Greenspan Assesses Transitions in Payments System

Bubbles aren't the only things that burst.

At a conference last week, Fed Chairman Alan Greenspan reflected upon the "burst of creativity" leading to the creation of electronic payment systems in the 1970s, and a similar "burst of creativity" in the 1990s. Although both creative periods may have involved a certain degree of exuberance, "the situations today and in the 1970s are very different," he says.

Back in the 1960s, when the Nifty Fifty reigned supreme, the financial markets reached an unprecedented crisis point. "A paperwork crisis was overwhelming the financial markets, as the rapid growth in financial activity outpaced the system's ability to clear and settle financial transactions and payments using traditional, manual processes," says Greenspan, speaking at the Federal Reserve Payments System Development Committee 2003 Conference last week in Washington, D.C.

The industry response was the payments system infrastructure that still exists today, including the ACH network and bank credit cards. These developments also marked the start of a long tradition of prognostication on technological trends. "Reacting to these developments and new systems, commentators of the time predicted the advent of the 'cashless' and 'checkless' society," says Greenspan. "We know the history of these predictions."

A similar wave of innovation in the 1990s revolved around adapting existing payments to the Internet and "experimenting with entirely new payments systems," says Greenspan. "Work also began on projects to convert checks to ACH or other electronic payments, at the point of sale or at lockboxes, to reduce the costs of processing and to speed the collection of funds."

Predictions about the success of these technologies may have a better chance of coming to fruition this time around. Greenspan lists five reasons why things look different now:

1. Cash holdings and check usage are on the decline. "The nominal value of per capita holdings of small-denomination bank notes -- those used heavily in domestic commerce -- is now growing very slowly." Furthermore, "the use of checks in our society has now begun to decline."

2. Strong, sustained growth in credit card, debit card, ACH usage. "Electronic payments now account for about half of the number of all non-cash payments."

3. Clear economic benefit. "Through the use of electronic payments, retailers and billers are continuing to seek productivity gains and cost reductions in their transactions with consumers."

4. Strong adoption. "Households across most age and income categories have been adopting basic electronic payment instruments, although, as might be expected, younger households are in the forefront."

5. Government backing. "The U.S. government is actively working on new technologies and services to increase the use of electronics in both its payments and collections."

Accordingly, the design of the core U.S. electronic payments systems has come to the forefront as a key concern for both the industry and its regulators alike. "The markets will undoubtedly shape the use of payments systems," says Greenspan. "However, there are only a handful of core systems and it is very important that these systems be well designed so that they do not block market innovation."