The Federal Reserve’s slow wind up to deploying real-time payments could prompt community banks to join a network owned by their big-bank competitors.
While most community banks would prefer to work with the Fed’s planned real-time payments system, some don’t want to wait three or four years for the project to launch—especially with their larger competitors and fintech firms already offering those services to consumers and small businesses.
Community banks that want to stay viable “are going to have to come to grips with the real-time payments decision sooner or later,” said Preston Kennedy, chairman of the Independent Community Bankers Association and president and CEO of Zachary Bancshares Inc., a community bank in Zachary, La.
For some banks, “sooner” means joining the payments rails operated by the Clearing House, a consortium of 25 of the largest commercial banks including Citibank, J.P. Morgan Chase & Co., and PNC Bank.
Boston-headquartered Avidia Bank earlier this year became one of the first community banks to join the Clearing House. It’s part of Avidia’s strategy to provide a wholesale real-time payments service to fintech companies, which then offer it to their customers. The community bank also sees payment processing as a way to stand out from its peers.
“It’s easier to differentiate yourself on payments products than on just deposit products,” Avidia’s chief operating officer Robert Conery told Bloomberg Law.
The decision to join either the Clearing House or wait for a competing service from the Federal Reserve, “FedNow,” to launch is an individual one “with a lot of factors to take into account,” Kennedy said. Those run the gamut from customer demand for real-time payments to a long-running wariness of the Clearing House’s big bank founders.
Many community banks aren’t seeing significant demand for real-time payments just yet, putting their business needs in sync with the Fed’s time frame, said Julie Hill, a professor at the University of Alabama School of Law.
Those community banks “don’t get into trouble by waiting a little bit; they get into trouble by trying to get out in front,” Hill said.
But there is a consensus among community banks that the central bank should move faster on FedNow than its projected launch date of 2023 or 2024. Some bankers view it as a question of competition, with fintech payments companies Zelle, Venmo, or Square threatening to become significant competitors for payments processing by banks.
Fintech startups “are working to find the right business model,” Chris Murphy, chairman and CEO at 1st Source Bank in South Bend, Ind., said in an Oct. 28 letter to the Fed. “The monetization of these transactions will eventually settle and the leader will have pricing power over the industry. This will become extremely costly for community banks,” Murphy said.
Avidia is among a small number of community banks—most with niche business models—that aren’t waiting for the Fed to act.
Some sectors do show increasing demand for real-time clearing and settlement of payments, such as for gig workers looking for an instant payout after a day’s work, Conery said. Those businesses will need access to a real-time payment network.
“The bank has the golden ticket for these guys to bring their models to market,” Conery said.
Avidia is one of about 20 smaller financial institutions to join the Clearing House. Some banks are joining directly, such as Teaneck, N.J.-based Cross River Bank, while 15 others have connected indirectly through payments service provider Jack Henry.
The Clearing House’s payments product lead Steve Ledford said more community banks will join the network soon. “There was a big jump in interest fairly recently,” he said.
That’s partly due to the Federal Reserve Board’s Aug. 5 announcement it would launch the competing FedNow service. Many players in the payments industry were waiting for the Fed to make its decision to offer real-time payments public before making new business plans.
The Clearing House and others have opposed the Fed’s move to offer a public sector alternative to the real-time network it has said it spent nearly $1 billion and multiple years to bring to market.
Off the Sidelines
Consumer advocates are champions of banks adopting real-time payments sooner rather than later. They say near instant-payments will help reduce bank overdraft fees by eliminating the multi-day delays in transaction clearing and settlement.
“Every community bank that sits on its hands and waits five or more years for FedNow is harming consumers and generally boosting profits through overdraft fees,” said Aaron Klein, policy director for the Center on Regulation and Markets at the Brookings Institution.
The fact that some small banks are joining the Clearing House’s real-time payments network indicates they see the decision as one about services and product, and not who controls the system, he said.
“Real-time payments provides a superior service that enables fintechs to provide products that could benefit people’s lives and create new opportunity for businesses, but it comes at the cost of the existing product, which is overdraft,” Klein said.