The pandemic may have put a halt to travel but money continues to cross borders.
The cross-border payments market is estimated at about $21 trillion, and is growing furiously because of e-commerce. But latency and cost are taking some of the sheen off this business.
Domestic payments everywhere are becoming real-time but when it comes to crossing borders, there can still be a lag of up to a few days from when a payment is initiated and when it is finally credited to the beneficiary’s account.
A lack of interoperability between the payment systems of different countries is mainly at fault: When an international payment is initiated, it creates an electronic payment message that goes from the sender’s bank to the receiver’s bank via a central clearing authority.
If the sender or receiver uses a small local bank, then the payment will likely be routed through an intermediary bank in their respective countries. When the two countries use different payment systems and therefore different payment standards – like Eurozone (SEPA) and U.S. Dollar (Fedwire) – there is a need to change the format of the outgoing (payment) message to the format that is understood by the banking systems in the destination country. This slows down the payment cycle and also makes it more complex.
If all the payment systems in the world were to adopt the same messaging standard, it would bring much-needed interoperability to cross-border payments, resulting in faster, cheaper and more accurate transactions.
ISO 20022 is such a standard. By standardizing the fields used to process a payment and the labels for each field, ISO 20022 enables all computer systems involved in cross-border payments to work together seamlessly. Thanks to its rich text format, ISO 20022 accommodates a variety of payment-related information that it passes on to the destination system (also on the same standard) without any data loss.
Adopted in several parts of the world, including the Eurozone, Australia, Canada, Singapore and India, ISO 20022 has attained the critical mass required by a global standard. This adoption is an ongoing process. SWIFT is gradually retiring their proprietary MT standards in favor of ISO 20022, which will go live in 2022. TARGET2, EURO1 and the Bank of England RTGS renewal are some of the other initiatives on the road to adoption.
With hundreds of fields, the ISO 20022 standard applies to many types of financial messaging, besides payments. For example, it is possible to use it with a cash management statement so that when a payment message is received, its data can provide a corporate user with all the relevant details about currency, country of origination, purpose, instrument of payment, etc. The company can analyze this rich data to streamline their processes in the future and also to improve fraud prevention, innovation, decision-making, etc.
What’s more, the scope of ISO 20022 is not limited to interbank payment systems; it is mandated for use by PSD2 payment initiation APIs as well. This is improving interoperability in open banking transactions from end to end – from when a consumer authorizes a payment on a smartphone until it gets credited to the beneficiary’s account seconds later.
Because ISO 20022 makes it possible to layer fintech services on top of a payment system, new initiatives – such as P27, for instant multi-currency payments between the Nordic countries of Denmark, Finland and Sweden – are being built on this standard. Other benefits of ISO 20022 include resilience and flexibility, as it's more responsive to market changes and stimuli.
Regulatory mandates apart, a key driver of new payment scheme adoption by the banking community is in response to the plans of big tech companies to offer cross-border, real time payments through their platforms in the future (for example, what Facebook envisions with Libra). Fearing large-scale competition, banks are accelerating their programs to enable instant and low-cost movement of money across borders.
Adopting a universal payments standard, however, has its challenges. While a domestic standard can be put in place quickly by building consensus among the banks in the country, a cross-border payments standard needs agreement between different nations with different priorities. It is easier to enforce this standard through a central body, such as SWIFT, rather than getting all the participants to agree.
Of course, this means that some countries would have to compromise, most likely the smaller ones, which cannot risk isolation from the international market. On the other hand, large countries with huge and profitable domestic markets, such as the U.S., could choose to set their own agendas and timelines for coming on board.
The flexibility of ISO 20022 means that there are small variations in the standard itself as it is applied in different countries. The markets that have adopted it, such as Australia, parts of Asia, Canada, etc., are using ISO 20022 with small variations and it will take a bit of effort on everyone’s part to get to full interoperability.
As with so many other things, Covid-19 has pushed back rollout by a year or so in some markets. That being said, the delay is giving banking systems a bit more time to weed out glitches and is allowing more countries to go live at the same time, thereby minimizing the risk of problems in interoperability.
One way that banks can ensure a smooth cutover is by implementing a core banking / payment solution that uses ISO 20022. This would prepare them to reap all its advantages, be it instantaneity, economy, or data, as soon as their country migrates to the new standard.
