Evolution vs Revolution: The new payments landscape
The payments landscape as we know it today has undergone a long evolution with banks traditionally at the epicentre. From an era of mail orders, telephone orders, and long authorisation processes, the arrival of the internet advanced the evolution of payments with the popularisation of e-commerce - which opened up access to trade and finance to a broader client base (Exhibit 2).
Today, the rise of electronic verification systems is also propelling the use of e-wallets, a form of digital cash, in the aftermath of the adoption of digital and mobile payment channels such as Apple Pay and Google Pay. At the same time, we are observing the disruptive potential of cryptocurrencies within traditional infrastructures for payments processing, clearing, and settlements.
Regulation has been immensely pivotal in the digital transformation of the payments landscape, with the adaptation of the PSD2 and DORA creating a secure and harmonised framework for innovation to thrive. The imminent ratification and adoption of MiCA - for the regulation of EU-based crypto assets - could very well usher in the next explosive phase of payments innovation as it also doubles down on concerns surrounding investor protection (Exhibit 3).
In this section, we consider the extent to which disruptive innovation is deepening interconnections within the current payments sphere. We take a deep dive into the entrance of big Tech and its potential to ignite greater levels of digitalisation and amplify competitive pressures for traditional institutions. We then highlight how the B2B segment is evolving, with the demand for easier, faster and seamless payments processes urging a greater innovative drive within banks' B2B activities.
Regulation has been immensely pivotal in the digital transformation of the payments landscape, with the adaptation of the PSD2 and DORA creating a secure and harmonised framework for innovation to thrive. The imminent ratification and adoption of MiCA - for the regulation of EU-based crypto assets - could very well usher in the next explosive phase of payments innovation as it also doubles down on concerns surrounding investor protection (Exhibit 3).
In this section, we consider the extent to which disruptive innovation is deepening interconnections within the current payments sphere. We take a deep dive into the entrance of big Tech and its potential to ignite greater levels of digitalisation and amplify competitive pressures for traditional institutions. We then highlight how the B2B segment is evolving, with the demand for easier, faster and seamless payments processes urging a greater innovative drive within banks' B2B activities.
Demand for instant payments disrupts the ecosystem and infrastructure
The unprecedented disruption of the payments ecosystem is marked by greater speed and connectivity and the introduction of diversified services. The resulting interlinks thus show the impact of digital innovation within two major domains. The first domain represents payments infrastructure (instruments, processing and settlement) while the second represents payments transaction services (Exhibit 4).
Within the infrastructure domain, the facilitation of instant payments processing via alternative infrastructure is fast catching on as the new norm on both the demand and supply sides. Not only are these cheaper, more flexible, and constantly available compared to the traditional systems which involve batch processing and cut-off times, they also present development opportunities for speeding up cross-border payments. The launch of the European SCT Inst Scheme and TARGET Instant Payments Settlement - for instance - are set to catalyse real-time cross-border payments and accelerate the defragmentation of European payments. Compared to TARGET2, which facilitates settlement of large value payments between central banks and financial institutions connected on a single shared platform (SSP), the SCT Inst scheme in particular seeks to broaden access to instant digital payments services across the euro area for both B2C and B2B customers. It eliminates the need for an intermediary platform and also delivers the benefit of 24/7 processing, unlike the traditional infrastructure operated under TARGET2.
The introduction of alternative payments infrastructure, which typically consists of a separate disruptive block that could rival or combine with any traditional, online, or mobile payments method, also aims to reduce dependence on traditional players and shift trust from organisations towards infrastructure instead. In this context, there is a huge emphasis on the potential of decentralised finance (DeFi) to disrupt traditional payments processes, characterised by a growing consideration of digital currencies such as cryptocurrencies. DeFi recreates financial products and services based on decentralised units not controlled by the government and financial intermediaries but by distributed ledger technologies(DLT)-based protocols such as smart contracts and blockchain, creating a peer-to-peer financial system. Its adoption would allow wallet holders to effect payments directly without approvals and clearance from banks and third-party PSPs within the payments value chain. This could significantly improve efficiencies in transaction costs and processing times - as well as other functions like back office, remittance payments, and trading - while expanding access to financial services. It is for this reason that, despite the initial hesitation and scepticism toward these currencies due to their potential disruption to central banks' oversight of payments, they are now being increasingly evaluated for their impacts on fostering easier, faster, and more secure payments. Banks and other financial intermediaries are also gradually looking to capitalise on the benefits of these technologies, with players such as Mastercard, Visa, and BNY Mellon already indicating a readiness to facilitate the use of such assets. Some central banks are also assessing the centralisation and use of digital currencies through CBDCs, with a recent BIS survey showing 60% of central banks to be considering CBDCs while 14% are actively conducting pilot tests. The materialisation of the latter will likely see the introduction of government-backed digital tokens to revolutionise B2C, B2B as well as cross-border payments. While this further demonstrates banks’ increasing attempts to speed up their payments innovation drive and harness the benefits of DLT within a more centralised framework, it remains to be seen how associated data protection, AML, legal and regulatory concerns about banking disintermediation and the disruption of the free market economy are addressed in this context.
