The Pieces and Players of Payments Standardization

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Untangle, unbundle, simplify and standardize. Image: Shutterstock

The banking industry seems intent on standardizing blockchain technology—a move that coordinates with the progress to standardize payments systems more broadly.

Banks voice concerns about which blockchain the industry will adopt in an effort to not invest too heavily in the “wrong” system. But that sentiment might be misguided.

There’s not (and won’t be) a one-size-fits-all approach to the world’s payment systems; each bank or group of banks could choose to build on different technology platforms. Plus some third party payment providers will have their own proprietary networks.

The best solution is then to standardize at the protocol level so all the diverse systems can interoperate.

In general, standards lower the barriers to entry, unlocking competition and in turn innovation. With standardized processes even small players can access networks at scale as the costs of development are sharply decreased. This is especially important in payments since historically these systems have been dominated by a handful of large providers.

As payments remain a popular function to unbundle, a stack of payments standards are being tested and built, all with unencumbered transaction flows in mind as payments become more digital. While standards work is a slow process, adoption often happens in parallel as participants deploy earlier versions of the standard.

 

W3C Web Payments

Founded in 1994 by Tim Berners-Lee, the inventor of the Web, the World Wide Web Consortium was formed in an effort to develop vendor-neutral standards to allow for open interoperability. The group starts at the bottom, standardizing base layers then working up from there.

Web payments standards are a long time coming.

A Web Payments Community Group was set up nearly four years ago and in October 2015 it graduated to a working group of 175 members comprised of large incumbents such as Visa Europe, Google and the Fed as well as smaller startups.

The working group’s current goal is to develop a browser-based checkout API that makes it easy for developers to integrate payments into the Web without playing favorites to certain methods. For instance, the working group doesn’t care whether a consumer wants to purchase with ACH, a credit card or Bitcoin, but instead wants all those options to have the same chance of being deployed, expanding both consumer and merchant choice.

The idea is to streamline the online checkout process, creating a consistent experience that  doesn’t require the consumer to share the same information over and over again. This should not only reduce shopping cart abandonment, but harmonize the process for desktop and mobile checkout.

“The working group is taking a baby step…for making the payments process less painful for all parties involved,” said Shane McCarron, project manager at Spec-Ops.io, a group that identifies critical open standards and helps to move those along. He’s also a member of the Web Payments Working Group.

“But there’s a lot of room in the space for standardization,” he said. “Standards start simple, but are extensible.”

The Web Payments Interest Group at the W3C is in charge of expanding the working group’s efforts. The interest group takes a broader architectural view, currently considering standardization for verifiable claims or credentials and biometric security on the Web. Future add-ons to the standard could be coupons or smart-wallets that tell consumers which payment methods applied together would make the most sense.

By the end of March, the Web Payments Working Group plans on delivering the first public working draft of the checkout API spec. Once that’s released, the group will revise where needed, start developing a test suite and create developer documentation.

The next step, which the web payments group wants to accomplish by November 2016, is publishing a candidate recommendation, a document that satisfies the working group’s technical requirements and has received wide review. By that time, experimental implementations should be taking place.

The Web Payments work at the W3C must keep in mind the standards that are regulatory in nature. For instance, the Payment Services Directive II out of the European Union is building new rules for how merchants and banks expose consumer information and what options providers must make available to consumers.

It’s important for W3C groups to have experts from around the world working together on standards to make sure certain requirements are satisfied or at least not prevented from happening, said McCarron. The Web Payments working group also has member representatives that are knowledgeable on ISO 20022, the universal messaging scheme for the financial industry.

Although standards work is essential, it can be quite contentious. The Bitcoin community has been standoffish when it comes to standardization for a variety of reasons. Some enthusiasts think standards groups are trying to subsume Bitcoin, others see Bitcoin as the standard and other industry experts just think Bitcoin startups are too busy and cash-strapped to participate.

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Stefan Thomas addresses the crowd at #WIREDMONEY 2015. Photo: WiredUK

Several distributed ledger experts have joined the W3C Web Payments Working Group, including representatives working on Ethereum and architects at Ripple.

As Ripple engineers refined the company’s own product and worked with W3C on the web payments standard, the Interledger Protocol (ILP) was conceived.

