THE DECOUPLED ERA
The Intricate Landscape of Card Payments — Key Players and Models
The Intricate Web of Players and Processes
Table of Contents
The Card Payments Ecosystem: Key Players
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The Card Payments Ecosystem: Key Players
The payments world loves its acronyms and jargon. It’s like a secret language that makes it feel like part of an exclusive club.
But for those new to the industry, the constant barrage of four- and five-letter abbreviations can be overwhelming. Even seasoned professionals can struggle to keep up with the ever-evolving terminology.
To bring some clarity, we turn to regulatory frameworks like the Second Payment Services Directive (PSD2) in Europe. While introducing its own set of new terms, PSD2 provides a much-needed reference point for defining and standardizing key concepts.
For instance, it clearly defines a Payment Service Provider (PSP) — any entity that supplies a payment service or serves a function within the payments ecosystem.
The Payment Ecosystem Ensemble: Key Players and Their Roles
- At the heart of the card payments ecosystem lies the Payment Scheme, also known as the Card Scheme, Card Network, or Card Brand. Think of it as the conductor orchestrating the entire performance. Entities like Visa and Mastercard provide the technical infrastructure and operating rules that all other participants must follow.
- Next, we have the Payment Service Users (PSUs) — the stars of the show. These are the payers (cardholders) and payees (merchants) who engage in financial transactions. For merchants, the process of accepting card payments is aptly termed Payment Acceptance or Card Acceptance.
- Supporting the PSUs are the Payee’s Payment Service Providers (PSPs). These are the behind-the-scenes technicians enabling merchants to accept card payments. They include Merchant’s PSPs, such as payment gateways and card terminal providers, as well as Acquiring PSPs — the entities that connect merchants to the payment scheme. Acquiring PSPs go by various names, including Acquirers, Acquiring Banks, Processors, and Merchant Services Providers.
- Last but not least, we have the Account Servicing PSPs (ASPSPs), commonly known as Issuers or Issuing Banks. These are the financial institutions that manage the payer’s (cardholder’s) account throughout its lifecycle.
The Dance of Connections: Relationships and Processes
Now that we’ve met the cast, let’s explore how they interact and collaborate.
- Merchants connect to Acquiring PSPs through their Merchant’s PSP technology, such as payment gateways or card terminals. This connection enables them to accept card payments and participate in the broader ecosystem.
- Acquiring PSPs themselves often form partnerships or joint ventures with pure processors (non-bank acquirers) like Fiserv, Global Payments, and Worldpay (FIS). In these arrangements, banks handle merchant engagement, while processors provide the acquiring infrastructure and processing capabilities.
It’s a delicate choreography, with each player executing their role flawlessly to ensure seamless payment experiences for consumers and businesses alike.
Disrupting the Card Rails: The Rise of Third-Party Payment Service Providers (TPPs)
The relentless pace of innovation in the payments industry is witnessed in the card payments ecosystem, often referred to as the “Card Rails” or “Card Scheme Rails.” This well-established landscape, once dominated by traditional players, is now being disrupted by a new breed of third-party innovators.
The Third-Party-Payment Service Providers (TPPs) — is a diverse group of players that are reshaping the card payments ecosystem. These innovative companies have identified gaps and opportunities within the traditional framework, offering fresh perspectives and solutions to enhance the payment experience.
At the forefront of this disruption are three distinct types of TPPs:
- Payment Initiation Service Providers (PISPs): PISPs are the trailblazers, initiating payments on behalf of consumers. Think of companies like PayPal, Venmo (when funded by a card), and the ubiquitous mobile wallets like Apple Pay and Google Pay. These providers offer seamless, technology-driven payment solutions, often tied to hardware or software platforms, empowering consumers with convenience and flexibility.
- Account Information Service Providers (AISPs): While PISPs focus on initiating payments, AISPs take a different approach by providing read-only access to payment account information. Imagine a service that allows you to effortlessly check your card account balance, transaction history, and other details — all from a single, user-friendly interface. Although pure-play examples are still emerging, existing PISPs often incorporate some account information capabilities.
- Card-Based Payment Instrument Issuers (CBPIIs): The latest disruptors on the scene are the Card-Based Payment Instrument Issuers (CBPIIs). These innovative TPPs issue physical or virtual card-based payment instruments that can initiate transactions from payment/bank accounts held by a PSP other than the Issuer. CBPIIs combine the roles of AISPs, PISPs, issuers, and money remittance services, offering a comprehensive solution for consumers and businesses alike.
The CBPII Phenomenon: Bridging the Gap Between Banking and Payments
At their core, CBPIIs are financial technology companies that issue physical or virtual card-based payment instruments linked to accounts held with other payment service providers (PSPs) or banks.
This unique approach allows them to combine the roles of Account Information Service Providers (AISPs), Payment Initiation Service Providers (PISPs), issuers, and money remittance services, offering a comprehensive solution for consumers and businesses alike.
