Blog· 4min December 12, 2022
With the Federal Reserve planning to make the new FedNow Service available to depository institutions somewhere between May and July of 2023, the US is set to move into a new age of real time payments next year.
But there’s a major obstacle that needs to be overcome if the US is to become a fully inclusive real time payment environment: interoperability. While RTP and FedNow both promise to modernize the way money moves and allow for greater use of instant payments, interoperability between the two — or a lack of it — will be a major factor dictating whether or not real-time payments gain traction in the US, and how fast the adoption occurs.
As part of our webinar series, we take a closer look at the issue of interoperability in real time payments. Watch our webinar on demand: The next step for faster payments: Interoperability.
Imagine that you had a Verizon cell phone and wanted to make a call to someone with an AT&T cell phone but you couldn’t because they were on different, non-interoperable networks. It just wouldn’t be acceptable – unless, of course, the person you couldn’t reach was your mother-in-law. Joking aside, if you apply this analogy to the faster payments environment you’ll begin to understand just how big a problem it will be if RTP and FedNow don’t work together.
Currently, though, that’s the situation we’re facing. FedNow and RTP will not directly interoperate when FedNow launches, and discussions on the two eventually getting to message interoperability don't seem to be a priority. The knock-on effect could be that US banks and other financial institutions could be forced to choose between one or the other; while big banks may take on the expense of connecting to both systems, smaller ones may not have this luxury.
One of the rules that participants in the FedNow Service will have to adhere to is that there should be no intermediaries in the payment flow. On the one hand, this makes sense because adding extra steps to the payment process will slow everything down and defeat the purpose of instant payments.
On the other hand, though, it also means that a potential solution to the issue of interoperability is ruled out. It had been speculated that some larger institutions would be able to act as intermediaries, moving messages between the RTP and FedNow networks, on behalf of other smaller banks that were only signed up to one or the other. The fact that FedNow’s rules preclude intermediaries means this won’t happen, and could derail the push towards a ubiquitous real time payment system in the US.
There’s no sense in waiting for FedNow to become the de facto instant payment standard in order to solve the problem of interoperability either. While FedNow will provide a catalyst for the uptake of real time payments in the US — even if volumes are likely to be small, at least initially — it isn’t intended to be a replacement for RTP. The Fed is simply looking to provide competition to RTP in order to drive the instant payments space onward, giving all banks and financial institutions the opportunity to provide better services for their customers.
In many areas of payments there tend to be two alternatives —FedACH and EPN for ACH transactions, Fedwire and CHIPS for interbank transactions, for example — and having two systems that clear and operate in any type of payment in the US is needed, given the size and scope of the US market with over 10,000 institutions. The competition helps to ensure that pricing is right and that new features are brought in, keeping the payment systems moving forward.
From a cost perspective, embracing real time payments is going to be tough for a lot of financial institutions in the US. Should those that are already signed up to RTP take on the additional financial and technical headaches of signing up to FedNow as well, to ensure they can overcome the issue of interoperability?
Fortunately, there is a solution that makes sense from an economic perspective that will also ease the technical complications as well: Working with a third party processor such as Form3 that can provide gateway access to both RTP *and* FedNow.
From the bank's perspective, when it comes to the actual banking, posting of money, real time availability and so on, the processes are much the same whether they are working with RTP or FedNow. It’s the technical connection to the scheme that is different, and a third-party provider like Form3 can handle all of that for them.
Banks can overcome interoperability issues by being on both RTP and FedNow, without having to worry about the differences in the ISO messages or the differences in the technical connection, and so on. This gives them greater resiliency, with access to two alternative instant payment networks, and means that they can route their payments to the right scheme for actual business reasons, not just technical reasons. In addition, all of the ongoing maintenance and management required to keep up with new standards and regulations — such as ISO migrations — will be handled for them.
For further insight and discussion of these and other issues surrounding interoperability and real time payments, be sure to watch our on-demand webinar. Our leading panel of speakers include:
Miriam Sheril is the Head of Product in the US at Form3 with responsibility to build out and enhance Form3’s product capabilities in the US, focusing real time payments and other rails such as the Federal Reserve’s FedNow service and The Clearing House’s RTP service. Miriam comes with more than 13 years’ experience in financial services, where she focused on product and software development and management. She joins Form3 from the Federal Reserve Bank, where she was most recently the FedNow Core Product Manager Lead AVP, responsible for the design and build of the FedNow product since its inception.