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November 29, 2010

Prepaid in the mobile channel: Balancing financial inclusion and risk management

Payment services are coming to your mobile device—even though consumer adoption remains low in the United States, as are near-term prospects in light of reports about security concerns. Financial institutions, carriers, and others are experimenting with trial products and services to try to understand and respond to consumer demand for mobile services. Here in the U.S., the mobile device is emerging as an access device for legacy payment mechanisms like credit and debit cards or deposit account transfers. A viable payment mechanism for consumers to access via the mobile channel may be stored value, using the cell phone instead of a plastic card as the form factor. With the recent economic downturn, prepaid is emerging as an alternative to paper-based payments, allowing some consumers with limited access to credit to continue to participate in the electronic economy.

Some prepaid products carry potential risks because of the anonymity associated with them. The question we face is, how will we balance the potential risks of identity theft and money laundering as prepaid services shift to the mobile channel?

Recent growth in prepaid
Prepaid cards are growing in popularity, especially with the advent of reloadable, open-loop payroll cards that are branded by the major card networks and accepted at ATMs and merchants' points-of-sale. (Open-loop cards are those that consumers can redeem at different establishments. Closed-loop cards are those that the consumer can redeem at a specific establishment, which is also the issuing provider.) Since many carriers have offered prepaid airtime plans for years, the transition to a prepaid "mobile wallet" may be a seamless one. The mobile wallet is expected to operate the same way as a prepaid card, with monetary value loaded and stored on it. Because stored-value cards allow unbanked and underbanked consumers to participate in the electronic economy, their use is growing.

Open loop cards growing faster than closed loop
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Growing population of underbanked consumers
Financially mainstream consumers in the U.S. already have a multitude of safe, secure, and reliable payment choices, so they have little incentive to use their cell phones to access those payments. But a growing segment of the population is underserved by mainstream financial services. ("Underserved" individuals are those who may have a checking or savings account but rely on alternative financial services such as nonbank money orders, check-cashing services, payday loans, or pawn shops.) The increase of the underserved is in part a reflection of the weak economy, high unemployment, and reduced access to credit for many consumers. The FDIC estimates that 7.7 percent of U.S. households are unbanked and an additional 17.9 percent are underbanked.

It might be useful to compare the U.S. unbanked market to those in other countries where mobile payments and banking initiatives are in various stages of deployment.

Statistics on the unbanked populations in developed and emerging markets
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Emerging markets, such as sub-Saharan countries and India, with higher populations of consumers without access to traditional financial services are experiencing rapid adoption of mobile financial services. For example, the success of M-PESA, a mobile phone-based financial service offered by Kenya's Safaricom, has become a business model for other developing countries. In the three years since its inception, M-PESA's customer base has reached 9 million users.

Growth of M-PESA customer base
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Improving security and risk management of prepaid mobile
A number of improvements have been made in recent years in the way some prepaid cards—like payroll cards, for example—can be monitored. Open-loop cards that are branded by the major networks allow the owner to contact the issuing payment service provider if the payment card or device is lost or stolen. And many prepaid issuers will provide periodic statements detailing balances and fees. Still, concerns remain with gift cards and other closed-loop products that may not include the security features of the open-loop cards. In response to these concerns, FinCEN's proposed rulemaking should provide the industry with guidance on how to exercise oversight and control in prepaid transactions.

With respect to the mobile handset, technology is changing rapidly and the potential for improved security in the handset for authentication and identity credentialing looks promising. Given the ability for prepaid issuers to tighten the controls in card registration processes, the mobile device may be a more secure channel than today's card-based prepaid alternatives. In that case, we may see the prepaid services driving consumer confidence for more mobile-based financial services going forward.

By Cindy Merritt, assistant director of the Retail Payments Risk Forum

November 29, 2010 in identity theft, mobile payments, money laundering, prepaid | Permalink

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