## From Cash to Cards: The Case of the Netherlands (and related fintech and regulatory chapters) ## Source details **Canonical URL:** [From Cash to Cards: The Case of the Netherlands (and related fintech and regulatory chapters)](https://www.imf.org/-/media/files/publications/wp/2020/english/wpiea2020241-print-pdf.pdf) ## Other formats - [Markdown version](/-/media/files/publications/wp/2020/english/wpiea2020241-print-pdf.pdf.md) - [Structured JSON version](/-/media/files/publications/wp/2020/english/wpiea2020241-print-pdf.pdf.json) --- ### Overview and timeline (Netherlands) - The Netherlands is one of the most “cashless” societies in the Euro Area. - Cash usage at the point-of-sale (PoS) fell from 85 percent of payments in 2002 to 45 percent in 2016 (Esselink and Hernandez, 2017). - In 1988, the Netherlands introduced a single national debit card scheme—the “PIN”—covering all card holders from all banks and all retailers that accepted cards. - Debit cards grew 9 per cent per year on average since 2010. ### Institutional and market features driving the Dutch shift - Single national scheme (PIN) increased convenience and reduced learning costs by ensuring interoperability across issuers and retailers. - Issuing banks did not levy transaction fees to encourage cardholder usage. - Merchant transaction fees were relatively low at 6–7 eurocents per transaction, below banks’ cost (McKinsey, 2006), and much less than the European average of around 2.5 percent of transaction value (European Commission, 2006). - The Dutch retail payment system had relatively advanced automation for processing retail payments, increasing efficiency. ### Costs, behavioral responses, and policy actions (Netherlands) - The social cost (capital and labor used) of commonly used PoS payments was estimated at 0.65 percent of GDP (Brits and Winder, 2005). - Cash was more cost effective for purchases below 11.63 euros (study baseline). - By 2009 the break-even point had dropped to 3.06 euros due to scale effects and technological developments. - Increased cost transparency and awareness among banks, retailers and consumer organizations contributed to greater debit card adoption. - The Payment Covenant of 2005 offered merchants a 1 eurocent discount on card payments as an incentive. - An information campaign agreed upon by banks and retail organizations further promoted debit card acceptance. ### Observed outcomes (Netherlands) - Number of PoS payment transactions and value of PoS payments show rising debit card use and declining cash use over 2010–2017 (data sources: DNB and Dutch Payment Association, 2019; Jonker, 2013). --- ### Bigtechs and market presence in Europe - Bigtechs have competitive advantages in fintech services: deep financial pockets, a vast customer base with valuable associated data, advanced technological capability and recognized branding. - Alibaba, Baidu and Tencent have become dominant operators in China’s digital payments industry; Amazon is providing payment services and loans to merchants on its platform. - Amazon (since 2010, Luxemburg), Facebook (since 2016, Ireland), Google (since 2018, Lithuania), and Alipay (since 2018, Luxembourg) are operating under both payment and electronic money licenses in Europe. - Top 10 Fintech Companies in the World Based on Total Funding (as of September 11, 2020; Ranking based on amount of funding raised; Source: CrunchBase): - Ant Financial — China — Associated Bigtech Group: Alibaba - JD Digits — China — Associated Bigtech Group: JD - Du Xiaoman Financial — China — Associated Bigtech Group: Baidu - One97 — India — Associated Bigtech Group: Alibaba - QNB Group — Qatar — Associated Bigtech Group: n.a. - Lu.com — China — Associated Bigtech Group: n.a. - SoFi — United States — Associated Bigtech Group: n.a. - Kabbage — United States — Associated Bigtech Group: n.a. - Robinhood — United States — Associated Bigtech Group: n.a. - Greensill Capital — United Kingdom — Associated Bigtech Group: n.a. ### COVID-19 implications for fintech - Pandemic accelerated structural shift toward fully digital solutions and boosted demand for virtual financial services. - Behavioral shifts: - More goods purchased on-line paid with digital payment instruments. - Increased demand for digital lending services due to pandemic-induced liquidity pressures among firms and households and government guaranteed lending programs. - Implications: - Fintechs in payments may benefit as consumer habits rotate away from cash and brick-and-mortar PoS. - Platform-based fintechs that rely on secondary markets to fund lending and lack direct access to central bank liquidity may face pressures if risk aversion and delinquencies increase. - Increased risk aversion by traditional banks could open space for fintechs to boost small- and micro-enterprise lending. - Fintech business models are better suited to social distancing and remote work, favoring intermediaries with good ICT infrastructure and a higher share of IT-skilled employees. --- ### Payments: infrastructure, participants, and fee structure - Traditional card payment transactions involve: consumer, merchant, acquirer bank, issuer bank, and the payment card network. - Two-sided market dynamics: consumers want cards widely accepted; merchants want cards widely held. - Settlement usually takes one or two days; data exchange and approval occur within seconds. - Fee structure: - Merchant is charged the “merchant discount fee” by the merchant’s bank. - Merchant’s bank passes fees to the customer’s bank (interchange fee) and to the card network (network fee). - Interchange fees vary by card type, business size/industry, type of transaction, and regulation. - Infrastructure implications for fintech entry: - Access infrastructure: fintechs suited for online gateways; PoS physical infrastructure remains a challenge outside card networks. - Clearing infrastructure: - Two pan-European RTGS systems for large-value payments: TARGET2 (owned/operated by the Eurosystem) and EURO1 (privately owned/operated by the Euro Banking Association). - Retail payment systems are fragmented with several domestic ACHs; SEPA standards and STEP2 address fragmentation. - Instant payments are necessary to compete with card network instant authorization. ### Instant payments and pan-European initiatives - SEPA developments: - SEPA Credit Transfer (SCT) launched 2008: payments made before daily cut-off credited within one working day. - SCT Inst launched November 2017: clearing and settlement within 10 seconds, at any time, with a maximum amount of 15,000 euros per transaction; participants can agree to shorter execution times and higher maximum amounts. - EU instant payment infrastructure: - Two pan-European schemes: Target Instant Settlement Service (TIPS) and RT1, plus several national ACHs. - TIPS launched in 2018; settles in central bank money; seeks full-cost recovery with no entry/maintenance fees and a fixed charge per instant payment transaction—currently 0.002 euro. - RT1 launched in 2017 by EBA Clearing (owned by 53 major banks). - National examples: Bankgirot (Sweden) launched instant payments in 2012 (infrastructure