The beauty of CBPIIs lies in their ability to bridge the gap between traditional banking and modern payment solutions. By leveraging open banking APIs and strategic partnerships, these innovative companies can issue debit cards, virtual cards, and other payment instruments that seamlessly integrate with accounts held at various financial institutions.
The CBPII Landscape: A Diverse and Innovative Ecosystem
The CBPII ecosystem is a vibrant and diverse one, with players ranging from fintech startups to established financial services companies:
- Neobanks and Digital Banking Apps: Companies like Chime, Varo, and Revolut have embraced the CBPII model, offering virtual and physical debit cards linked to accounts held with partner banks or PSPs. This approach allows them to provide a seamless banking experience while leveraging the power of card-based payments.
- Buy Now, Pay Later (BNPL) Providers: Innovative BNPL companies like Klarna and Affirm have disrupted the traditional credit card industry by issuing virtual cards that facilitate installment payments from accounts held with other financial institutions. This model offers consumers greater flexibility and transparency in managing their finances.
- Cryptocurrency Platforms and Wallets: As the adoption of cryptocurrencies continues to grow, platforms like Coinbase and Crypto.com have introduced branded debit cards linked to users’ crypto holdings or fiat accounts held with partner banks. This integration allows for seamless spending and conversion between digital assets and traditional currencies.
- Remittance and Cross-Border Payment Services: Companies like Wise (formerly TransferWise) and Remitly have recognized the need for efficient cross-border payments and have introduced multi-currency cards connected to users’ accounts held with various PSPs. This approach simplifies international transactions and reduces the costs associated with traditional remittance services.
- Travel Money and Forex Providers: Recognizing the pain points associated with international travel and currency exchange, providers like Travelex and Revolut have introduced prepaid multi-currency cards linked to users’ accounts with other financial institutions. This solution offers convenience and cost savings for travelers and frequent flyers.
A Deep Dive into Payment Models
Understanding the different models in the card payments ecosystem is crucial for developing innovative payment solutions that meet the needs of both consumers and businesses. This requires understanding the three primary models in the card payments ecosystem:
- The Four-Party Model
- The Three-Party Model, and
- The Two-Party Model (Closed Loop)
The Four-Party Model
The Four Party Model is the bedrock of the card payments ecosystem. It’s the industry’s accepted framework for processing digital or physical card payments between buyers and sellers.
Key Participants in the Four-Party Model — This model involves four primary participants:
- Acquirer: The financial institution or service provider that processes card payments on behalf of a merchant.
- Issuer: The bank or financial institution that issues the card to the cardholder.
- Merchant: The business or entity that accepts card payments for goods or services.
- Cardholder: The consumer who uses the card to make a purchase.
Contractual Relationships — In the Four-Party Model, each participant has specific contractual relationships:
- Merchant and Acquirer: The merchant has a contract with an acquirer to process card payments. The contracts between acquirers, issuers, and card schemes like Visa and Mastercard outline the roles, responsibilities, and rules that each party must follow in the card payment ecosystem.¹
- Acquirer and Card Scheme: The acquirer has a contract with a card scheme (e.g., Visa, Mastercard).
- Issuer and Card Scheme: The issuer has a contract with the card scheme/network.
- Cardholder and Issuer: The cardholder has a contract with the issuer, typically in the form of a cardholder agreement².
Economic Model and Market Competition — The Four—Party Model is a two-sided economic model with a clear separation between acquiring and issuing. It promotes competition on both sides of the market:
- Consumer Side: Cardholders can choose from multiple card providers within a card scheme (e.g., a Visa card from different banks).
- Merchant Side: Merchants can choose from multiple acquirers to process their card payments.
This model fosters competition, allowing consumers and merchants to select the best options available.
Card schemes enable any qualifying issuer or acquirer to join, further promoting an open and competitive market.
Open Loop Cards — The Four-Party Model is often referred to as an Open Loop model because it promotes open competition in the card payment value chain. Visa, Mastercard, and UnionPay operate on this model. Cards issued by issuers in this model are known as Open Loop Cards, meaning they can be used at a wide range of merchants and locations that accept the card brand.
The Three-Party Model
The Three Party Model is another significant configuration in the card payments ecosystem. In this model, the roles of card scheme, acquirer, and issuer are performed by a single entity. Let’s delve into the specifics of this model.
Key Participants in the Three-Party Model — The Three Party Model involves three main entities:
- Card Scheme: The entity that also acts as the issuer and acquirer.
- Merchant: The business or entity that accepts card payments.
- Cardholder: The consumer who uses the card to make a purchase.
Contractual Relationships — In the Three Party Model, the card scheme (which is also the issuer and acquirer) has direct contractual relationships with both merchants and cardholders. This integration simplifies the transaction process but also centralizes control within a single entity.
