CardFlight's Tech May Someday Give Lift to New Payment Systems

By Jon Matonis
PaymentsSource
Monday, May 13, 2013

http://www.paymentssource.com/news/cardflights-tech-may-someday-give-lift-to-new-payment-systems-3014106-1.html

Typically, I don't cover or analyze so-called payments innovations that merely embrace and extend the legacy infrastructure, but a new middleware startup, CardFlight, could actually operate as a payments "air traffic controller" because its code sits directly between the consumer and the processor.

CardFlight announced the availability of a private beta last week for the iOS and Android platforms. Its encrypted magnetic-stripe card reader and simple software development tools allow developers to handle swiped card payments within mobile apps without becoming payments experts. It focuses on card-present payments and charges 10 cents per transaction.

As the New York startup's technology makes its way into more mobile applications, the company could also begin to offer non-card payment choices as well, such as the new cryptocurrencies like Bitcoin circulating worldwide now. Just as mobile application developers don't want to worry about compliance with the Payment Card Industry (PCI) data security standard, they don't want to worry about alternate payment models either. A one-stop shop for payments integration can allow developers to support bitcoin processing for a global marketplace.

The existing merchant processor landscape offers either a 100%-card platform or a 100%-bitcoin platform, requiring developers to integrate each separately. Atlanta-based BitPay is the leader in bitcoin merchant processing and they offer exchange rate guarantees as part of their service.

If grabbing market share of placement within mobile applications is the name of the game, the payments functionality is an excellent place to start.

"We aim to be the leading enabler of mobile commerce for vertical industry software developers and our vision is not constrained to Visa, Mastercard, Amex, and Discover," says CardFlight founder and CEO Derek Webster. "As a lynchpin in the payments processing chain, if customers demand bitcoin or Ripple support, we could easily accommodate those processing solutions because CardFlight acts as a switchboard."

At just three months old and with only three employees, CardFlight has the potential to fill a void left by companies such as Apple.

While restricting payment options for digital goods, Apple has traditionally permitted payments for real-world goods to go through a variety of payment channels. However, the Apple App Store still restricts the send and receive functionality for Bitcoin wallet apps on iOS. Conversely, the Google Play store does not place the same restrictions on Android Bitcoin wallet apps.

As a development tool provider with an open platform, CardFlight suggests potential uses for its technology such as apps for event organizers that need to sell tickets at the door, CRM apps to enable field sales and medical-practice management apps to collect a copay while keeping the rest of the details available for insurance billing.

It's interesting that the company has recently partnered with Stripe, which offers similar application development tools for 'card not present' transactions, because together the two companies can present a combined offering that is essentially a customizable version of Square and PayPal. Online and offline, they have you covered.

"We're proud to be working with CardFlight, as they share our developer-friendly approach to payments," Stripe Business Development Manager Cristina Cordova said in a blog post. "CardFlight provides tools to any Stripe user looking to incorporate in-person payments into their mobile apps, while still taking advantage of Stripe's simple pricing and seamless setup."

Sure, Stripe could extend into CardFlight's space at some point or vice versa, but for now the partnership is valuable to both.

Expect Blowback if KYC Rules Are Expanded

By Jon Matonis
American Banker
Tuesday, February 26, 2013

http://www.americanbanker.com/bankthink/expect-blowback-if-kyc-rules-are-expanded-1057055-1.html

The uncovering of an alleged $200 million credit card fraud scheme has triggered calls to expand know-your-customer rules. Those who prescribe ever-greater surveillance should be careful what they wish for.

In what was described as a sprawling criminal enterprise stretching across dozens of states and numerous countries, fabricated identities were used to obtain credit cards and doctor credit reports to borrow large amounts of money. At the heart of the alleged scheme were the merchant processor accounts used to accept and process the cards with stolen identities, authorities announced on Feb. 5. ATM withdrawals involve video surveillance and direct purchasing of merchandise doesn't yield cash. So the fraud ring allegedly used merchant accounts, mostly those of jewelry stores, since it is easier to obtain cash in a bank account using a fictitious sales transaction.