In the domain of transaction services, we are seeing increased efforts by payments players to offer improved customer experiences, with the proliferation of increased interactions via aggregated platforms and fast payments solutions. Innovation is driving the development of new business models and applications for existing payments infrastructure, resulting in a network of credible and regulated units or products (online banking and e-payments platforms, payments service providers, mobile payments, digital wallets, etc). In addition, there is a rise in alternative services that accumulate customers data for later retrieval either by the customer or for use with other applications for services such as onboarding, log-in actions, risk profiling and scoring for loan applications, etc. Amazon Pay represents an example of these alternative transaction services in the B2C segment. While the service primarily allows customers to create and load e-wallets to be used for purchases on the Amazon platform, it also offers payments data storage and sharing services that allows customers to use the payment details stored on their platform to pay for purchases on other platforms. Although not as nearly advanced, we are observing similar efforts in this direction in the B2B segment, with firms like Stripe not just providing fast and secure B2B payments services but also supporting business growth by enabling new business models and extending financial service functionalities for accounting, payroll management, and card fraud detection. Other support services include virtual card issuances and lending options.
Overall, the interconnection between payments ecosystem and infrastructure is emphasised by the fact that alternative services serve as a way to retain customers and increase the amount of services provided to them, while infrastructure initiatives such as the launch of the ISO 20022 could further facilitate this by introducing a common model for generating richer, more harmonised and more granular payments data, serving to enhance interoperability, integration, and harmonisation.
Big tech’s entry presents a new and complex layer of competition within the payments ecosystem
By its characteristically high-volume nature, the payments sector lends itself well to the disruption associated with technological innovation. And while banks continue to be part of this emerging landscape, it is fintech/big tech, PIs, EMIs, and other platform providers who are at the forefront of the payments revolution and driving the most significant innovation changes, leveraging API and open banking infrastructure to ease and quicken various aspects of the payments process.
Big tech firms specifically - while they do not operate primarily as banks or financial institutions - are increasingly offering several financial services across payments, lending, asset management, and insurance services. Within payments, they offer an array of faster and easier end-to-end payments solutions to demanding customers and businesses. A good example of this is Alipay’s “super-app” which facilitates payments across different e-commerce platforms, and has developed from an e-commerce platform to a financing and investments provider.
Since Amazon first entered the European payments landscape in 2010, we have seen an influx of big tech firms, such as Google, Facebook, and Apple, seeking to make headways in their fintech expansion through payments by leveraging their primary strengths of access to advanced technology, a large pool of customer data, and the required investment capacity (deep pockets). Through strategic M&A and partnerships with regulatory-compliant banks, these firms are able to access the required capabilities and infrastructure to support their payments offerings with products and services such as virtual cards, lending/financing, cross-border payments functionalities, B2B e-commerce, and automated invoice processing (Exhibit 5). This has not only led to the decentralisation of the payments process but has also intensified competition for banks and other incumbent payments institutions.
In this respect, big tech firms could collectively accelerate the already radical transformation of the payments landscape. They have an opportunity to fully explore the integration of payments and other financial solutions within their usual service offerings - whether related to financial services or not - by harnessing the potential of embedded finance.
With developed solutions cutting across the payments, lending, and insurance landscapes, embedded finance is not only being increasingly considered as a way to modernise B2B activities but also as a natural evolution of the financial system. Moreover, big tech firms that take this route do not have to face the barrier of legacy systems and can also leverage their existing client base to expand their market reach. Accordingly, 96% of businesses plan to launch an embedded finance offering by 2026. The materialisation of this would present an additional layer of complexity to the competitive landscape that banks must yet navigate, in addition to the higher compliance costs and the needed investments to further digitalise their systems and offerings.