Economic Implications — The Three—Party Model has different economic implications compared to the Four-Party Model. It is generally more expensive for merchants to process transactions and for cardholders to hold these cards. However, the added benefits, such as reward programs and other value-added services, often justify the higher costs for cardholders.
Examples of this model include American Express, Diners Club, Discover, and JCB.
Practical Considerations for Merchants and Cardholders —
- Small to medium businesses may be reluctant to accept Three — Party Model cards due to higher processing costs.
- Larger merchants, however, may find them attractive due to higher cardholder spending levels.
The integrated nature of this model can offer streamlined services but at a premium cost.
The Two-Party Model: Closed Loop Ecosystem
The Two Party Model, also known as the Closed Loop model, is another configuration in the card payments ecosystem. In this model, the merchant is both the issuer and the acquirer.
Key Participants in the Two-Party Model — The Two Party Model involves two main entities:
- Merchant: The business or entity that acts as both the issuer and the acquirer.
- Cardholder: The consumer who uses the card to make a purchase.
Characteristics of Closed Loop Networks — In the Two—Party Model, cardholders can only use the card for payments at the issuer, which is the merchant itself. This creates a true Closed Loop network, where the card’s usage is restricted to a specific set of merchants or locations.
Examples of the Two Party Model include:
- Store Cards: Target REDcard™ Debit, which can only be used at Target stores.
- Fuel Cards: Shell Fuel Card, which can only be used at Shell gas stations.
- Public Transport Cards: Oyster card for Transport for London, which can only be used within the London transport network.
- Gift Cards: Cards that can only be used at specific retailers.
Co-branded Cards — Some store cards may be open-loop and issued in collaboration with a card scheme, known as Co-branded Cards. Examples include the John Lewis Partnership Card with Mastercard and various airline cards popular in the US (e.g., Southwest Rapid Rewards®, Delta SkyMiles® Gold, UnitedSM Explorer). These cards combine the benefits of both the retailer and the card scheme, offering broader usage and additional perks.
By leveraging the strengths of each model, product leaders can create payment solutions that drive value and enhance the customer experience.
Notes
[1] — Here’s a breakdown of what these contracts typically cover:
Acquirer and Card Scheme Contract:
- Allows the acquirer to process transactions for merchants accepting that card brand
- Outlines the fees (interchange, assessment fees, etc.) the acquirer must pay to the card scheme
- Specifies the technical requirements and security standards the acquirer must meet
- Defines the rules for merchant onboarding, underwriting, and risk monitoring
- Covers dispute resolution processes like chargebacks
- Requires adherence to card scheme operating regulations and branding guidelines
Issuer and Card Scheme Contract:
- Permits the issuer to issue credit/debit cards under that card brand to consumers
- Outlines the interchange fees the issuer receives from acquirers for transactions
- Specifies card product requirements, features, and marketing guidelines
- Defines card activation, authorization, and fraud monitoring requirements for the issuer
- Covers dispute resolution processes like chargebacks from the issuer side
- Requires adherence to card scheme operating rules, security standards, and branding
In essence, these contracts govern the participation of acquirers and issuers in the respective card scheme’s payment network.
They ensure standardized processes, security protocols, and a balanced distribution of roles, costs and revenues among participants.
Adherence to these contracts allows the smooth functioning of the card payment system across all stakeholders globally.
The contracts also facilitate interoperability — allowing a Visa card issued by one bank to be accepted at a merchant’s terminal supported by a different acquirer, thanks to the common set of rules defined by the card scheme.
The acquirer-scheme and issuer-scheme contracts are fundamental legal agreements that bring all parties onto the same platform and enable an interconnected card payment infrastructure.
[2] — A cardholder agreement is a legal contract between a credit card issuer and the cardholder that outlines the terms and conditions for using the credit card.
Some key elements typically covered in a cardholder agreement include:
- Definitions of important terms used in the agreement.
- Responsibilities of the primary cardholder, such as being liable for all transactions made on the account, including those by additional authorized users.
- Provisions for adding or removing additional authorized users on the account.
- Guidelines on proper card usage, protecting the card and PIN, reporting lost/stolen cards, and liability for unauthorized transactions.
- Details on the credit limit, available credit, and consequences of exceeding the limit.
- Payment terms — due dates, interest rates applied to different transaction types (purchases, cash advances, balance transfers), calculation of minimum payments, late payment fees.
- Other fees like annual fees, foreign transaction fees, cash advance fees, etc.
- How payments are applied to different balances on the account.
- Billing cycles and process for receiving statements.
- Provisions for making changes to the cardholder agreement terms by the issuer.
- Procedures for error resolution, disputes with merchants, and chargebacks.
- Privacy policies regarding the use of customer data.
- Terms on cancellation or default of the credit card account.
The cardholder agreement essentially lays out the rights and responsibilities of both the card issuer and the cardholder in a legally binding manner.
Reviewing it carefully is crucial for cardholders to understand the costs, fees, and proper usage policies associated with their credit card account.
