The implementation of FedNow is a chance for financial institutions to entirely rethink their payment systems and carefully assess the technology partners they engage with on this transformative journey. This is especially true for smaller institutions, who can leverage FedNow to enhance payment experiences for their customers and initiate the journey towards payment modernization.
However, the adoption of FedNow in the U.S. has been slower compared to similar payment systems in Europe and other global regions. In FedNow and Technology Vendors: Setting the Foundation for Future Payments, James Wester, Director of Cryptocurrency and Co-Head of Payments at Javelin Strategy & Research, lays out the incentives for financial institutions as they rethink payments in a real-time era.
Making Connections
FedNow transactions differ from traditional batch processing because they happen in real time, a distinction that significantly impacts the necessary technology infrastructure.
“When we’re talking about large banks like Chase or Capital One, they are communicating all the time because the number of retail and commercial customers making transactions each day,” Wester said. “Real time is different. There are technological considerations from a platform, from messaging, even from a liquidity standpoint. Our report is addressed to technology leaders who are being tasked with connecting to a FedNow, versus being addressed to a business owner within a financial institution who’s looking at it from a features and product standpoint for their customers.”
In a way, access to FedNow is progressing rapidly. Since its launch in July 2023, 35 financial institutions and 15 certified technology service providers were initially connected to the system. This number has since expanded to approximately 700 banks and credit unions of varying sizes, alongside 30 service providers offering a range of services to partner banks, including payment processing, bill payment, and more.
“With 11,000 financial institutions in the United States, it’s a small percentage that are connected to FedNow,” Wester said. “But if we do it by number of accounts with access to FedNow, it’s actually doing quite well.”
One contributing factor to the relatively slow adoption is the payments industry’s incomplete communication of the added value of a real-time settlement program to consumers. Small businesses may not be aware that they can utilize instant payments to address challenges such as liquidity and cash management. “A lot of businesses have billings that may not be coming in for 30, 60, or 90 days, but they have to pay vendors immediately,” Wester said. “Real-time gross settlement through something like FedNow would be a benefit to them.”
Differences With Europe
The UK has consistently been ahead of American institutions in terms of faster payments, largely due to their outdated prior system. Before the introduction of FedNow in the U.S., the UK established its Faster Payments Council to modernize the settlement processes of British financial institutions, resulting in the creation of a nearly real-time settlement rail.
The situation in Europe was a bit different. While lacking a robust digital settlement network, they had fewer financial institutions. European financial institutions pushed to develop SEPA (Single Euro Payments Area), which launched in 2017 and manages euro-denominated payments across 36 European countries. “They were ahead because they started out behind,” Wester said.
One factor hindering faster payment system adoption in the U.S. is the multitude of financial institutions and payments providers that need to work in concert. This complexity extends beyond technology to regulatory and risk considerations.
Selling the Benefits
ISO 20022, the enhanced standard for processing data, may help spur the adoption of FedNow. “We’ve created a new standard for data that goes along with payments, and don’t really know what to do with it,” Wester said. “Basically, we bought ourselves a big truck, and now we need to figure out what the fill it with. But it gives us room to send more enhanced data, better data, everything that goes along with the payment.”
But Wester points out that there were also many businesses who did not want payments to be processed any faster. “There is an entire industry built on the fact that payments aren’t due for net 30, net 60, net 90,” Wester said. “Companies aren’t paying for two or three months, so you have an entire sector that’s built up on buying receivables or loaning money out against receivables. We just had a system in place that frankly worked pretty effectively. There were discount rates given for paying on time or paying faster. It supported the largest economy in the world, so there weren’t a whole lot of reasons to change.”
Wester says that we need to do a better job of showcasing the benefits of instant payments. FedNow can benefit small- and medium-sized businesses from a cash flow standpoint. They don’t need to wait three days for a transaction to clear; they are immediately able to turn that cash around and pay somebody else.
“Those are the things that make it advantageous,” Wester said. “Once we start seeing FedNow adopt it in larger and larger numbers, it will become a necessity.”