[Dave Birch] The first of the fellowship round tables took place in London and featured Paul Smee (chief executive of the Payments Council), Charlie Nunn (head of European payments for McKinsey) and Pedro Deserrano (head of VPAY for Visa Europe). The panel gave a good, high-level view of the current European payments world and the we moved on to a round table discussion with questions from the nearly 50 attendees.
I hope that the panel will permit me to paraphrase a few of their key points, just to help discussion and debate get under way.
The payments business in Europe (meaning the EU27) is big, around 180 billion euros per annum in revenues, and growing. That payments revenue breaks down into about 140 billion in costs and about 40 billion in profit. On current trends profits are growing faster than costs, but there are of course non-market drivers around SEPA and the PSD that are likely to bite into transactional income.
For the purposes of "back of the envelope" calculations (I'll qualify all of these figures by saying that they relate to "normal" circumstances), we can assume that payments account for about a quarter of bank revenues, down from around a third of bank revenues a decade ago, and about a sixth of bank profits. While revenues are growing, so are costs. Incidentally, for comparison, in the US payments account for 30-40% of bank revenue and a slightly higher proportion of bank net income than in Europe (because the US system is less efficient, enabling banks to capture more of the value).
Bank profitability is heavily dependent on liquidity, the income from current account, overdraft and card balances. Thus, banks make about 90 billion euros profit from liquidity and lose about 50 billion in costs (of which about half is the cost of cash handling). The profitability is heavily dependent, therefore, on interest rates as well as on interchange and other fee income. Probably about half of this profit is at risk if there is a 50 basis point fall in interest rates (which seems likely in the short term) and a 50 basis points write off for bad debt (the current figure is about half that, but clearly it is going to get worse).
At the retail level, debit continues to grow strongly (although nothing like as strongly as I think it could with better, more targeted cash-replacement products) at the expense of credit. Consumer spending is currently falling, which has nothing to do with the payment system (!), but the long term trend replacement of paper transaction by electronic transactions continues.
I took, to be honest, a rather positive message away from all this. Transaction banking is going from being the dull utility side of the bank to a pathway to growth if managed correctly and for banks (although not for their competitors) that manage liquidity effectively there are plenty of opportunities. I say "not for their competitors" because they do not have access to this income stream and so have to explore other business models (since, in many cases, transaction fee income doesn't support a business case for a payment system).
Finally, it might be best to characterise the current environment as the dawn of the "reduced interchange world". The payments market is going to have to change business models to acknowledge that interchange is going to be a much smaller component of future income and some genuine value-added services will need to be developed if payments are going to obtain new revenues from either merchants or customers. Any innovation in the space has to be in the context of this new reality.
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