No Open Banking Roadmap can ignore overdue payments sector reform

For the UK to stay the global fintech capital, consumers and merchants need to be kept front of mind, writes Teya’s ​​Francisco Mota Delgado.

The UK’s Joint Regulatory Oversight Committee (JROC) recently laid out its plans to “deliver on the next generation of open banking”. 

It was a significant announcement for the Economic Secretary of the Treasury, Andrew Griffiths MP, and was hailed by those in UK fintech as a milestone achievement.

But Open Banking is not yet the success story that the UK – especially London – wants it to be. Nor does the new roadmap go far enough to ensure the city’s continuation as a global fintech capital, let alone one that holds the customer needs at its heart. 

And the reason for its lacklustre progress comes down to a simple but essential blocker: distorted incentives.

Let’s take a step back.

One of the three priorities outlined in the JROC’s plan is to “create a greater choice between payment methods by unlocking the potential for open banking payments”, leading to the emergence of “an alternative to card payments”. 

It’s an important principle. But such an alternative doesn’t currently exist in the UK. Cash, which used to play that role, continues its demise having fallen from 52 per cent to only a 15 per cent share of retail transactions in 2022. Of the non-cash transactions, 98 per cent were made using cards.

There’s no question that open banking payments have the potential to create a valid alternative for consumers and merchants. 

New payment methods based on local real-time payment systems have proliferated in other markets, such as India (UPI) or Brazil (Pix), where they’ve rapidly become the most popular way to pay thanks to their convenience and free acceptance for merchants.

The fact is payments are still much more expensive in the UK. According to the trade coalition Axe the Card Tax, card fees cost UK businesses £5bn every year. 

More options to accept payments would help reduce this burden for merchants, especially small businesses. 

Plus leveraging Faster Payments, the UK’s real-time payment system, and standardised APIs and user interfaces, should allow third-party providers to deliver a similar level of ease and innovation as other countries with more developed open finance and account-to-account models.

This brings us to our central problem of how the UK can deliver the roadmap, maintain its fintech standing and – most importantly – provide consumers and merchants with real access and choice.

To enable open banking payments to become an alternative to cards, the JROC is focusing on putting in place a “commercially sustainable model”.

The plan encompasses coming up with the economic principles for premium APIs and commercial models to expand Variable Recurring Payments (VRPs) beyond sweeping use cases, said to be a key missing feature of Open Banking payments compared to cards.

And there’s no doubt that coming up with such commercial frameworks will be critical for open banking to deliver the cost savings it promises for end-users – merchants in particular.

The main risk, however, lies in industry participants anchoring the compensation expectations for such commercial models on the levels they currently receive for cards, the payment method that would be displaced by alternatives.

In other words, the incentive is to remain a gatekeeper rather than an innovator.

In card payment systems, competition between card schemes counterintuitively increases card fees for merchants. Schemes multilaterally set the level of fees paid ultimately by merchants to the cardholder’s bank. 

The problem

Since card networks compete for banks to issue cards with them, they increase card fees to incentivise banks, leading to inefficiently high levels of compensation. 

This market failure led to a cost of card acceptance for merchants so high that in 2015 the European Union put a EU-wide cap on the level of fees card schemes can set, known as the Interchange Fee Regulation (IFR). 

However, since the introduction of the IFR, the UK Payment Systems Regulator (PSR), a constituent part of JROC, found that the desired reduction in the cost of card acceptance for merchants may be being eroded by progressive increases in other non-regulated card fees.

In fact, merchant associations argue that the costs of accepting cards are now larger than they were before the Regulation.

The problem has been recognised by the PSR and has led to two much-needed investigations into card fees that were opened last year.

However, the investigation into the UK domestic market is only expected to conclude at the end of 2024.

The timeline means that the JROC will consult banks on a commercial model for an alternative to cards – the model that will anchor expectations on revenues received from cards - before the PSR has the chance to introduce any potential remedies. 

The risk of not solving issues in card payment systems before setting up the commercial model for the alternative is to replicate the inefficiencies of card payment systems in open banking. It would be a huge, missed opportunity for the UK economy – especially when the ambition is to benefit from a potentially more innovative and efficient way of paying. 

It is then regrettable that the JROC’s recommendations don’t make a single mention to the PSR’s work on card fees and that timelines of such intertwined projects aren’t aligned.

Open Banking success

The success of open banking payments is dependent on accelerating the resolution of the card fees investigations with changes appropriate to the UK market. 

Only then will incentives be aligned for the industry and public bodies to collaborate on finding a fair and sustainable commercial model for open banking.

As we move through the JROC roadmap, the level of collaboration required by all players will only increase. 

We can see from the reception that the roadmap received from the sector that there’s huge warmth and excitement from players across the fintech space – from challengers to banks, payments and beyond. 

But for the UK to truly fulfil its vision of becoming a global fintech capital, we first need to ensure that consumers and merchants are front of mind, not just the prevailing incentives.

Solving the issues of the payments sector today is necessary for the vision for open banking to come true tomorrow. 

The views and opinions expressed are not necessarily those of AltFi.