behind Swish with about 7½ million private users); Finance Denmark established Straksclearing in 2014. - Adoption: - Over half of European PSPs participate in SCT Inst, covering 22 countries. - SCT Inst volumes grew to about 4.4 percent of total credit transfers by the third quarter of 2019. - One year into its launch, TIPS had 30 participants and about 1,000 reachable parties. --- ### Fintech payment innovations and selective examples - Full-suite providers: Adyen, Klarna — gateways for online payments, authentication, security, and processing via cards, e-wallets, and SEPA direct debit. - Domestic ACH-based solutions: iDEAL, BLIK rely on domestic ACHs to avoid card schemes. - Specialized providers: German Fraugsters (AI platform for fraud detection/prevention); U.K.’s Rapyd (platform to embed local payment methods into applications for cross-border access). - Banks adopting fintech innovations: - One-time dynamic security codes, fingerprint or face recognition (e.g., Apple Pay). - NatWest/RBS issued biometric fingerprint credit cards; Barclays offers finger vein reader technology to corporate customers. ### Case study — BLIK (Poland) - Express Elixir (Polish ACH) launched in 2012; guarantees nonstop clearings within seconds, bears no credit risk, and uses designated accounts at the national central bank. - BLIK: - Launched in 2015 as a joint venture of the six largest Polish banks; expanded to cover all major banks and payment institutions in the country. - During the second quarter of 2020, BLIK executed over 1 million transactions per day and was available to 13.1 million registered users. - Reach and usage: - Pay at about 110,000 online stores. - Make instant P2P money transfers via Express Elixir ACH. - Use 540,000 PoS terminals at brick-and-mortar stores. - Withdraw cash from about 90 percent of ATMs in Poland. - Initiate direct debit payments. - Over three quarters of BLIK transactions take place online, followed by ATMs, offline PoSs, and P2P transfers. - Security and authentication: - Banks’ app generates a one-time dynamic security code valid for two minutes, validated by the payment system and authenticated with a PIN in the bank’s app; vendor receives confirmation within a few seconds. - Strategic partnership: - By late 2019, BLIK’s parent company agreed to provide a seventh of its shares to MasterCard; MasterCard will enable contactless payments to BLIK users globally through integration with MasterCard Digital Enablement Service. --- ### Payment regulation objectives and selected directives - Regulatory objectives: increase transparency, strengthen consumer protection, stimulate innovation, improve level playing field through common technical standards and interoperability, and foster competition within and across borders. - Payment Service Directive (PSD I): - PSD I established a legal framework for EU payment service providers (2007). - Objective: enable Single Euro Payments Area (SEPA) for a unique cross-border market for electronic payments. - PSD I introduced the definition of “payment institutions” with authorization to provide payment services across the EU subject to capital and risk management criteria. - PSD I set business conduct rules: transparency requirements (including on fees), maximum execution time for payments, complaint procedures; regulated authorization/execution modalities, liabilities for unauthorized use or incorrect execution, refunds, payment order revocation, and value dating. - Member states were allowed to establish less stringent rules if they could guarantee the same level of consumer protection and trust in electronic payment services. - Card fee regulation: - Regulation on interchange fees for card-based payment transactions in Europe entered into force in June 2015; caps fees for consumer cards and imposes transparency obligations on banks and retailers. - In the US, regulation caps interchange fees only for debit cards—leading to differences in reward programs between US-issued credit cards and European cards. --- ### PSD II: scope, features, and implementation frictions - PSD II: - Opened the market to third-party providers enabling bank customers to use third parties to manage payments. - Extended scope to include third party providers, application of rules to transactions in all currencies, and one-leg-out transactions. - Transfers personal data ownership from banks to customers by enabling customers to grant third-party providers (AISPs) permission to access account data held by banks (ASPSP). - Regulates initiation of payments, internal dispute resolution procedures, and customer authentication. - Enables third parties to make payments to merchants directly from consumers’ accounts, circumventing card schemes, and to consolidate multiple accounts or financial services in one place. - Contains enhanced security requirements (see Annex II). - Implementation, standards, and legal frictions: - Transposition into national law across the EU has spanned several years; some legislative gaps remain. - PSD II mandated the EBA to develop technical standards and guidelines on payments security, authorization, passporting, and supervision. - PSD2 requires financial institutions to share customer data with regulated third parties if the customer provides consent but does not mandate a specific technology. - Initiatives for common API standards include NextGenPSD2 and Open Banking standards. - Banks have adopted a mixed approach seeking minimum compliance while being lukewarm to customer-led solutions and third-party access innovation. - Legislative overlap and tensions arise among PSD II, GDPR, Interchange Fee Regulation (IFR), and the AML 5th Directive; example tension: GDPR requires banks to protect customer data, while PSD II requires banks to provide customer accounts and transaction data to third party providers (with customer consent). --- ### Fintech lending: business models, market shares, and regulatory treatment - Distinguishing features of fintech lenders: - Use integrated digital platforms and interact with customers fully or largely online without human involvement. - Use AI/machine learning and unconventional data to evaluate creditworthiness. - Generally do not take deposits and therefore cannot create money through lending; investors do not have recourse to public guarantees. - Often bypass strict prudential regulations, supervision, and reporting that apply to traditional banks. - Characteristics: high degree of automation; low share of fixed assets; low capital requirements; low regulatory and compliance costs; digitally active and younger customer base; large shares of seed or venture capital in funding; large share of IT specialists among employees. - Main business models: - Peer-to-peer (P2P) lending: platform matches borrowers and investors; revenue via origination fees and servicing fees; in pure P2P platform takes no balance-sheet risk. - Crowdfunding: rewards, equity, and real estate crowdfunding; equity-based crowdfunding is typically the riskiest for investors. - Balance sheet model: fintech originates loans and assumes credit risk on its balance sheet; potential for