Portals & Rails
December 06, 2010
Tough decisions: Fighting fraud in a free market
Over the past two years, despite a stagnant economy, the U.S. payments system has harvested the benefits of a free market: the generation of hundreds of innovative ideas. Mobile payment pilots, P2P offerings, remote banking services, small merchant credit card approval tools, and at-home remote deposit capture services for checks are only a sampling of the new ideas, many of which came from nonbank participants. Inevitably, this type of innovation and competition will result in more choices at more reasonable prices for American consumers and businesses.
This extraordinary explosion of payments system creativity stems not only from the benefits of free market capitalism, but also from the historical fact that our payments system enjoys substantially less oversight than other advanced economies. While we have a considerable array of consumer protection regulations in place in the United States, we do not have any specific government body charged with determining and enforcing overall payments policies and practices. Unlike much of Asia, Europe, the Far East, and Australia, there are no competition authorities, payments councils, commissions, or boards that set policy across payments channels. The Federal Reserve does not play as strong a role in governing payments as do the European Central Bank, the Bank of Japan, or the Reserve Bank of Australia. Congress has passed no comprehensive payments law such as the Payments Services Directive in Europe or the Payments Services Act in Japan. Predictably, then, we see the type of lively and innovative payments market in place in the United States today.
The downside of freedom
But, in the words of that great college football guru, Lee Corso, "Not so fast, my friends!" With the freedom to innovate also comes the freedom to do bad things. Said differently, there exists an inconsistent appreciation or concern for the necessary integrity of payments products and services. Entrepreneurs are not given the responsibility to ensure that their ideas can pass muster in the public policy arena. Their first concern is the marketability of their glitzy new product, not its protection against intrusion or susceptibility to fraud. While we can argue that banks by their very nature are more steeped in the tradition of focusing on integrity and security as key elements in payments services, the same is probably not as true for the large number of new nonbank players entering the payments world. Certainly, some such companies, particularly those run by experienced financial services professionals do get the message, but many do not. We can assume that as less secure products and services are deployed, bad things will happen and lessons will be learned that bring about a reformation. In the meantime, many consumers and businesses may be seriously impaired.
The likely result of such experiences, however, may be the further engagement of Congress—and, ultimately, government—to devise remedies for the failings of a highly innovative payments system. Over time, we have seen some of this in the form of targeted legislation intended to fix problems or reign in abuses. Payments-related controls are embedded in the Expedited Funds Availability Act (EFAA), the Patriot Act, the CARD (Credit Card Accountability Responsibility and Disclosure) Act, and the recent Financial Reform Act. But none of the past legislative efforts have been comprehensive. The EFAA focused on checks, the Patriot Act on cross-border payments, the CARD Act on credit cards, and the Durbin Amendment to the Financial Reform Act on debit cards. The specific rules and controls for operating our various payments systems are resident in the requirements of the card companies, the NACHA rules for ACH, and Fed and ECCHO (Electronic Check Clearing House Organization) rules for check image exchange. In essence, the integrity of our payments system relies as much on vigorous self-policing as it does on law making. In fact, one could argue that law making is the predictable successor to bad self-policing.
The challenge to self-police
So the challenge for the payments industry, in an era of explosive technological development and worldwide connectivity, is to become much more focused on the issues associated with protecting the integrity of the payments system. Such attention needs to encompass a wide range of concerns, including data privacy, fraud mitigation, and financial stability. We cannot continue to build solutions that allow customer accounts to be taken over, identities to be stolen, and terrorist financing and money laundering to prosper. If we do, than we can be certain that Congress will move to clamp down, either on a piecemeal basis or more comprehensively, following models in place elsewhere. Ultimately, it is up to the industry as a whole, through its individual parts and representative groups, to get serious about its deficiencies within and across silos. In difficult financial times, it is hard to contemplate spending more on protecting the payments system when so many other priorities call. But our ability to preserve the potential benefits of widespread innovation may depend on it. If we fail to spend on remedies now, we will inevitably spend on them later and probably with less efficiency in reaction to legislation and regulation.
By Rich Oliver, Executive Vice President of the Atlanta Fed and Director of the Retail Payments Risk Forum
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