The future of payments is brighter than ever, with a host of new, innovative solutions emerging that promise to unlock an instant, 24/7/365 and fully transparent future. Amid this change, Michael Bellacosa, Head of Global Payments Product Management, Treasury Services, BNY Mellon, and Vivek Kohli, Emerging Technology Head, Treasury Services Digital Office, BNY Mellon, explore what banks must do to keep pace.

Following years of limited innovation, significant change is afoot in the payments space. An array of industry initiatives and digital capabilities are emerging – promising to forever change the way we process transactions. In fact, tomorrow’s payments world may look unrecognizable, with instant, 24/7/365 and fully transparent payments set to become the new norm.

Yet, while this might be the final destination, there is no fixed route for the industry to take. SWIFT gpi, SWIFT’s Transaction Manager, artificial intelligence (AI), distributed ledger technology (DLT) and digital currencies – to name just a few – are each paving the way towards greater speed, transparency and efficiency

Taken together, these solutions are proving to be greater than the sum of their parts. As such, banks should begin to invest in as many of these industry trends as possible to build a comprehensive toolkit of payment solutions – allowing them to best meet the needs of their clients now and in the future.

Innovation through collaboration

The industry has already taken huge steps forward on the path to enhance payments. To achieve this, collaboration – on industry-wide initiatives and the development of innovative new technologies – has been crucial.

One of the most powerful transaction banking developments in recent years has been SWIFT gpi, which, by addressing many of the frictions that have long encumbered cross-border payments, enables real-time tracking and visibility over a transaction’s lifetime. Since first launching in 2017, the scope of SWIFT gpi has also expanded to offer additional capabilities that are driving efficiencies in the pre- and post-payment processing stages, including the gpi Case Resolution service (gCASE) and the gpi Stop and Recall (gSRP) service.

Most recently, SWIFT – with the help of a number of global banks, including BNY Mellon – has begun work on a new platform to further reduce the remaining frictions in the cross-border payments space. Known as the Transaction Manager, the platform will faciliate the transition from the traditional message-based system, in which each party involved in a transaction acts somewhat independently of the last, to a payments system in which the end-to-end lifecycle of a transaction can be managed across all parties. This, in turn, will help to reduce duplicate processes and streamline execution, while enabling transparent, predictable and secure payments.

Elsewhere, banks – internally and with external partners – are exploring the application of AI for fraud monitoring, compliance and simple customer inquiries, as well as liquidity management and payment channel optimization. The technology can read great swathes of data to discover patterns, gather insights and, in turn, recommend actions that lead to operational efficiencies and an improved client experience.

Another key innovation being explored is DLT, a decentralized ledger that can record and store the details of multiple transactions with full transparency on a shared network. While DLT is already being leveraged by banks, much of its potential – including the eventual facilitation of instant payments settlement – remains untapped.

The digital currency universe

One of the many solutions that banks are exploring to enhance payments is digital currencies, which are developing rapidly and offer incredible potential for the payments industry. As a form of token-based money, digital currencies can be held directly by participants of a transaction, and can therefore be transferred directly and instantly from one party to another on a peer-to-peer (P2P) basis – removing the need for the centralized third-party intermediaries that underlie the current settlement process.

Digital currencies is an umbrella term for a form of currency that is only available in digital or electronic form, and is typically broken down into three main categories: cryptocurrencies, central bank digital currencies (CBDCs) and stablecoins. A cryptocurrency uses encryption techniques to control the creation of monetary units and verify the transfer of funds. Though these currencies have gained some traction among the public, most governments, central banks and financial institutions (FIs) remain cautious of their use – a result of their highly volatile prices, limited scalability, complicated user interfaces and issues in governance and regulation.

CBDCs are essentially the digital form of a fiat currency and are issued and regulated by the monetary authority of a country or region. Approximately 80% of the 66 central banks that took part in a recent survey by the Bank for International Settlements (BIS) indicated that they are engaging in work pertaining to CBDCs – seeking to leverage the improved security, visibility, efficiency and costs these currencies promise. And while several projects are now well underway, including the People’s Bank of China’s digital renminbi, the Bank of Thailand’s Project Inthanon and the Bank of Canada’s Project Jasper, to name but a few, these remain a long way off – not least because of the regulatory and operational uncertainties that surround CBDCs.

Stablecoins could be described as the mid-point between cryptocurrencies and CBDCs – with many seeing them as the logical stepping stone between the two. Unlike cryptocurrencies, stablecoins have an intrinsic value. This can be achieved in a number of different ways – the coin could be issued with a specified face value; the value could be linked to an underlying set of assets; or it could be backed by a claim against the issuer. Regardless of the method used, the result is the same – a far more “stable” and less volatile coin than its cryptocurrency counterparts.

Applying digital currencies

Given the issues with cryptocurrencies and the number of question marks hanging over the successful and widespread implementation of CBDCs, stablecoins likely offer the most immediate potential to contribute to the evolution of payments – delivering benefits in three key areas: securities settlement, cross-currency FX swaps and cross-border payments.

As a trusted digital currency, it would be possible to apply stablecoins to the payment leg in a delivery-versus-payment (DvP) digital asset settlement. Under the current model, two distinct platforms are used to settle these transactions – one processing the settlement leg regarding the transfer of securities, and one processing the payment leg regarding the transfer of funds. To offset settlement risk, the securities leg is only implemented after the payment has been finalized, thereby delaying the process. With stablecoins, however, the payment leg can be tokenized – meaning that both legs of the transaction can be completed instantly in an atomic transaction on a P2P basis. Such an approach could lead to a reduction in settlement risk, counterparty credit risk, capital costs, third-party costs and reconciliation efforts.

Stablecoins could also be applied to payment-versus-payment (PvP) transactions to enable cross-border FX payments to be made in real-time, 24/7/365. Currently, if a bank needed to perform a same-day cross-currency FX swap, it would need to factor in cut-off times – greatly limiting the window in which the bank can perform the transaction. By using a tokenized model, however, the bank could execute the same swap with far more freedom – using the stablecoin to transfer and exchange funds almost instantly. This would free up capital for the bank that would have previously sat as an assurance against the unsettled trade, reduce the high fees associated with FX swaps and increase transparency.

In addition, if the tokenized payment model comes of age, it could one day fundamentally change the way cross-border payments are processed. By settling payments on a P2P basis, and facilitating a 24/7/365 system, the correspondent banking model – in which a transaction is passed between multiple intermediary parties before reaching the end beneficiary – would no longer be required. For now, however, correspondent banking is not going anywhere – with numerous developments, including SWIFT gpi, working to reduce the pain points of the current model.

 The new era for payments

A new payments era is fast unfolding and with it comes an array of innovative solutions that each look likely to bring about an instant, 24/7/365 and fully transparent future. While the journey towards this future is now well underway, the path to get there is by no means set in stone. In fact, multiple paths lie ahead, with no single solution likely to act as a silver bullet. As a result, banks need to continue to invest in the full range of industry initiatives and emerging technologies – building out a comprehensive toolkit to ensure they can continue to serve the varied and evolving needs of their clients.

To find out more, read BNY Mellon’s new two part whitepaper Innovation in Payments

The views expressed herein are those of the authors only and may not reflect the views of BNY Mellon. This does not constitute Treasury Services advice, or any other business or legal advice, and it should not be relied upon as such.