Embedded finance refers to the incorporation of financial tools and services within existing non-financial solutions. An example in the B2C segment is the Buy-Now-Pay-Later (BNPL) model operated by Swedish company Klarna. This is a credit provision service that allows e-commerce customers to split their purchase costs into four interest-free instalments to be paid every two weeks. Embedded finance is also increasingly becoming the most formidable means to revitalise B2B payments transactions, as it involves assessing existing tools and services, and identifying which ones could be easily leveraged with a financial service solution to meet customers needs. The current framework for embedded finance is seen in three main areas:
With developed solutions cutting across the payments, lending, and insurance landscapes, embedded finance is not only being increasingly considered as a way to modernise B2B activities but also as a natural evolution of the financial system. Moreover, big tech firms that take this route do not have to face the barrier of legacy systems and can also leverage their existing client base to expand their market reach. Accordingly, 96% of businesses plan to launch an embedded finance offering by 2026. The materialisation of this would present an additional layer of complexity to the competitive landscape that banks must yet navigate, in addition to the higher compliance costs and the needed investments to further digitalise their systems and offerings.
Embedded finance refers to the incorporation of financial tools and services within existing non-financial solutions. An example in the B2C segment is the Buy-Now-Pay-Later (BNPL) model operated by Swedish company Klarna. This is a credit provision service that allows e-commerce customers to split their purchase costs into four interest-free instalments to be paid every two weeks. Embedded finance is also increasingly becoming the most formidable means to revitalise B2B payments transactions, as it involves assessing existing tools and services, and identifying which ones could be easily leveraged with a financial service solution to meet customers needs. The current framework for embedded finance is seen in three main areas:
Innovation of B2B payments represents the new frontier of payments
The European payments services industry is not only supporting global digital transformation and driving innovation; it has also been seen to be pivotal to the way consumers and corporations conduct business in recent times.
The greatest impact of this has been in the B2C sphere, where we have observed a wide-scale shift towards e-commerce and surging demand for seamless trade settlements and remittance processing. Demand for non-cash transactions has been growing in recent years, with card payments, credit transfers, and direct debits representing the major means of effecting payments and accounting for 51%, 21%, and 21% respectively of all cashless payments in the Euro area in 2021. That being said, e-money payments have recorded the fastest growth rate, with its share as a percentage of total non-cash transactions increasing from 4% to 7% between 2017 and 2021 (Exhibit 6). A study by Moody's Analytics and VISA further highlights the importance of e-money - not only as an increasingly preferred means of payments but also as a significant propellent of GDP growth - showing e-money to add up to USD 245bn to global GDP between 2015 and 2019.
Nevertheless, while the payments revolution has advanced within the B2C context and remains a vital aspect of banks’ retail customers' transactions, there still appears to be a lag when it comes to banks’ B2B activities. This is likely due to factors such as high payments volume and frequency, industry dynamics, and participants. Even though the past year has seen a gradual move by businesses towards the digitalisation of their B2B businesses, most remain prone to the use of traditional infrastructure and are heavily reliant on paper cheque processing. A 2022 Mastercard study provides further evidence of this, estimating paper cheques to still account for more than 50% of the overall transaction value of B2B payments in the US alone. That being said, recent times have seen heightened attention drawn to the quality and effectiveness of banks’ existing B2B payments service offerings. Customer concerns around supply chain lending/financing, visibility, cash and treasury liquidity management solutions, transaction risk mitigation through multi-factor authentication, and cross-border payments delays, are also some of the factors pushing banks on the fast track towards more digitalisation initiatives in the B2B segment (Exhibit 7).
The greater adoption of instant payments, agile infrastructure, and value-added services associated with digital payments methods are thus regarded as necessary next steps in the evolution of B2B payments, given their potential to mitigate the challenges of traditional and largely paper-based payments processes, manage operational and regulatory compliance costs, and enhance profitability. In this context, payments become crucial to banks’ overall value proposition and revenue generation potential in light of mounting competition and the challenge to traditional payments methods. This is even more the case as various EMIs and other non-bank PSPs increasingly leverage technology to radically transform how B2C and, in more recent times, B2B payments are carried out.
Focus on Luxembourg
As a global and well-connected financial services centre, Luxembourg has adapted well to the evolution of payments. Its payment sector, while initially dominated by only a few retail banks and mainly focused on the domestic market and the Greater Region, has witnessed a strong digitalisation of its services offerings since 2010. This has led to the influx of new and innovative services such as e-money, mobile payments, and cryptocurrency exchanges, highlighting the country’s attractiveness as a major European hub to many multinational EMIs and PIs like PayPal, Alipay, and eBay (Exhibit 8).
