It's been over a month since the Federal Reserve launched FedNow, a government-backed settlement service designed to advance usage of instant payments between banks and other financial institutions, 24 hours a day, seven days a week. But since launch, the service has seen some pushback throughout the banking sector, bringing about questions of whether the platform can coexist with the incumbent instant settlement service, Real Time Payments (RTP), and whether or not it's advantageous for banks to adopt both systems.
Although real-time payments have been around for several years, the U.S. has been a laggard when it comes to adoption by small- and medium-size financial institutions. But increasing demands for speedy, transparent, secure and convenient transactions from retail and business customers are finally curbing that trend and driving more banks to embrace real-time payments for the first time.
As a founding member of the Faster Payments Council and an advocate helping drive the future of faster payments here in the U.S., I'm here to make the case for why adopting RTP and FedNow must be a priority for banks of every size. It's not as simple as picking one over the other. Business savvy leaders must understand how each system complements the other's limitations, while also looking ahead to how these services will become better together as instant payments technology develops in the U.S.
The RTP network launched in 2017, making it a more mature product with first-mover advantage. Ultimately, both RTP and FedNow offer a similar benefit of instantly transferring money around the clock, but as the incumbent provider of real-time payments, RTP offers a greater volume of participant banks and reaches about 65% of U.S. DDAs (demand deposit accounts). RTP is also "battle-tested" and has operated long enough to make adjustments and add features that better suit the needs of its 353 banks and credit unions.
Despite those advantages, RTP still lacks ubiquity and is not yet considered a dependable pathway for banks to reach customers in all cases. This gap decreases every year, but there's still a long tail of banks to integrate. Another factor impacting coverage is that some smaller sized organizations see it as a negative that RTP is owned and operated by the largest commercial banks in the U.S.
This consideration alone positions FedNow as a favorable choice among smaller financial institutions, especially those concerned that RTP does not operate with their best interests in mind. However, the same issues of ubiquity exist for FedNow given that the service is new to market and has only 51 participants enrolled (35 banks/credit unions and 16 service providers). But the prospect for adoption to tick up is promising, given some of the unique benefits FedNow affords its users. For example, via FedNow, real-time payments funnel through the same master account as other Fed products (like FedWire and FedACH), so from a liquidity standpoint, the balance in reserves counts toward total requirements and offers a wider net of financial flexibility. Reporting for issues like reconciliation is also more streamlined.
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Bottom line: there still remain some barriers to the wide adoption of instant payments across both services.
The primary roadblock for many is the need to update operational flows to build connectivity to both networks' push payment structures. Consider this in terms of a transaction like bill payment. In order to facilitate the transaction through either system, a new bank experience has to be built on the front end that presents the sending party of the transaction with approval to trigger the push. This is a completely new flow that requires preparation and customer education.
For real-time payments to gain scale in the U.S. a few things need to happen. First and foremost, the two systems must evolve to be interoperable, much like ACH is today. Originating institutions shouldn't have to worry about which network to use to get the payment to a receiving institution. Banks should be able to create the required calls in a standard way and then traverse whichever network is needed based on agreed-upon routing rules. And because both RTP and FedNow communicate via ISO 20022, development and interoperability between both platforms is highly likely in the future.
Further, both systems will need to solve for a consistent Request for Payment (RFP) flow and user experience. RFP will be key for unlocking a number of use cases such as account to account payments, bill pay and POS transactions. It is also the use case most likely to be abused by fraudsters. The industry will need to leverage resources like the Fed's RFP working group to define a standard approach to these types of payments and then educate consumers on what to expect.
And while all these changes will take time to implement, we expect to see most larger banks adopt both networks over time. Doing so will allow participant banks to balance volumes on both rails and have a backup path if and when a recipient account cannot be reached. For most organizations, the technology provider they work with for real-time payments connection and facilitation will support both networks, simplifying the process for these banks to access instant payments.
The time is now to start thinking about real-time payments, whether you kick off with RTP, FedNow or, hopefully, both. From user experience to connectivity, there's a lot to consider on the path to implementing real-time payments, and taking the leap will make a significant impact on your institution's future in the long run. So, what are you waiting for to get started?