maturity and liquidity mismatches. - Mixed models: many platforms combine models; one third of platforms use their own balance sheet together with retail and/or institutional investors. - Invoice trading: invoices used as collateral, sold in slices to multiple investors. - Market shares and selected figures: - In 2016, P2P consumer and business lending together accounted for about two-thirds of total volume in Europe, followed by crowdfunding (17 percent) and invoice trading (13 percent). - Mintos (continental Europe, early 2020, pre-COVID-19): - over 260,000 investors from 90 countries; - 350,000 loans in the primary market; - over 485,000 in the secondary market; - platform funded €5.7 billion in loans since 2015 with €709 million in loans outstanding; - average investment of around 4,300 euros is spread across 260 loans with an average participation of 17 euros per loan; - average interest rate of 11.9 percent; - 9 percent of outstanding loans are late more than 30 days; - most loans offer a buyback guarantee where originator pays principal and sometimes interest for loans more than 60 days late; - originators required to keep at least 5 percent of any loan in their portfolio on their balance sheet; - only 30 percent of originators provide audited financial statements; - 45 percent of originators are not profitable; - 80 percent of originators are less than ten years old; - platform charges originators fees usually of 3–5 percent of the loan values; - less than a third of loans sold in the secondary market are sold with a discount; - only one originator (from Poland) has gone bankrupt, defaulting on €550,000 in loans (recovery process proceeding in Poland). - Lending regulation and licensing: - Fintech lending services are regulated at EU or national level, or unregulated; no common fintech-specific regulations in Europe yet. - A general license is required to conduct certain financial activities regulated by EU law. - Passporting: if licensed in any EU or EEA country, a fintech can provide services across EEA under the passporting framework. - EBA survey: 14 percent of 282 sampled fintech firms are subject to national authorization or registration regime, while 31 percent are not subject to a regulatory regime under EU or national law (EBA, 2017). - Fintechs are typically not subject to bank licensing because the CRR defines “credit institution” as an undertaking that takes deposits or other repayable funds from the public and grants credits for its own account; most fintechs are non-deposit taking and thus do not qualify. - Survey: less than 10 percent of fintech companies are regulated as credit institutions under the CRR; fintech firms that possess customer funds are much more likely (62 percent) to be subject to an EU regulatory regime (EBA, 2017). --- ### Licensing and national rules for lending platforms; EU proposals - Licensing scope: - Lending to consumers is usually a licensable activity and is subject to regulations. - Conditions triggering a license requirement and license types differ across countries depending on platform design. - Examples: in Germany, lending or deposit businesses exceeding a certain scale require a license for lending to individuals on a P2P platform; platform operator may need a loan broker license or investment firm license. - National approaches and EU initiative: - As of 2019, about a third of European countries have dedicated rules for crowdfunding or P2P lending. - Some countries define activities subject to authorization and rules of conduct (e.g., Belgium and the UK); many set limits on amounts offered or invested. - Proposed EU single set of rules for European Crowdfunding Service Providers (ECSPs) covering lending- and investment-based crowdfunding; prospective ECSPs would need authorization from the national competent authority (NCA) and could provide cross-border services via notification. - Innovation offices, sandboxes, and incentives: - Innovation offices exist in most European regulatory authorities to provide regulatory clarification. - Regulatory sandboxes allow live testing with safeguards; UK is a frontrunner; sandboxes also in Austria, Denmark, Hungary, Lithuania, Netherlands, Poland, and Russia. - Policy incentives include tax and SME/startup supports: withholding tax exemptions on interest (Belgium, UK); tax credits for R&D (Ireland, Malta, Netherlands, Norway, Russia, Spain, UK); tax incentives for SMEs (Germany); tax relief for startups (Belgium, Ireland, Norway, Spain, UK). ### Consumer protection, AML/CFT, and effects on incumbents - National regulations prioritize consumer protection and AML/CFT issues. - AML/CFT rules: - EU-directive-based national AML/CFT rules often require fintech lending companies to conduct customer due diligence. - Applicability of stringent AML rules depends on whether the company is licensed as a financial institution (Belgium, Malta) or explicitly listed by the AML regulator as subject to AML rules (Netherlands). - Effects on incumbents: - Customer data mined with AI/ML can reduce costs and increase competition but raises misuse and privacy risks requiring cyber security and privacy safeguards. - Fintechs contest banks’ payment and retail business, benefiting from lower regulatory capital requirements. - Open banking erodes banks’ proprietary access to data and payment initiation privileges. - Banks face higher capital requirements and IT transition costs; IT-related expenses absorbed about a third of EU banks’ administrative expenses in 2018; less than one-fifth was spent on digital innovation and new technologies. - Share of EU banks whose equity price exceeds book value was only one third in 2019. - Some lending fintechs are evaluating whether benefits of deposit taking outweigh regulatory costs of becoming a bank. ### Strategic responses and market outcomes - Possible market structures: - Banks retain control of business decisions and customer data, outsourcing back-office functions and analytics to fintechs. - Banks become balance sheet providers while fintechs control proprietary data and business decisions. - Bank strategies: - More than 80 percent of banks have developed proprietary in-house technologies. - A similar share are engaged in commercial partnerships with external fintechs. - Other approaches: investing in fintechs, supporting accelerators, launching digital-only banks, acquiring fintech startups. - Large banks appear better placed to adapt due to scale economies and stronger financial positions. - Cross-border integration and pricing: - Europe remains far from a unified market; consumer prices for services vary greatly by country. - Consumers slow to adopt cross-border bank relationships; harmonized systems may not by themselves generate large cross-border linkages. - Caps on interchange fees led some banks to raise customer banking fees and curtail non-monetary benefits; reduced merchant fees have not always been passed to consumers. - Some European providers already set higher prices for services delivered within the euro area than for similar services delivered outside the euro area. - Market concentration and resilience: - Cost of adopting new technologies challenges medium and small banks and could force weaker banks out. - Collaboration between banks and fintechs is significant; bigtechs present distinct concern due to extensive data networks and resources. - Pandemic-related volatility and recession could test fintech resilience and funding durability, potentially increasing concentration in the fintech sector. - Accelerated digitalization due to COVID-19 represents opportunity for banks and fintechs that can pass the digital test. ### Conclusions and outlook - Fintech reach in Europe is lower than in other regions but rising. - Low penetration partly reflects high pre-existing banking presence, strict regulation, and cash preferences in some countries. - Transaction volumes and customer numbers are expanding domestically; new regulations and standards are expected to level the playing field and facilitate cross-border growth. - Automated lending models and platform-based approaches currently confined to unsecured consumer lending. - Trend for fintechs to expand by developing balance sheets and obtaining banking licenses. - Fintechs encroach on banks’ core profit centers via lower costs, leaner balance sheets, weaker regulatory requirements, and higher risk-taking. - Whether fintechs can significantly grow market shares and reshape traditional banks remains uncertain. - Traditional banks may preserve dominant positions if customers maintain preferences for secure and private transactions, but banks will need to embrace fintech tools in-house or by acquisition to remain globally competitive. - Further concentration and consolidation within the banking sector appear inevitable. --- ### Annex II — Security Requirements under PSD II - RTS on strong customer authentication (SCA) and common and secure communications (SCS) to be implemented by end-2020. - Strong Customer Authentication (SCA): - Response to fraud in on-line transactions. - Requires card-not-present authentication based on two or more elements categorized as knowledge (i.e., a PIN), possession (i.e., a smartphone), and inherence (i.e., fingerprint); allows exemptions for low-risk transactions. - Industry standard 3D secure is replacing static passwords with tokens and biometrics and introducing risk-based authentication. - Fintech solutions could exploit big data to identify and prevent fraud, reduce chargebacks, and tailor authentication. - Common and Secure Communications (SCS): - RTS envisage two possible secure communication channels provided by the ASPSP to the AISP or PISP. - Option 1 — Dedicated communication interface: an API with the same availability and performance as the customer’s interface. - Option 2 — Adapted customer interface: TPP accesses the customer’s account using their personalized security credentials with a secure authentication of the TPP. *Source: wpiea2020241-print-pdf (selected content from the chapter provided).* ### 1. From Cash to Cards: The Case of the Netherlands................................................8 ### From Cash to Cards: The Case of the Netherlands ### Overview and timeline - The Netherlands is one of the most “cashless” societies in the Euro Area. - Cash usage at the point-of-sale (PoS) fell from 85 percent of payments in 2002 to 45 percent in 2016 (Esselink and Hernandez, 2017). - In 1988, the Netherlands introduced a single national debit card scheme—the “PIN”—covering all card holders from all banks and all retailers that accepted cards. - Debit cards grew 9 per cent per year on average since 2010. ### Key institutional and market features that drove the shift - Single national scheme (PIN) increased convenience and reduced learning costs by ensuring interoperability across issuers and retailers. - Issuing banks did not levy transaction fees to encourage cardholder usage. - Merchant transaction fees were relatively low at 6–7 eurocents per transaction, below banks’ cost (McKinsey, 2006), and much less than the European average of around 2.5 percent of transaction value (European Commission, 2006). - The Dutch retail payment system had relatively advanced automation for processing retail payments, increasing efficiency. ### Cost analyses and behavioral responses - The social cost (capital and labor used) of commonly used PoS payments was estimated at 0.65 percent of GDP (Brits and Winder, 2005). - Cash was more cost effective for purchases below 11.63 euros (study baseline). - By 2009 the break-even point had dropped to 3.06 euros due to scale effects and technological developments. - Increased cost transparency and awareness among banks, retailers and consumer organizations contributed to greater debit card adoption. ### Policy actions and coordination - The Payment Covenant of 2005 offered merchants a 1 eurocent discount on card payments as an incentive. - An information campaign agreed upon by banks and retail organizations further promoted debit card acceptance. ### Observed outcomes (transaction volumes and values) - Number of PoS payment transactions and value of PoS payments show rising debit card use and declining cash use over 2010–2017 (data sources: DNB and Dutch Payment Association, 2019; Jonker, 2013). *Box prepared by Nicole Jonker and Wieger Kastelein from De Nederlandsche Bank.* ### 10. Bigtechs are also expanding in Europe. Bigtechs, the leading IT companies in the ### 10. Bigtechs are also expanding in Europe. Bigtechs, the leading IT companies in the world, have many competitive advantages in fintech services ### Market presence and top fintech companies - Bigtechs have advantages in fintech services: deep financial pockets, a vast customer base with valuable associated data, advanced technological capability and recognized branding. - Alibaba, Baidu and Tencent have become dominant operators in China’s digital payments industry; Amazon is providing payment services and loans to merchants on its platform. - Amazon (since 2010, Luxemburg), Facebook (since 2016, Ireland), Google (since 2018, Lithuania), and Alipay (since 2018, Luxembourg) are operating under both payment and electronic money licenses in Europe. - Table 1. Top 10 Fintech Companies in the World Based on Total Funding (Ranking based on amount of funding raised; Source: CrunchBase, as of September 11, 2020): - Ant Financial — China — Associated Bigtech Group: Alibaba - JD Digits — China — Associated Bigtech Group: JD - Du Xiaoman Financial — China — Associated Bigtech Group: Baidu - One97 — India — Associated Bigtech Group: Alibaba - QNB Group — Qatar — Associated Bigtech Group: n.a. - Lu.com — China — Associated Bigtech Group: n.a. - SoFi — United States — Associated Bigtech Group: n.a. - Kabbage — United States — Associated Bigtech Group: n.a. - Robinhood — United States — Associated Bigtech Group: n.a. - Greensill Capital — United Kingdom — Associated Bigtech Group: n.a. ### COVID-19 pandemic: challenges and opportunities for fintech - The pandemic accelerated the structural shift toward fully digital solutions, boosting demand for virtual financial services. - Behavioral shifts noted: - More goods purchased on-line paid with digital payment instruments. - Increased