Despite not being as advanced as Nordic countries like Norway, Denmark, and Sweden - who are forecasted to become nearly cashless by 2025 on the back of greater government trust and financial market stability, higher digital literacy levels even among older generations, and more proactive efforts by banks to adapt to digital transformation - Luxembourg’s agility has allowed it to leverage innovation to make headway within the payments landscape compared to several other counterparts in the Euro area. These innovations have ignited a rapid digitalisation of the payments services offered by the country to domestic, European and international markets. As of end-2021, Luxembourg's 5.4bn cashless payments transactions represented 5% of the 111.2bn total non-cash payments in the Euro area(Exhibit 9). But it is when one considers e-money that the country’s significance within the Euro area's payments landscape becomes more prominent. ECB estimates show that the total number of e-money transactions in Luxembourg increased annually from 2.6bn in 2017 to 5bn in 2021.
This figure represents 93% of all cashless payments transactions in the country and nearly 68% of all e-money payments transactions within the Euro area in the period. The large volume of cross-border e-payments effected via dominant Luxembourg-based institutions such as Amazon, eBay and Airbnb primarily contribute to this and highlights Luxembourg’s role as a key contributor to the circulation of e-money within the Euro area. Factors like the country’s potent innovation drive, favourable regulatory landscape, the presence of highly secured tier 4 data centres and other specialised IT infrastructure, and the strongly connected network of banks, PIs, EMIs, and fintech and big tech players also favour the development of payments innovations in Luxembourg.
Moreover, bolstered by its geographical proximity to other major e-commerce centres and the attractiveness of its cross-border competencies to international merchants, the proliferation of Luxembourg’s e-commerce segment is set to persist - with a forecasted 5.6% CAGR growth up to 2023 from 2019. In line with this, we expect the number and volume of non-cash transactions to accelerate in the coming years, with JP Morgan forecasting Cashless payments (cards, bank transfers and digital wallets) to constitute up to 90% of all payments in the country in 2023 .
Luxembourg’s enabling environment has encouraged the emergence of several start-ups that are utilising API and open banking infrastructure to transform payments, especially within the B2C segment. A major example of this is Payconiq, a platform provider driving the seamless integration of API infrastructure within the European payments ecosystem through stand-alone applications and bank platform integrations. As the demand for instant and real-time payments among B2B players becomes even more urgent, Luxembourg is seen to be moving at pace, with the fintech and big tech firms that pioneered the digitalisation of B2C payments increasingly turning their attention to the B2B segment.
At the forefront of this shift in Luxembourg is Banking Circle, a licensed payments bank that allows banks and payments institutions to offer B2B payments and other banking services to their customers without costly infrastructure requirements. This involves the provision of API-enabled connections to local clearing systems - both independent clearing houses and those of partner banks - to facilitate international cross-border payments in 25 currencies. In recent times, we have also seen the development of professional B2B payments platform ENPAY by Finlogee. This platform allows banks and corporations to streamline and automate payments and reporting processes. Using its multi-bank account access and connection to SWIFT, B2B customers can effectively conduct and monitor different payments functions from anywhere in the world via a single and secure API.
Luxembourg’s contributory role to the advancement of sustainability within the asset and wealth management sector also holds potential for the sustainable transformation of the payments ecosystem. Through its efforts within the AWM realm, the country has amassed a wealth of knowledge and expertise on the legal, societal and business implications of further sustainability integration. In this respect, Luxembourg is already well positioned to provide the right context and develop the platforms for embedding various aspects of sustainability (environmental, social and governance) within the payments ecosystem. Similarly, there’s the potential to create a secure regulatory environment for the greater adoption of cloud technologies within Luxembourg’s banking sphere, with further implications for increased cloud payment services.
Given its unique location, cross-border expertise and market access to a European and increasingly global customer base, Luxembourg finds itself favourably positioned as a core hub for payments firms to deliver unified payments services across the EU, thus providing opportunities for greater collaboration between banks and fintech players and driving the further innovation of B2B payments.
Contact us
Olivier Carré
Deputy Managing Partner, Technology & Transformation Leader, PwC Luxembourg
Tel: +352 49 48 48 4174
Philippe Foerster
Assurance Partner, E-Money & Payments Institutions Leader, PwC Luxembourg
Tel: +352 49 49 48 2065
