Fed puts payments in crosshairs

A report issued by the United States Department of the Treasury on March 31, 2008, which outlines supposed improvements and reforms to several sectors of the financial services industry, singles out the electronic payments industry as one sector where federal oversight is necessary.

As well as calling to consolidate and modernize the regulation of the banking sector, the Treasury Department recommends the Federal Reserve System be given regulatory authority in the form of a federal charter over the industry's primary payment and settlement systems.

In the report, entitled The Department of Treasury Blueprint for a Modernized Financial Regulatory Structure, breaks recommendations concerning payments into 10 categories:

1. The Fed's charter will be limited to only the payment and settlement systems having "systemic importance to the U.S. financial system and economy."

2. The Fed will be given the power to "charter, regulate and supervise" any such system it considers important.

3. The Fed's charter will preempt or supercede any state charters because of the complex interstate activity of payments.

4. Where the Fed does not see a need for oversight, state charters will remain in place.

5. The Fed, as the primary regulatory power, will coordinate with other federal and state agencies.

6. The Fed will be given the authority to establish regulatory standards for the industry.

7. The Fed will have the power to conduct audits of payment systems.

8. The owners and operators of the "systemically important" payments systems will pay the Fed for its supervision and regulation responsibilities.

9. The Fed will also be the licensing authority for "foreign-based payment and settlement systems with U.S. operations."

10. A study should be undertaken to analyze the payments industry from a risk management and efficiency standpoint.

In the document, the Treasury Department states that these 10 measures should be implemented to "reduce risks, improve efficiency and ultimately improve the well-being of the American public through more robust stability of the financial system."

Concerns

But Theodore F. Monroe, a payments industry Attorney based in Los Angeles, does not see the proposed regulations as benefiting the industry. "The federal charter process would be a major negative development for this industry – expensive and stifling to the entrepreneurial spirit of the industry."

The federal government has made pronouncements in the past about increased regulation of payments. In 1998, for instance, the Fed, under then-Chairman Alan Greenspan, issued a report that recommended that the Fed get more actively involved in aspects of the payments industry.

The Fed plays a significant regulatory role in payments today, such as in interbank check collection and in the area of consumer liability for fraudulent electronic funds transfer activities, but it does not have the sweeping powers proposed in the current report.

And Monroe admits that "at present our industry is surprisingly devoid of [government] regulation."

But the then Federal Reserve Governor Mark W. Olson cautioned in remarks at the 2005 Payments Conference held in Chicago that "however well intended, efforts to alter current laws and regulations may assume that today's technological state of the art will also be tomorrow's and, second, that any changes based on that assumption could have the unintended consequence of stifling innovation."

Olson went on to say that he "would be wary of making fundamental changes to the existing regulatory regimes without substantial study and careful consideration of the potential implications."

Monroe is concerned about the government's proposal this time around, coming in the wake of the subprime mortgage debacle and the credit crunch that has caused havoc with homeowners and destabilized the entire financial services industry.

"We've seen real stress on investment banks and FDIC- [Federal Deposit Insurance Corp.] insured banks," Monroe said. "What I fear is the payments industry tends to touch the banking industry – that we're going to get swept up in any regulation in those industries."

Getting out in front

Regulation of the payments industry is just one part of the government's comprehensive plan to reorganize the nation's entire financial system and dramatically increase the Fed's regulatory and supervisory powers over it.

Among the plan's other goals is to merge the Securities and Exchange Commission with the Commodity Futures Trading Commission and to implement direct federal supervision of the state-chartered banking system.

Although the plan began to be formulated in March 2007, before the subprime mortgage meltdown hit the economy in August 2007, that crisis may give added momentum to the government's proposal.

"Any legs that this [plan] has," Monroe said, "is due to the crisis."

He added, "What I hope is that the Electronic Transactions Association will aggressively deal with this issue to make sure any proposed legislation protects the interests of the industry and protects the interests of various stakeholders."

The ETA, headquartered in Washington, D.C., is an international trade association that represents the global electronic payments industry.

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