Intelligent Progress or Technological Gimmick?
Our daily lives today are shaped by the ubiquity of global information. A key contributor to this evolutionary step is undoubtedly the introduction, use, and ongoing optimization of smart devices and their associated smart applications. This trend has also been gaining momentum in the payments sector for years and is a key component of payment processing, particularly in the area of so-called “alternative payment methods.”
When federal government agencies today strive to conquer the realm of digitalization with “smart applications” (examples include the i-Kfz app, the digital ID card, NINA), this is a clear sign that the concept of “smartification” has long since permeated every aspect of our lives.
What does “smart” actually mean in our lives?
The term “smart” may not always be clearly defined and may sometimes depend on the reader’s individual interpretation.
In its most original meaning in English, it referred to something painful, stinging, or biting. However, not much of that original meaning remains. Our modern understanding of “smart” is better described by adjectives such as intelligent, digitally connected, intuitive, and perhaps even “enveloped in a touch of elegance.”
And it is precisely this “modern” interpretation of the term that gave rise to the name for an entire generation of communication peripherals (both hardware and software), which are also used extensively for smart payment processing.
The Path to a Smart Society
In the 1990s, cell phones were the “latest craze” among a globally interconnected population embracing digital technology. And with this emerging connectivity came both the desire and the need to have this knowledge at one’s fingertips anytime, anywhere. And so, in the early 2000s, the first true smart devices—BlackBerrys—emerged, capable of providing information from the World Wide Web (“WWW”) on the go at any time.
In line with these newly emerging requirements, the visionary Steve Jobs developed a holistic concept combining “smart devices” and “smart applications.” He understood better than anyone else how to align the “smart” features of his software and hardware products with society’s needs and use that to create a comprehensive concept, including appropriate marketing.
In today’s “smart” online world, many brick-and-mortar and online service providers have their own smart apps designed to promote and even sell their services. However, this payment functionality varies greatly from app to app—and it is precisely this phenomenon that we want to analyze in more detail from the perspective of “smart processing.”
Smart Payment
“Smart payment”—as the term is commonly used in our society—is defined today primarily by the front end, that is, the end-customer interface. In line with the semantics mentioned above, we generally understand “smart payment” to mean the ability to initiate and manage payments using our smart devices (cell phones, tablets, watches, etc.).
However, whether a payment can truly be executed “smartly” from the end customer’s perspective depends, on the one hand, on the intuitiveness of the payment app used and, on the other hand, on its feature set.
The level of intuitiveness boosts engagement with end customers and, at the very least, creates a buzz around end-customer sign-ups for the payment app in question (and thus for the service provider). The feature set then determines the success in terms of the number of clicks for transactions within the app. If you then add a touch of “elegance” to these two aspects (i.e., an eye-pleasing visual design in the app), you come very close to the modern etymological meaning of “smart.”
Today, there are countless different wallet apps on the market that allow end users to digitally manage their various payment methods and initiate payments. Here in Germany, only a few banks have allowed external payment apps to integrate with their smart online banking apps. The main exceptions here are the Sparkassen, which introduced online girocard payments via Apple Pay as recently as mid-2020. It wasn’t until the launch of Wero that the participating banks in Germany opened up to integrating this payment method into their online apps. When it comes to payment wallets not owned by banks, it ultimately comes down to Apple or Google in most cases—these are the platforms through which the majority of digital payers make their payments. And then, of course, there are the smart apps from the respective payment scheme operators (PayPal, Wero, Bizum, Bluecode, etc.).
All of these applications run as smart apps on smart devices and largely embody the characteristics implied by the word “smart.” From the end customer’s perspective, therefore, most of these payment apps can be described as “smart.”
“Smart” Backend Processing
However, as we all know, triggering a payment in the payment app does not mean the payment is complete—it merely initiates the process. The actual “magic” of the payment takes place in the background—in a digital world that isn’t always entirely transparent—involving a wide variety of processing participants. And here, it’s worth taking a closer look to examine just how “smart” the payment process really is.
A payment initiated via a “smart” app typically proceeds in three steps:
- Authentication of the Payer
- Authorization of the payment amount
- Deducting the payment amount.
Processes 1 and 2 are initiated via the app in interaction with the payer. Step 3 can also be initiated from within the app in the presence of the payer (“Cardholder-Initiated Transaction”), but it can also be initiated later by the merchant without the payer being present (known as a “Merchant-Initiated Transaction”). The merchant decides which option to use.
Authentication alone can determine just how “smart” a payment can be made. Since the introduction of PSD2 and the two-factor authentication requirement that came with it, there has been a wide variety of technical options for authenticating a payer. In today’s apps—whether operated by the merchant itself (REWE app, Lidl app, Edeka app, etc.) or by a wallet provider (Apple, Google, PayPal, Wero, etc.)—this second factor is usually performed via a biometric verification process (fingerprint, Face ID, etc.) via the smart device. In the case of retailer-operated apps, this can even be simplified using a so-called “1-click process,” in which authentication occurs only once and is then permanently integrated into the payment process within the retailer’s app.
So it’s easy to see that the “smart” logic behind authentication can take various forms and thus offer different levels of convenience. Consequently, there are also “smart” methods that are perceived differently and that compete for the favor of those willing to pay.