In some instances, sham companies were created and then those businesses established the direct relationship with the merchant processor and purchased the credit card terminals, the FBI said. Involving 25,000 fraudulent credit cards, 7,000 fake identities, and 1,800 "drop addresses," the conspirators allegedly wired millions overseas to Pakistan, India, the United Arab Emirates, Canada, Romania, China, and Japan.

For the duration of the probe, account information was known about the senders of international wire transfers, but not much was known about the recipients.

That is why experts are now pointing to this alleged scheme as justification for the expansion of Bank Secrecy Act and anti-money laundering regulations to include the identification and scrutiny of the recipients of funds associated with high-risk transactions.

Micah Willbrand, director of AML and compliance for LexisNexis' North American Financial Services Markets, told a trade publication, "Laws and regulations today only require that the bank have KYC [know your customer] in place for the sender, not the receiver of money."

"But card fraud schemes demonstrate why it's imperative to have KYC controls in place for both senders and recipients," he adds. As a result of the Foreign Account Tax Compliance Act, "all countries are realizing we need to know more about who's receiving the money. We need to be more transparent about how money is moving around the world, and that is something everyone is coming around to."

That is a very optimistic assumption, especially since considerable resistance already exists regarding global standardization of information-sharing. Ultimately, compliance would require a lot more legwork and due diligence on the part of banks, and financial institutions have been reluctant to move in this direction. If banks were required to replicate the current KYC controls for recipients as well as senders, the jurisdictional challenges would be complicated and expensive.

Willbrand justifies the investment cost in a subtle Risk.net advertorial “article”: "The implementation of FATCA will guide financial institutions … globally by providing them with a reference on what verification is required of their customers and the level of due diligence required from them based on their asset transfers. FATCA will, therefore, enable FIs everywhere to create a standardised customer onboarding process that will clearly define risk tolerances and accepted practices for engaging with customers."

Expanding KYC guidelines to include the recipient of funds would require a massive uniform international process that is continually monitored and updated. Additionally, the cross-border sharing of customer information could realistically lead to equally determined calls for reciprocity on the part of U.S. financial institutions. U.S. banks that act on behalf of the recipients of international funds could find themselves swarmed with overseas requests for KYC information prior to any funds transfer.

For Willbrand, it's a Big Data problem of not enough domestic and international information available to detect anomalies and potential risks earlier. Automated third-party systems are more efficient than the manual review systems in place at some banks today. Willbrand says, "Data about identities is not combined internationally. The only way to get an accurate profile is by cross-checking public records with utility bills and bank accounts around the world."

Willbrand's call for expansion of money transfer surveillance powers represents an overreach that merely attacks the symptom of the problem. Privacy and data security rules vary, and sometimes conflict, in the many jurisdictions around the world. Big Data might be the answer, but it should be Big Data at the front end, during the credit card account opening process and the determination of spending limits – not Big Data that extends privacy violations worldwide.

Visa, MasterCard 'Antitrust' Settlement Is Anticompetitive

By Jon Matonis
PaymentsSource
Friday, February 22, 2013

http://www.paymentssource.com/news/visa-mastercard-antitrust-settlement-is-anticompetitive-3013321-1.html

As part of last year's $7.9 billion preliminary settlement agreement in the class action against Visa and MasterCard, the card networks enacted a rule change allowing merchants to surcharge customers up to 4%. Effective Jan. 27, 2013, the optional surcharge is permitted on credit card transactions in an effort to defuse merchant allegations that the card brands were violating the Sherman Antitrust Act by unlawfully fixing interchange fees and rules.

The interchange fee structure of a four-party payment system is predicated on William F. Baxter's seminal piece from the 1983 Journal of Law and Economics. In this study, Baxter laid out the elements and cost structures for each of the participants in a four-party payment transaction – cardholder, issuer, acquirer, and merchant. Essentially stating that cost flowed principally to the issuer despite interest rates and annual card fees, Baxter economically justified the merchant (or acquiring) fee that would flow back to issuers now known as the IRF, issuer reimbursement fee.

