of business, with its own strategic, operational, promotional plans, and profit-and-loss statement. As payments become more of a means to an end, with little to no net interchange to call its own (for regulated financial institutions), the value-added services and user experience become far more important. The things that used to make debit a separate product—ubiquity, convenience, flawless execution, and security—are expected and assumed by consumers. As all payment types become commoditized, debit cards become just a form factor for a checking account relationship. For example, a consumer can enter his or her checking account number or debit card number into an online or mobile payment app, a P2P app, or other “containers,” and the meaningful end result is the same. Now that the revenue benefits of debit have been nearly eradicated, at least for regulated banks, the difference between a card transaction and a DDA transaction are narrowing from the financial institution’s perspective as well.
This in no way diminishes the effort necessary to successfully manage debit portfolios, nor does it diminish its importance. Debit remains the second most frequently used form of payment after cash in the U.S., and it is central to most customers’ day-to-day interactions with their financial institution. In order to more seamlessly align the form factor with its source, financial institutions are considering combining checking and debit card organizations, merging their financial reporting, and promoting them cohesively.
Breaking down the silos between checking and debit also requires more closely aligning value-added features. For example, card controls, the ability for card holder to receive notifications, activate and deactivate cards, and manage transaction parameters, will need to be broadened to consider these activities not just for card transactions but also for account transactions. You can report not just fraud on your debit card but also other attempted account fraud, regardless of the transaction type. Reward platforms are being considered not just for debit transactions but total relationship activity to incent and reward the activities valued by the customer and the financial institution.
Real-Time Payments
Real-time payments will evolve quickly in 2016 on multiple fronts. The Federal Reserve’s Faster Payments Task Force will continue to move its collaborative project forward to recommend how a national real-time payments platform needs to develop. December 2016 is the Fed’s self-imposed deadline to publish its complete
recommendation. It is anticipated that this document will help not only to answer how development of a national faster payments platform should be accomplished to provide fast, ubiquitous, and secure transactions in the United States but also to indicate how much it will cost and who will manage it.
The private market has its own initiatives, including the partnership of The Clearinghouse and VocaLink to build a faster payment network with an announced date of 2016 for at least some deliverables. The Clearing House currently handles 50 percent of all U.S. ACH transactions and is owned by some of the largest financial institutions, so its efforts carry meaning. Early Warning purchased ClearXchange, bringing more security features to the real-time account-to-account and P2P capabilities that ClearXchange offers. The large financial institutions that own The Clearinghouse also own Early Warning and ClearXchange, so the combined efforts of these real-time payments initiatives have the potential to reach the majority of banking customers in the U.S.
These initiatives will drive faster payments for P2P, bill-pay, and commerce transactions in 2016, particularly e-commerce where same-day or next-day delivery is wanted. This can have a spillover effect, creating a demand for other products, such as debit, to work at the speed of faster payments. Mature payments like debit cards with its ingrained infrastructure and legacy platforms will be slower to integrate faster payments than newer solutions built on responsive technology. Some incremental progress may occur to speed up certain aspects of older payment types, like moving from once-a-day batch ACH processing, which that takes 2 to 5 days to settle, to a next-day or same-day solution.
Predictions: Regulation and Greater Macroeconomic Forces
The following predictions are my views regarding how broader market dynamics may impact debit and pay-now products in the coming year:
• Not to jinx the pay-now payment market, but it appears that the most intense regulatory scrutiny will be focused elsewhere in payments for the near term. Hopefully the market will flourish in a more stable environment. The Consumer Financial Protection Bureau has made it clear that it wants to be involved in the development of real-time payments and has outlined its expectations (at a high level) for how these platforms should be regulated. With early involvement, perhaps surprises will be kept to a minimum. Do keep an eye, however, on the European interchange model. Interchange in several countries, notably the U.K., has been reduced lower than the current U.S. regulated financial institution model and interchange caps have been enforced. Not surprisingly, this is causing card fees to be increased and services to be reduced.
• The overall U.S. economy is growing again, albeit at a stubbornly slow rate. The global economic outlook is not very bright and is dragging down domestic activity. New jobs growth is also weak, wages are not rising, healthcare costs are exploding, so consumer spend through pay-now solutions will see little growth. • The increase in Federal Funds Rate announced by the Federal Reserve on December 16, 2015, albeit small,
will lead issuers to raise interest rates on credit cards. To avoid higher interest rates, some consumers will shift some spend to debit and checking account transactions. The greater impact, I believe, will be the hit to consumer confidence, so a net negative for pay-now products overall.
• Lower gas prices are reportedly here to stay. This helps to counteract some of the negative impact from the rise in interest rates. However, since gas is a staple often purchased on debit cards already, lower gas prices will translate to less total dollar spend on debit cards.
• The last item regarding global issues affecting pay-now is the anticipated trend in displaced citizens leaving countries involved in wars and being overrun by organized terrorist groups. With the current wave of diaspora, we can expect to see a spike in cross-border remittances, especially mobile remittance types that are not dependent on formal or stable bank relationships.
2016 will be full of complex challenges for pay-now product experts, just as it has been for the last decade. The challenges are more rationalized now however than in other years, which makes the effort needed to manage the challenges more rewarding. Indicators suggest that less effort will be wasted on legal entanglements and arbitrary requirements and more thought and effort will be focused on improving the user experience, improving payment security, and solving real payments problems.
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For more information about this report, please contact:
Sarah Grotta, Director, Debit Advisory Service [email protected]
781-419-1704
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