The processing of authorizations can also be quite complex. While the simplest form of authorization processing merely guarantees that the total amount of a payment is available with the issuer, an advanced form allows partial authorizations to make up a total amount that can be settled individually at different times. A third form consists of so-called PREAUTHs (e.g., at gas station pay stations), in which a maximum amount is authorized and a partial amount is subsequently debited as needed. All of the procedures described trigger very different checks and processes at the issuer, which in turn involve varying degrees of complexity.
The various types of payment transactions initiated by merchants or directly from the app are largely covered by the use cases described above. And yet, even here, there are still additional variations in data transmission between the acquirer and the issuer, which in turn can increase complexity. In addition, payment transactions initiated via smart devices in particular involve the use of so-called SDKs, whose technical implementation can vary depending on the PSP or network operator. These SDKs (“Software Development Kits”) provide merchants with specialized interfaces (APIs) that allow them to transmit additional device information (e.g., device manufacturer, device model, biometric method used for 2FA, OS version) to the issuer so that the issuer can take this data into account when assessing the risk profile of the submitted payment.
As a general rule, the following guideline applies to all these considerations:
The greater the complexity in the payment processing interfaces, the more options can be offered to the payer—and thus the broader the range of features available—and the “smarter” the payment app and its associated processing workflow become.
So how “smart” are we really when it comes to payment processing?
The considerations outlined above demonstrate just how inconsistent the end-to-end processing of a payment transaction (including the associated processes) can be across the various processors and payment methods involved in the transaction.
Drawing on the in-depth etymology of the word “smart,” we can certainly conclude that all processes—regardless of which party carries them out—are performed digitally and are interconnected. However, when it comes to intuitiveness, this may still hold true on the front end—that is, in the realm of app usage. But the back-office processes cannot meet this criterion, as they were designed not to be intuitive but rather to pragmatically serve the goal of efficient back-end processing.
And then there was also that “touch of elegance.” This criterion certainly carries weight in the front end as well; ultimately, it can even deter an end customer from using an app—or, conversely, inspire them to use it. In the back-office realm, one might expect this criterion to apply to merchant reporting. Unfortunately, however—according to many merchants—this is precisely where most PSPs and network operators fall short. In short: elegance in the back office is pretty much nonexistent.
Realistically speaking, there is likely no payment method today that is processed as a “smart” system from start to finish. While this assessment does not call into question the digitization of the various existing payment methods, their “smartification” is, unfortunately, still a long way off.
How Do Payments Become Clever & Smart?
The next stage of evolution following the introduction of the “smart” lifestyle could be a “clever & smart” lifestyle. In other words, our smart handheld devices and applications/processes will learn to behave intelligently.
With regard to our topic of payments, the following aspects could be taken into account when defining such a project:
- The “smart” payment processing within the app is already a given today and, of course, can only be improved upon in the future. Adding payment features to existing apps is often useful or even necessary to stay competitive.
And, of course, artificial intelligence is a key driver of this very kind of development. Don’t worry—that doesn’t mean we’ll all have to pull our own little nuclear power plant on a handcart behind us in the future to quench the AI’s thirst for energy in the payment app, but perhaps AI can help simplify the payment process through processes related to “Agentic Commerce” or through the selective optimization of current loyalty and marketing campaigns. - Real-time reporting by PSPs/network operators to merchants, including all transaction data (such as settlement and invoicing data), would be desirable. This reporting should, at a minimum, be designed with “intuitiveness” and “elegance” in mind.
- Real-time reporting by the executing payment schemes to the acquirer/network operator, including all transaction data (including settlement and invoicing data), would be desirable
- Real-time transfer of settlement amounts between all parties involved (SEPA Instant), accompanied by real-time processing of all incoming amounts and immediate subsequent availability of funds.
- Standardization of settlement procedures (gross vs. net) across all payment methods offered by a PSP/acquirer/network operator would be a major achievement from the merchant’s perspective.
Ultimately, the goal is to process payments—from start (end-customer authentication) to finish (settlement with the merchant)—in a way that is as user-friendly as possible, traceable at the transaction level, and completed promptly through all stages of the process.
If this can be achieved regardless of the payment method used, then it clearly provides real added value for merchants, which will certainly earn this service provider the recognition it deserves from them.
It is precisely the new “smart” payment methods that are vying for merchants’ favor. And as mentioned at the beginning, the “door opener” (smart front end) is necessary but not sufficient for the success of the payment method. It requires the merchant side to generate sufficient traction for the system through adequate scaling. An “end-to-end smart payment method” can help bridge precisely this often significant gap on the merchant side.
Conclusion
The weaknesses now identified on the path to fully smart payment processing are located at various processors, each of which prioritizes very different interests for its own success.
The scheme that provides the payment instrument (insofar as this can also be considered applicable to alternative payment methods) must, however, weigh all these interests against one another right from the start of the design process and—if possible—design its product and processes with the goal of a smart, holistic payment process that benefits everyone. Unfortunately, for a variety of reasons, this has not always been the case in the past.
So let’s look forward to being pleasantly surprised by the innovations that will pave the way for a fully intelligent and smart payment method in the coming years.