Do We Even Need Another Payments Solution?
Logos aims to fundamentally transform payments by providing an ultra-high performance, easy-to-use turnkey solution that is universally accessible and minimal cost.
But why is a solution needed for payments in the first place?
The Logos vision is centered around the belief that payments should just work.
Payments are the fundamental building block of economic interactions, but they are a means rather than an end. They should be neither overly complex nor involve multiple counter-parties. They should be efficient and facilitate transactions rather than get in the way due to high fees or lack of access. They should be empowering and inclusive rather than a burden — and in today’s day and age, leave no one person under- or un-banked.
Unfortunately, both the existing payments system as well as the decentralized blockchain networks that have tried to displace them have proven to be inadequate.
In this article, we provide an overview of how these solutions have fallen short, how Logos solves these issues, and, on the flip side, why payments is the compelling use case for distributed ledger technology (DLT).
The Problem: Current payments systems are limiting rather than enabling
The legacy payments infrastructure is highly coupled, loosely aligned, meaning it involves many disparate systems run by different intermediaries with differing, misaligned incentives. There are several resulting high pain points that hamper the centralized system:
Payments is a highly profitable business for the various intermediaries. Major credit and debit networks alone grossed $58bn in revenue in 2017 (Source: Visa + Mastercard + Amex 2017 10k’s), and they take only a tiny fraction of the interchange fees earned by banks. Altogether, intermediaries typically earn more than 2% of the transaction plus a fixed inquiry fee of 20 to 35 cents. Transactions where the card is not present, which are increasingly common as e-commerce continues to grow, are substantially more expensive.
The payment system is very byzantine, involving networks, consumer banks, merchant banks, merchant acquirers, point-of-sale providers, and more. It is very difficult for small- and medium-sized merchants to navigate, which is why many are embracing simpler but more expensive solutions like Square, Stripe, and Paypal.
While intermediating payments is highly profitable — Visa and Mastercard have a combined enterprise value of $527bn as of 10/29/18 — it is also highly expensive because it is heavily reliant on trust. Trust is expensive. Fees are used to cover fraud, risk systems, compliance, and other legacy overhead. Diligent network users and counter-parties, evaluating risk and navigating regulation costs intermediaries a massive amount of money. For example, twenty percent of Western Union employees are dedicated to compliance.
It is highly fragile and interdependent, and a single failure can disrupt the entire system, as seen with recent credit network outages.
Legacy technology stack:
The technology underpinning many parts of the banking and financial system was developed decades ago in COBOL and other outdated languages and is immensely complex with high overhead. This inefficiency drives up the operation cost even more.
Why these inefficiencies matter to you
The end result is a system with burdensome costs and high frictions. Transacting across borders and online is difficult and expensive, while the fixed inquiry fee makes transactions below a few dollars uneconomical.
Ultimately, these costs are passed on to the end consumers in the form of higher prices, and the economy as a whole suffers when compelling economic interactions are thwarted by an inefficient payment system.
These problems are even more exacerbated in developing countries, where the infrastructure is less sophisticated and transactions are smaller. In these areas, there often is no solution that works for a particular transaction.
In Kenya, for example, the average transaction size is $1, so paying a fixed fee of 30 cents or more is prohibitive. Furthermore, there are billions of people globally who are unbanked or underbanked, meaning they lack the ability to participate in payment networks, even if it made economic sense.
The alternative, cash, has its own drawbacks. It can only be used for local, physical transactions. It is difficult to store securely for both customers and merchants as well as cumbersome, expensive, and unsafe to handle, which is why many businesses refuse to accept cash.
In many ways, the failures of the current payments system are inherent and not something that can be changed. Intermediaries are normal businesses that answer to shareholders and require profits to be successful. Centralization mandates trust and also attracts cumbersome regulation. These factors demand a minimum level of fees to support the system, and improving on their tech can only do so much. The system has a long road ahead in order to be nimble and adapt to the way end users would ideally like to make payments — if it ever reaches that point.
How Decentralization Can Improve on the Status Quo
Since the debut of Bitcoin in 2008, decentralized networks (including blockchain and more generally distributed ledger technology) have captivated an increasingly large audience with the promise of massively overhauling the payments landscape. Unlike the current centralized systems, decentralized networks have the potential to be loosely coupled and highly aligned.
The advantages of decentralization are many, but there are a few key benefits in the context of payments:
There is no need to establish trust between any counter-parties. Instead, users can trust in the math and code behind the network to guarantee the integrity of the system. Eliminating trust cuts out a huge cost of the current system.
Anyone, anywhere in the world can transact with each other so long as they have access to the internet. According to GSMA, more than 5 billion people globally are connected to mobile services, with 3.7 billion in developing markets.
Lack of central control:
Since no single party controls the network, it is inherently peer-to-peer. This eliminates much of the compliance and regulatory overhead, as well as phenomena, such as chargebacks, that increase centralized system costs. It has the additional benefit of censorship resistance, which is of particular concern in many countries.
Decentralized networks have no single weak point, making them resilient to attacks and single points of failure that have taken down centralized networks.
Decentralized networks cut out the numerous middlemen that each take a piece of the pie. By enabling direct peer-to-peer transactions with only a single layer of validation, overall cost can be significantly reduced.