demand for digital lending services due to pandemic-induced liquidity pressures among firms and households and government guaranteed lending programs. - Implications for fintechs: - Fintechs operating in payments may benefit as consumer habits rotate away from cash and brick-and-mortar PoS. - Platform-based fintechs that rely on secondary markets to fund lending and lack direct access to central bank liquidity lines may face pressures if risk aversion and delinquencies increase. - Increased risk aversion by traditional banks could open space for fintechs to boost small- and micro-enterprise lending. - Fintech business models are better suited to social distancing and remote work, favoring intermediaries with good ICT infrastructure and a higher share of IT-skilled employees. ### Payments: infrastructure, participants, and fees - Traditional card payment transactions: multiple participants and steps. - Key participants: consumer, merchant, “acquirer bank” (merchant’s bank), “issuer bank” (consumer’s bank), and the payment card network. - Two-sided market with network externalities: consumers want cards widely accepted; merchants want cards widely held by customers. - Data exchange and approval occur within seconds; settlement usually takes one or two days. - Fee structure: - Merchant is charged the “merchant discount fee” by the merchant’s bank. - Merchant’s bank passes fees to the customer’s bank (interchange fee) and to the card network (network fee). - Interchange fees vary by card type, business size/industry, type of transaction, and regulation. - The prevailing payment infrastructure affects fintech entry strategies (collaboration vs disruption): - Access infrastructure: fintechs well-placed to provide online gateways; PoS physical infrastructure remains a challenge outside card networks. - Clearing infrastructure: - Two pan-European RTGS systems for large-value payments: TARGET2 (owned/operated by the Eurosystem) and EURO1 (privately owned/operated by the Euro Banking Association). - Retail payment systems are fragmented with several domestic ACHs; SEPA standards and STEP2 address fragmentation. - Instant payments are necessary to compete with card network instant authorization. ### Instant payments and pan-European initiatives (Box 2 highlights) - SEPA and instant payment developments: - SEPA Credit Transfer (SCT) launched 2008: payments made before daily cut-off credited within one working day. - SCT Inst launched November 2017: clearing and settlement within 10 seconds, at any time, with a maximum amount of 15,000 euros per transaction; participants can agree to shorter execution times and higher maximum amounts. - EU infrastructure for instant payments: - Two pan-European schemes: Target Instant Settlement Service (TIPS) and RT1, plus several national ACHs. - TIPS launched in 2018 as an extension of TARGET2; settles in central bank money; seeks full-cost recovery with no entry/maintenance fees and a fixed charge per instant payment transaction—currently 0.002 euro. - RT1 launched in 2017 by EBA Clearing (owned by 53 major banks). - National examples: Bankgirot (Sweden) launched instant payments in 2012 (infrastructure behind Swish with about 7½ million private users); Finance Denmark established Straksclearing in 2014. - Adoption and reach: - Over half of European PSPs participate in SCT Inst, covering 22 countries. - SCT Inst volumes grew to about 4.4 percent of total credit transfers by the third quarter of 2019. - One year into its launch, TIPS had 30 participants and about 1,000 reachable parties. ### Fintech payment innovations and examples - Fintech solutions span full-suite payment providers and specialized services: - Full-suite providers: Adyen, Klarna — offer gateways for online payments, authentication, security, and processing via cards, e-wallets, and SEPA direct debit. - Domestic ACH-based solutions: iDEAL, BLIK rely on domestic ACHs to avoid card schemes. - Specialized providers: German Fraugsters offers an AI platform for fraud detection/prevention; U.K.’s Rapyd provides a platform to embed local payment methods into applications for cross-border access. - Banks adopting fintech innovations: - Use of one-time dynamic security codes, fingerprint or face recognition (e.g., Apple Pay). - NatWest/RBS issued biometric fingerprint credit cards; Barclays offers finger vein reader technology to corporate customers. ### Case study — BLIK (Box 3) - Domestic ACH context: - Express Elixir (Polish ACH) launched in 2012; guarantees nonstop clearings within seconds, bears no credit risk, and uses designated accounts at the national central bank. - BLIK platform: - Launched in 2015 as a joint venture of the six largest Polish banks; expanded to cover all major banks and payment institutions in the country. - During the second quarter of 2020, BLIK executed over 1 million transactions per day and was available to 13.1 million registered users. - Reach and usage: - Pay at about 110,000 online stores. - Make instant P2P money transfers via Express Elixir ACH. - Use 540,000 PoS terminals at brick-and-mortar stores. - Withdraw cash from about 90 percent of ATMs in Poland. - Initiate direct debit payments. - Over three quarters of BLIK transactions take place online, followed by ATMs, offline PoSs, and P2P transfers. - Security and authentication: - Banks’ app generates a one-time dynamic security code valid for two minutes, validated by the payment system and authenticated with a PIN in the bank’s app; vendor receives confirmation within a few seconds. - Strategic partnership: - By late 2019, BLIK’s parent company agreed to provide a seventh of its shares to MasterCard; MasterCard will enable contactless payments to BLIK users globally through integration with MasterCard Digital Enablement Service. ### Payment regulation objectives and key directives - Regulatory objectives: increase transparency, strengthen consumer protection, stimulate innovation, improve level playing field through common technical standards and interoperability, and foster competition within and across borders. - Payment Service Directive (PSD I) highlights: - PSD I established a legal framework for EU payment service providers (2007). - Objective: enable Single Euro Payments Area (SEPA) for a unique cross-border market for electronic payments. - PSD I introduced the definition of “payment institutions” with authorization to provide payment services across the EU subject to capital and risk management criteria. - PSD I set business conduct rules: transparency requirements (including on fees), maximum execution time for payments, complaint procedures; regulated authorization/execution modalities, liabilities for unauthorized use or incorrect execution, refunds, payment order revocation, and value dating. - Member states were allowed to establish less stringent rules if they could guarantee the same level of consumer protection and trust in electronic payment services. - While PSD I integrated retail payments in the EU, regulatory gaps and cross-border fragmentation persisted as technology evolved. - Card fee regulation: - Regulation on interchange fees for card-based payment transactions in Europe entered into force in June 2015; caps fees for consumer cards and imposes transparency obligations on banks and retailers. - In the US, regulation caps interchange fees only for debit cards—leading to differences in reward programs between US-issued credit cards and European cards. *Source: wpiea2020241-print-pdf (selected content from the chapter provided).