Nearly 40% of Visa and MasterCard merchants are located in the 10 states that ban surcharging including California, New York, Florida, Texas and Massachusetts. Despite this and the proposed surcharging bans recently introduced in more than seven other state legislatures, it is easy to understand why some might see this settlement as a triumphant leveling of the competitive playing field.

"The biggest winners from the settlement are ordinary consumers," according to Todd Zywicki of George Mason University’s Mercatus Center. "Although some of the settlement's terms are potentially prone to abuse by retailers, most notably their new right to impose surcharges on those who use credit cards, it does affirm the core principle that interchange fees should be set by free markets and consumer choice rather than by judges or politicians."

Seemingly unaware of the historical reasons for creating the no-surcharge rule in the first place, Zywicki inverts the issue. Consumers are not the winners as the fee was always embedded into pricing and unfortunately this settlement does nothing to affirm free-market principles. Mandating no surcharges for the merchant participants of their early fledgling networks allowed the card brands to make them an all-or-nothing offer to entice novice cardholders. Had surcharging been permitted from the beginning, it would have been difficult to persuade cardholders, and therefore merchants, because consumers would be incentivized to stick with cash and check payments.

It's more likely that the card brands didn't want to permit merchants to offer discounts for cash transactions. Are they preventing card surcharges or are they preventing cash discounts? Is the glass half-full or is it half-empty? Maybe a “surcharge” is more palatable for consumers now if it is described as a discount for cash.

Sometime during the 1990s, when critical mass was reached and saturation occurred in the credit card payment networks, the tables were turned. Merchants no longer had to be persuaded to accept credit cards as a form of payment. At least in the U.S. and other developed payment markets, merchants realized the benefits of catering to consumer preference for cards and they didn't want to suffer by not offering that choice. The card brands’ acceptance strategy had come full circle, but the no-surcharging rule had not caught up.

With the all-or-nothing choice of "accept all payments at the same price or no card processing at all," once the "nothing" choice started to look relatively attractive, the card payment networks would be forced to open up. That's what alternative payment types such as Bitcoin start to permit. The card-branded networks would begin to see a disadvantage in prohibiting surcharging because all alternative forms of payment, including cash, must cross-subsidize the cards. This allows a non-card-accepting merchant to maintain a significant price advantage over a card-accepting competitor.

So market forces arguably would have eventually pushed Visa and MasterCard to permit surcharges. But the settlement, induced by class action litigation, is worse than superfluous. It is an unwarranted and unjustified encroachment into the practices of a private payment company. Just think of the lost capital and lost productivity of a seven-year, multi-attorney billing festival. Who do you think pays for that? Furthermore, this bit of central planning via the judicial system will remove the competitive advantage that alternative payment-only merchants like Bitcoin Store have now by forcibly removing the cross-subsidization that other merchants would have had to follow in accepting bitcoin or alternatives. If the natural market penalty for cross-subsidization is removed, then alternative payment-only merchants must begin to accept all payment types or lose business.

In a free market, payment networks would compete under their own network rules, not the government's or regulators’ rules. Sadly, the perceived pricing power referred to in the antitrust case stems less from alleged collusion among Visa and MasterCard’s member banks than from the multitude of state-granted privileges they enjoy that disadvantage new entrants (such as extraordinary bailouts for favored institutions, the notion of too-big-to-fail, generous deposit insurance, etc.).

The National Association of Convenience Stores, one of the plaintiffs in the case, rejected the proposed settlement for not going far enough, saying that the settlement failed "to introduce competition and transparency into a clearly broken market." While the merchant lobbyist’s reasons for believing this may not adhere to free market principles, it accidentally happens to be the correct legal and economic posture in this case because the settlement is anticompetitive. The answer, however, is not to coerce transparency and break the market even further.

Free market competition occurs at the macro payment system level – not within a given branded system by forcibly tinkering with the internal fees and surcharges and then declaring a win for consumers. No one is coerced into using a Visa or MasterCard product and merchants are not coerced into accepting plastic payments.

The problem of a payments oligopoly would solve itself because new market entrants would discover ways to bypass the entrenched networks entirely.