Natively digital and cryptographic:
Decentralized network tokens can seamlessly integrate with other digital systems and offer programmability, which can further disintermediate financial service providers. Furthermore, these systems are “push” rather than “pull” with full cryptographic security. According to the Federal Reserve, this would eliminate over 80% of electronic payment fraud in the US, which cuts out another huge cost to the current system.
The potential of decentralization is compelling: dramatically lower costs, greater financial inclusion, bolstered security, and increased economic opportunities.
Failures of existing decentralized networks: why we need another network
Despite all of these potential advantages, decentralized networks have utterly failed to produce a compelling payments solution. This is a consequence of both technological and execution failures resulting in some crucial shortcomings that make current decentralized networks impractical, including:
Networks like Bitcoin and Ethereum can support fewer than 15 transactions per second (TPS), while even newer networks have throughput of 1000 TPS or less. By comparison, Visa processes thousands of TPS on average, with support for tens of thousands of TPS.
Decentralized networks must be able to at least match the capacity of centralized networks to be a long-term solution for existing payments, let alone new transaction types like micropayments.
A direct consequence of limited capacity is high cost — — transacting in Bitcoin and Ethereum is typically more expensive than using a credit card. Under a free market scheme, a limited supply in the face of growing demand will result in a spike in fees, seen several times over the past 18 months in both Ethereum and Bitcoin, even with minimal adoption. Alternative fee schemes, like inflation, fixed fee, or no fee, merely transfer the cost to someone else and all have numerous issues from an economics perspective. Furthermore, proof-of-work validation is inherently expensive as it consumes exorbitant amounts of energy.
The current level of fees makes these networks useless for most payments, and reducing transaction costs requires more efficient consensus and massively higher capacity.
Long confirmation times:
Most current networks have transaction processing times ranging from a few minutes to an hour. Even a 30-second processing time is prohibitive for the majority of practical payments.
A successful network must be able to match the convenience of a few-second transaction time offered by credit card networks.
Native network currencies are highly volatile, which renders them impractical for broad adoption. Outside of the small number of crypto enthusiasts, people and businesses transact in their local fiat currency and find it unacceptable that their spending money is suddenly half of what they expected (i.e., users are risk averse). Without more real economic transactions, the volatility will persist, but the volatility prevents more economic transactions. Current decentralized networks have not successfully solved this catch-22.
A decentralized network must have an initial stability mechanism, like stablecoins and real-time confirmations, to break this cycle and make using the network practical and palatable for everyday users.
The vast majority of decentralized network projects have an immense amount of technical debt and lack the code integrity you would expect from financial software. The predominant “trial-and-error” approach has resulted in many bugs and loss of user funds, which undermines trust in the system. Furthermore, technical debt makes it very difficult to integrate into existing projects and systems.
The optimal solution will be follow best-in-class development practices to ensure the codebase is secure and bug-free.
Difficult to use:
The end user experience has been under prioritized by most projects, resulting in a clumsy and complex system that is hard to navigate.
Ultimately, the everyday user should not have to deal with complex cryptography or understand how the underlying network works, just as most people do not understand how Visa works.
As a result of these issues, existing decentralized networks have proven to be inadequate for most payments use cases. While well-intentioned, some projects have missed the mark in putting the end user — — in a variety of markets and geographies — — at the core of their product and offerings. Despite claims to the contrary, other blockchain platforms are hindered by speed, capacity, and cost, resulting in a worse solution than existing centralized networks.
The Flip Side: Why Should a Project Focus on Payments?
The key axiom of the Logos thesis is that payments matter. But this only tells one side of the story. An interesting question is what benefit does a project like Logos get from focusing on payments.
The most obvious advantage is technological: by specializing in payments (in addition to the many architectural advances Logos introduces), Logos is able to deliver optimal performance for its targeted use case. Most newer decentralized networks aim to be general purpose smart contract platforms, while Logos is not. All else equal, a payments-focused network, like Logos, will be substantially faster and higher capacity than such decentralized computation networks due to the heavy overhead imposed by smart contracts. Even more significantly, Logos can tailor its architecture to payments, for example its sharding scheme, in a way that may be suboptimal for a more general network. Logos will massively outperform competitors as a result.
On a deeper level, payments are attractive because of the huge potential impact, both socially and economically. Payments are truly massive, with tens of trillions of dollars in volumes and trillions in fees. From a pure market size perspective, no other potential use case can come anywhere close to what is at stake in payments.
The scale of payments means that even a small improvement in efficiency would have an enormous effect globally. Even more compelling is the ability to provide a compelling means of securely and efficiently storing value for the billions of people around the world who are under- and unbanked. Payments is the most natural use of cryptocurrency, and as a result, it has the ability to completely disrupt the space. This transformative potential is what makes payments the most compelling use of the technology behind Logos to us.
Bringing it All Together: The Logos Vision
These lines of argument underpin the Logos vision of becoming the premier payments network. The existing, centralized payments are burdensome, and DLT, while the perfect solution to those inefficiencies, has been unable to produce a compelling alternative.
So, to go back to the headline question of if we need another payments solution, the answer is a resounding yes.
Logos aims to make the leap to provide the optimal way to transfer value —and other tokens— globally. Our primary contribution is technological and represents a major breakthrough in blockchain performance.
But technology alone is not enough. What is needed is a full stack, plug-and-play solution. With features like stablecoins and a focus on end-user experience, Logos aims to be the easiest network to engage with, no matter where the user is in the world.
By doing so, it will enable richer, better, and cheaper economic interactions for all.