* ### 23. The 2015 Payment Service ### 23. The 2015 Payment Service Directive (PSD II) ### PSD II: Scope and key features - Opened the market to third-party providers enabling bank customers to use third parties to manage payments. - Extended scope of payment services to include: - third party providers; - application of rules to transactions in all currencies; - one-leg-out transactions (transactions with parties outside the European Economic Area). - Transfers personal data ownership from banks to customers by enabling customers to grant third-party providers (Account Information Service Providers—AISPs) permission to access account data held by banks (which become Account Servicing Payment Service Providers—ASPSP). - Regulates: - initiation of payments; - internal dispute resolution procedures; - customer authentication. - Enables third parties to: - make payments to merchants directly from consumers’ accounts, circumventing card schemes; - consolidate multiple accounts or financial services in one place. - Contains enhanced security requirements (see Annex II). ### Implementation, standards, and legal frictions - Transposition into national law across the EU has spanned several years; some legislative gaps remain. - PSD II mandated the European Banking Association (EBA) to develop technical standards and guidelines on payments security, authorization, passporting, and supervision. - PSD II intended to be non-prescriptive to facilitate innovation and adaptation to member states’ circumstances. - PSD2 requires financial institutions to share customer data with regulated third parties if the customer provides consent but does not mandate a specific technology. - Initiatives for common API standards include NextGenPSD2 and Open Banking standards. - Banks have adopted a mixed approach seeking minimum compliance while being lukewarm to customer-led solutions and third-party access innovation. - Lack of a common framework across the UK and the EU markets has tended to stall innovation. - Legislative overlap and tensions arise among PSD II, GDPR, Interchange Fee Regulation (IFR), and the AML 5th Directive; example tension: - GDPR requires banks to protect customer data, while PSD II requires banks to provide customer accounts and transaction data to third party providers (with customer consent). ### Lending — Business models in fintech lending: distinguishing features - Fintech lenders typically: - use integrated digital platforms and interact with customers fully or largely online without human involvement in individual transactions; - use innovative methods to process large amounts of customer information and evaluate creditworthiness (e.g., artificial intelligence/machine learning algorithms based on big data and unconventional information, including digital footprints); - generally do not take deposits and therefore cannot create money through lending; investors do not have recourse to public guarantees. - Consequences and common characteristics: - often bypass strict prudential regulations, supervision, and reporting that apply to traditional banks; - do not have access to convenient and cost-effective deposit funding; - high degree of automation; - low share of fixed assets; - low capital requirements; - low regulatory and compliance costs; - focus on convenience and simplicity in customer experience; - digitally active and younger customer base; - large shares of seed or venture capital in funding; - large share of IT specialists among employees. ### Main fintech lending business models (high-level) - Peer-to-peer (P2P) lending: - most common in Europe; - platform standardizes loan application and directly matches borrowers and investors; - fintech verifies borrower information and assigns credit rating used to set interest rate; - revenue via origination fees on borrowers and servicing fees on investors; - in pure P2P the platform takes no balance-sheet risk; no maturity or liquidity transformation; loan contract signed directly between borrower and investor; - investors can be individuals or institutions; some platforms have secondary markets; platforms encourage diversification across multiple loans and offer automatic portfolio exposure based on investor-selected risk category and terms. - Crowdfunding: - digital marketplace similar to P2P but facilitates several types of investment products; - for-profit models include: i. rewards crowdfunding; ii. equity crowdfunding; iii. real estate crowdfunding; - equity-based crowdfunding is typically the riskiest for investors. - Balance sheet model: - fintech originates loans and assumes credit risk on its balance sheet; - obtains debt or equity funding and records loans on balance sheet; - potential for significant maturity and liquidity mismatches; - key difference from banks: absence of deposit funding. - Mixed models: - many platforms combine models; few run exclusively balance-sheet models; - reliance on balance sheet funding has been on the rise, with one third of platforms using their own balance sheet together with retail and/or institutional investors; - example: in the UK, 40 percent of lending done by peer-to-peer platforms involves some sort of balance sheet funding (Cambridge Center for Alternative Finance, 2017). - Invoice trading: - similar to P2P with individual invoices used as collateral; - platform verifies invoices, sells invoice slices to multiple investors to diversify risk; - seller (usually an SME) can set auction minimum pricing or parameters for advance rate and discount rate; - when invoice is paid, platform makes remaining balance minus fees available to the business. ### Market shares and activity (selected figures) - In 2016, P2P consumer and business lending together accounted for about two-thirds of total volume in Europe, followed by crowdfunding (17 percent) and invoice trading (13 percent). - In continental Europe, as of early 2020 (pre-COVID-19), Mintos (a P2P platform) statistics: - over 260,000 investors from 90 countries; - 350,000 loans in the primary market; - over 485,000 in the secondary market; - platform funded €5.7 billion in loans since 2015 with €709 million in loans outstanding; - average investment of around 4,300 euros is spread across 260 loans with an average participation of 17 euros per loan; - average interest rate of 11.9 percent; - 9 percent of outstanding loans are late more than 30 days; - most loans offer a buyback guarantee where originator pays principal and sometimes interest for loans more than 60 days late; - originators required to keep at least 5 percent of any loan in their portfolio on their balance sheet; - only 30 percent of originators provide audited financial statements; - 45 percent of originators are not