“Blockchains are highly complex systems and involve many difficult engineering trade-offs. As we dove deeper into the use cases, we realized the model of having one giant blockchain that everyone connected to wouldn’t work,” said Stefan Thomas,  Chief Technology Officer at Ripple and co-author of the ILP white paper.

Consumers demand broader access, increased speed and lower costs. Micropayments use cases require billions of payments to be processed for minimal fees. Banks need scalability of transaction volume, plus the ability to make some transactions private and denominate fees in their local currencies. And derivatives markets want billions of dollars worth of assets to be exchanged securely.

Often these requirements conflict.

Every party has different opinions about how a blockchain should work and what its design goals are. And in a future where multiple blockchains exist, those platforms should be able to interact with each other and scale quickly.

ILP sprung out of Silicon Valley-based startup, Ripple’s work building a real-time settlement system for financial institutions. At its core, ILP is a way to route and relay transactions between multiple parties which has historically been a manual, expensive, risky or downright impossible process.

The protocol is taking the same framework used for communication on the Web— multiple providers peering with each other in order to send a message from one person to another–and applying that to payments. On the Web, different protocols send packages of data via hops without needing to rely on the ability of the hops; if one hop proves unreliable, data is merely routed through another path.

ILP leverages a database technique called two-phase commit, which acts basically as an escrow transfer where senders and receivers don’t necessarily have to trust the intermediaries.

And this is the key component.

“The fundamental problem ILP solves is being able to connect payment systems together in a way that you don’t have to trust the connector,” said Thomas.

With central banks and large correspondent banks as the connectors, the traditional payment systems rely on optimistic execution whereby senders must trust that intermediaries will be able to pass money to the next intermediary and so forth. This type of system can fail because of incomplete or wrong recipient information or be bogged down by manual processes by intermediaries.

What ILP sets out to do, standardizing a global rule set could seem unfeasible, similarly to how a global standard for the Web seemed impossible at first.

“The stakes may be a bit higher but the problems are all the same as they were for the internet,” Thomas said.

These issues include quality control, the punishment of bad actors and dealing with chargebacks. While ILP doesn’t have all the answers just yet, Thomas believes the system will allow neighbors to police each other or get booted off the network. And in terms of chargebacks, each party chooses for themselves how to handle that function.

“We’re designing ILP as a very modular standard,” said Thomas. “It’s a bottom layer where the most technical complexity lies.”

High level rules for specific use cases are then built on top of ILP.

Ripple, for instance, will be one of the solutions sitting on top of ILP. The company is creating software that integrates the legacy bank systems with the protocol. These top layers are where regulatory guidelines must be upheld.

Thomas compares ILP to TCP/IP, the basic communication protocol of the internet, because ILP doesn’t care why two parties are transacting, just that both parties agree to transact. Layers on top of ILP, such as Ripple he equates to HTTP, SMTP and so on–application-specific protocols that know the details of a transaction, such as whether they’re legal and intended.

Having a standardized protocol for payments could drastically change the ecosystem.

“Today only Visa has that global reach…but with a peering network even the smallest provider can offer universal acceptance,” Thomas said.

Some payments providers in the industry are worried about Visa’s dominance in the market, especially since the financial services corporation is becoming a more forward-facing brand with its Visa Checkout option. Visa has the largest global network and this puts them in a better position than, for instance, Apple or Google, which have to partner with Visa when deploying its own digital or mobile wallet solutions.

That situation brings new attention to ILP as an “alternative to the card networks,” Thomas said.

ILP is a community group within the W3C and had its first face-to-face with interested parties on February 25. Currently, the group is working on standardizing what it calls crypto-conditions–the signature technology that underpins Interledger payments.

The group is formatting and documenting the system in an effort to submit it to the Internet Engineering Task Force (IETF), another standards organization that generally deals with protocol-level activity.

A demo of ILP where ledgers and connectors move imaginary assets and money around has already been built, in order to prepare for a real money deployment of ILP in the near future. Bitcoin would be the easiest to integrate into with less regulatory hurdles, but the ILP community would also like to see a test using US dollars on the platform, Thomas said.

Bailey Reutzel is an independent freelance journalist focusing on finance, technology and politics. She blogs about US political culture and how people interact with money at Moneytripping.com.