profitable; - 80 percent of originators are less than ten years old; - platform charges originators fees usually of 3–5 percent of the loan values; - less than a third of loans sold in the secondary market are sold with a discount; - only one originator (from Poland) has gone bankrupt, defaulting on €550,000 in loans (recovery process proceeding in Poland). ### Lending regulation - Fintech lending services are regulated at EU or national level, or unregulated; no common fintech-specific regulations in Europe yet. - A general license is required to conduct certain financial activities regulated by EU law, including banking services, payment, clearing and settlement services, and financial market services. - If licensed in any EU or EEA country, a fintech can provide financial services across EEA member states under the passporting framework by establishing a branch or on a cross-border basis. - Activities outside EU law and not eligible for passporting may still be subject to national regulations. - EBA survey: 14 percent of 282 sampled fintech firms are subject to national authorization or registration regime, while 31 percent are not subject to a regulatory regime under EU or national law (EBA, 2017). - Outside EU/EEA, passporting is rare; some financial centers accept foreign financial services without requiring local presence (example cited: Switzerland). - Fintech lending companies are typically not subject to bank licensing requirements because the EU Capital Requirement Regulation (CRR) defines a “credit institution” as an undertaking that takes deposits or other repayable funds from the public and grants credits for its own account; most fintechs are non-deposit taking and thus do not qualify. - Survey: less than 10 percent of fintech companies are regulated as credit institutions under the CRR; fintech firms that possess customer funds are much more likely (62 percent) to be subject to an EU regulatory regime (EBA, 2017). *Source: wpiea2020241-print-pdf - 23. The 2015 Payment Service* ### 30. The operation of a lending platform may still be subject to certain license and ### wpiea2020241-print-pdf - 30. The operation of a lending platform may still be subject to certain license and ### Licensing and regulatory scope for lending platforms - Lending to consumers is usually a licensable activity and is subject to regulations. - Conditions triggering a license requirement and license types differ across countries depending on platform design. - Examples of licensing and authorization requirements: - In Germany, lending or deposit businesses exceeding a certain scale require a license for lending to individuals on a P2P platform. - A platform operator may need to obtain a loan broker license or investment firm license. - Licensable activities also include provision of investment advice or payment services. - Public offering of investment products may trigger a requirement to publish a prospectus too. ### National rules and EU-level proposals - As of 2019, about a third of European countries have developed dedicated rules for crowdfunding or P2P lending. - National approaches: - Some countries (e.g., Belgium and the UK) define activities subject to an authorization requirement and rules of conduct for crowdfunding firms. - Many crowdfunding regulations set limits on the amount of investment offered in the platform or the amount of investment by an individual investor. - In jurisdictions without specific rules, regulatory requirements for fintechs are determined on a case-by-case basis under general financial and company legislation. - Some countries have issued guidance to clarify applicable regulations or best practices (e.g., Germany and Estonia). - EU-wide initiative under discussion: - Proposed single set of rules for European Crowdfunding Service Providers (ECSPs) covering lending- and investment-based crowdfunding. - Prospective ECSPs would need authorization from the national competent authority (NCA) of the member state in which they are established. - Supervision would be carried out by NCAs with the help of ESMA, and to a lesser extent the EBA, to facilitate coordination, aggregated statistics, and technical standards. - Rules will focus mainly on investor protection and increased transparency. - Through a notification procedure in a member state, ECSPs would be able to provide services cross-border. ### Innovation offices, regulatory sandboxes, and incentives - Innovation offices: - Established to provide regulatory clarification to financial service providers offering innovative products and services. - Most countries in Europe have established some type of innovation office at regulatory authorities. - Regulatory sandboxes: - Allow market participants to test new financial services or business models with live customers, subject to safeguards and oversight. - Can be used to evaluate rules or regulations. - The UK is a frontrunner; sandboxes have also been established in Austria, Denmark, Hungary, Lithuania, Netherlands, Poland, and Russia. - Policy incentives to develop fintech: - Many countries provide tax or other incentives to encourage innovation and investment in fintech (often via SME/startup support). - Examples of incentives listed: - Withholding tax exemption on interest under P2P or crowdfunding loans (Belgium, UK). - Tax credit for R&D expenditure or for innovative enterprises (Ireland, Malta, Netherlands, Norway, Russia, Spain, UK). - Tax incentives for SMEs (Germany). - Tax relief for startups or investments in startups (Belgium, Ireland, Norway, Spain, UK). ### Consumer protection and AML/CFT focus - National regulations prioritize consumer protection and AML/CFT issues. - Given the small scale of lending, financial stability concerns do not appear dominant at this time. - Conduct regulation and disclosure requirements are often applied to fintech companies. - AML/CFT rules: - EU-directive-based national AML/CFT rules often require fintech lending companies to conduct customer due diligence. - Applicability of stringent AML rules depends on whether the company is licensed as a financial institution (Belgium, Malta) or explicitly listed by the AML regulator as subject to AML rules (Netherlands). - Otherwise, fintechs face general AML obligations or recommendations that apply broadly. ### Effects of fintech innovation on incumbent financial firms - Data and technology implications: - Customer data can be mined using artificial intelligence and machine learning to reduce costs, provide new services and increase competition. - Efficiency gains must be weighed against risks of misuse and breach of customer privacy, requiring cyber security and privacy safeguards and regulation of data ownership and handling. - Implications for adequacy of existing consumer and investor protections. - Competitive threats and areas of contestation: - Fintechs are poised to contest banks’ payment and retail business, key profit sources. - Payment services require little regulatory capital, lowering entry hurdles for fintechs. - Fintechs have tended to focus on higher risk lending segments where capital requirements make bank participation costly and where new data analytics can improve risk pricing. - Open banking erodes banks’ proprietary access to data and payment initiation privileges, increasing competition and potentially reducing bank revenues. - Fintechs may pressure smaller regional banks’ local monopolistic positions. ### Scenarios for banks’ future roles and strategic responses - Possible market structures: - Banks may retain control of business decisions and customer data, outsourcing back-office functions and analytics to fintechs. - Alternatively, banks could become balance sheet providers while fintechs control proprietary data and business decisions. - Uncertainty exists whether standalone fintechs can earn full customer trust across services such as PoS payments. - Bank strategies in response to fintech competition: - More than 80 percent of banks have developed proprietary in-house technologies. - A similar share are engaged in commercial partnerships with external fintechs. - Other approaches include investing in fintech companies, supporting fintech accelerators, launching standalone digital-only banks, and acquiring successful fintech startups. - Large banks appear better placed to adapt due to scale economies and stronger financial positions. - Cost and regulatory asymmetries: - Banks face higher capital requirements than peer-to-peer lenders and additional expenses to invest in new technologies and transition from legacy systems. - IT-related expenses absorbed about a third of EU banks’ administrative expenses in 2018; less than one-fifth was spent on digital innovation and new technologies. - Share of EU banks whose equity price exceeds book value was only one third in 2019. - Post-GFC tightening of capital and liquidity requirements has created arbitrage opportunities for fintechs while banks deleveraged. - Some lending fintechs are evaluating whether benefits of deposit taking outweigh regulatory costs of becoming a bank (including digital-only transformation). ### Cross-border integration, pricing, and market concentration - Cross-border integration: - Europe remains far from a unified market; prices for consumer services vary greatly by country. - Consumers have been slow to adopt cross-border bank relationships, so harmonized payments systems may not by themselves generate large cross-border linkages. - Increasing transparency and technology could either motivate cross-border choices or cause uniformly priced services that preserve home-country bias. - Pricing impact on consumers: - Increased competition and lower entry barriers do not guarantee lower final prices for consumers. - Examples: caps on interchange fees led some banks to raise customer banking fees and curtail non-monetary benefits; reduced merchant fees have not always been passed to consumers. - Some European providers already set higher prices for services delivered within the euro area than for similar services delivered outside the euro area. - Market concentration and resilience: - The cost of adopting new technologies is a challenge for medium and small banks and could force weaker banks out. - Collaboration between banks and fintechs is significant; bigtechs present a distinct concern due to extensive data networks and financial/technological resources. - Pandemic-related volatility and recession could test fintech resilience and funding durability, potentially increasing concentration in the fintech sector. - Accelerated digitalization due to COVID-19 represents opportunity for banks and fintechs that can pass the digital test. ### Conclusions and outlook - Fintech reach in Europe: - Fintech companies’ reach and development in Europe are lower than in other regions but are on the rise. - Low penetration partly reflects high pre-existing banking presence, strict regulation, and preferences in some countries for cash transactions. - Transaction volumes and customer numbers are expanding domestically; new regulations and standards are expected to level the playing field and facilitate cross-border growth. - Strategic implications: - Automated lending models and platform-based approaches are currently confined to unsecured consumer lending. - A trend exists for fintechs to expand by developing balance sheets and obtaining banking licenses. - Fintechs are encroaching on traditional banks’ core profit centers by competing through lower costs, leaner balance sheets, weaker regulatory requirements, and higher risk-taking. - Whether fintechs can significantly grow market shares and reshape traditional banks remains uncertain. - Traditional banks may preserve dominant positions if European customers maintain preferences for secure and private transactions, but banks will need to embrace fintech tools in-house or by acquisition to remain globally competitive. - Further concentration and consolidation within the banking sector appear inevitable. *Italic source: wpiea2020241-print-pdf - 30. The operation of a lending platform may still be subject to certain license and regulatory requirements* ### Annex II. Security Requirements Under PSD II ### Annex II. Security Requirements Under PSD II ### Overview - The security requirements are underpinned by the Regulatory Technical Standards (RTS) on strong customer authentication (SCA) and common and secure communications (SCS) to be implement by end-2020. ### Strong Customer Authentication (SCA) - Purpose and response: - The regulation is a response to fraud in on-line transactions. - Authentication requirements: - It requires card-not-present authentication based on two or more elements categorized as knowledge (i.e., a PIN), possession (i.e., a smartphone), and inherence (i.e., fingerprint); while allowing exemptions for low-risk transactions. - Industry standards and technologies: - Card networks authentication have an optional additional security layer for on-line transactions (3D secure). - To comply with SCA this industry standard is replacing a static password with tokens and biometrics, while introducing risk-based authentication with improved datasets. - Role of fintech: - Fintech solutions could exploit big data to identify and prevent fraud (reducing chargebacks), and tailor authentication to reduce fraud while enhancing the customer’s experience. ### Common and Secure Communications (SCS) - RTS envisaged approaches: - The RTS envisage two possible secure communication channels provided by the ASPSP to the AISP or PISP. - Option 1 — Dedicated communication interface: - A dedicated communication interface with the same availability and performance as the customer’s interface. - This is an Application Programming Interface (API) which takes a request from a third-party provider (TPP) and provides an answer. - Option 2 — Adapted customer interface: - By adapting the customer on-line banking interface, with the TPP accessing the customer’s account using their personalized security credentials with a secure authentication of the TPP. *Source: IMF Staff calculations as presented in Annex II. Security Requirements Under PSD II.* --- _Source: https://www.imf.org/-/media/files/publications/wp/2020/english/wpiea2020241-print-pdf.pdf_