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Chapter 4
      Payment Systems



Copyright © 2012 Pearson Education




                                     1
Learning Objectives
n Describe the features of traditional
  payment systems
n Understand the major e-commerce
  payment mechanisms
n Describe the features and functionality
  of electronic billing presentment and
  payment systems

Copyright © 2012 Pearson Education                Slide 4-76




                       Types of Payment Systems
n Cash

n Checking Transfer

n Credit Card

n Stored Value

n Accumulating                       Balance


Copyright © 2012 Pearson Education                Slide 4-78




                                                               2
Cash
n    Legal tender defined by a national authority to
     represent value
n    Most common form of payment in terms of
     number of transactions
n    Instantly convertible into other forms of value
     without intermediation
n    Portable, requires no authentication
n    “Free” (no transaction fee), anonymous, low
     cognitive demands
n    Limitations: easily stolen, limited to smaller
     transaction, does not provide any float (period of
     time between purchase and actual payment),
     purchases tend to be final and irreversible unless
     otherwise agreed by the seller
Copyright © 2012 Pearson Education                             Slide 4-79




                                 Checking Transfer
n    Funds transferred directly via signed draft/check from a
     consumer’s checking account to merchant/ other individual
n    Most common form of payment in terms of amount spent
n    Second most common payment form in the United States in
     terms of number of transactions
n    Can be used for small and large transactions
n    Some float (can take up to 10 days for out-of-state checks to
     clear)
n    Not anonymous, requires third-party intervention (banks)
n    Introduces security risks for merchants (forgeries – so
     authentication is required – bounced checks, stopped
     payments),
Copyright © 2012 Pearson Education                             Slide 4-80




                                                                            3
Credit Card
n Account that extends credit to consumers,
  permits consumers to purchase items while
  deferring payment, and allows consumers to
  make payments to multiple vendors at one
  time
n Credit card associations:
       v Nonprofit associations  (Visa, MasterCard) that set
          standards for issuing banks, e.g., CitiBank
n    Issuing banks:
       v Issue      cards and process transactions
n    Processing centers (clearinghouses):
       v Handle         verification of accounts and balances

Copyright © 2012 Pearson Education                              Slide 4-81




                                     Credit Card
n Are widely accepted as a form of payment
n Reduce risk of theft related with carrying cash
n Increase consumer convenience
n Offer consumers considerable “float”
n Merchants benefit from increased consumer
  spending, but pay a hefty transaction fee of 3-5% to
  the issuing banks
n Consumers are liable to $50 for unauthorized
  transactions occurring before card issuer is notified
n Consumers can refute or repudiate purchases under
  certain circumstances
n Limit risk for consumers while raising it for
  merchants and banks
Copyright © 2012 Pearson Education                              Slide 4-82




                                                                             4
Stored Value
n Accounts created by depositing funds into an
  account, from which funds are paid out or
  withdrawn as needed
       v   Examples: Debit cards, gift certificates, prepaid cards,
           smart cards
       v   Debit cards: Immediately debit a checking or other
           demand-deposit account
n    Peer-to-peer (P2P) payment systems
       v   Variation on stored value systems
       v   e.g. PayPal requires an account with stored value,
           either a checking account or a credit card

Copyright © 2012 Pearson Education                              Slide 4-84




            Accumulating Balance
n Accounts that accumulate expenditures and
  to which consumers make period payments
       v   Examples: Utility, phone, American Express
           accounts
       v   Accumulate balances over a specified period and
           are paid in full at the end of the period
n    Evaluating payment systems:
       v   Different stakeholders (consumers, merchants,
           financial intermediaries, government regulators)
           have different priorities in payment system
           dimensions (cost, convenience, refutability, risk,
           anonymity, etc.)
Copyright © 2012 Pearson Education                              Slide 4-85




                                                                             5
Payment System Stakeholders’ Priorities
 n Consumers
       v Low-risk, low-cost, refutable, convenience, reliability

 n Merchants
       v Low-risk, low-cost, irrefutable, secure, reliable

 n Financial                 intermediaries
       v Secure, low-risk, maximizing profit

 n Government regulators
       v Security, trust, protecting participants   and enforcing
          reporting
Copyright © 2012 Pearson Education                            Slide 4-86




Copyright © 2012 Pearson Education                            Slide 4-87




                                                                           6
Online Payment Methods in Other Parts of the World

n Europe: mostly bank debit cards and some
  credit cards
n China: paid by check or cash and pick up at
  local store
n Japan: postal and bank transfers and CODs,
  using local convenience stores as pickup
  and payment point; also use accumulated
  balance accounts with telco for purchases
  made from home PCs
Copyright © 2012 Pearson Education                   Slide 4-88




                   Online Credit Card Transactions
n Processed in much the same way that in-store
  purchases are
n Major difference is that online merchants do
  not see or take impression of card, and no
  signature is available (CNP transactions)
n Thus are major reasons that charges can be
  disputed later by consumers
n Participants include consumer, merchant,
  clearinghouse, merchant bank (acquiring bank)
  and consumer’s card issuing bank

Copyright © 2012 Pearson Education                   Slide 4-89




                                                                  7
How an Online Credit Transaction Works




Figure 4.16, Page 301
Copyright © 2012 Pearson Education                                        Slide 4-90




   Limitations of Online Credit Card Payment Systems

n    Security:
       v   Neither merchant nor consumer can be fully authenticated
n    Cost:
       v   For merchants, around 3.5% of purchase price plus transaction
           fee of 20 – 30 cents per transaction + other setup fees (see next
           fig.)
       v   Paypal’s fees are even higher 3.5% + 1.5% – 3%
       v   Avoiding this by aggregating purchases made within 24 hrs
           and charge to credit card account as a total, e.g., Apple’s iTunes
           Music Store with $0.69 – $1.29 cents/ song
n    Social equity:
       v   Many people do not have access to credit cards (young adults,
           plus almost 100 million other adult Americans who cannot
           afford cards or who have low incomes)
Copyright © 2012 Pearson Education                                        Slide 4-92




                                                                                       8
E-commerce Payment Systems (cont.)
n    Digital wallets
       v Emulates functionality of wallet  by authenticating
         consumer, storing and transferring value, and securing
         payment process from consumer to merchant
       v Early efforts to popularize failed; E.g., MS’s server-side
         Passport & MSN Wallet terminating in Feb 2005
       v Latest effort: Google Checkout




Copyright © 2012 Pearson Education                            Slide 4-93




   Google Checkout Sample Screen




Copyright © 2012 Pearson Education                            Slide 4-94




                                                                           9
Digital Cash (“e-cash”)
   n One of the first forms of alternative payment
     systems
   n Value storage and exchange using tokens
   n Not really “cash”
         v   Users deposit money in bank or provide credit card; banks
             issue digital tokens (unique encrypted number) for
             denominations of cash, and consumers “spend” these at
             merchants’ sites; merchants deposit these e-tokens in its
             bank
   n Most early examples (DigiCash, First Virtual, and
     Millicent) have disappeared; protocols and
     practices too complex
   n GoldMoney still survive

  Copyright © 2012 Pearson Education                              Slide 4-95




  Digicash: How First Generation Digital Cash
                   Worked
Figure 6.6, Page 324




  Copyright © 2012 Pearson Education                              Slide 4-96




                                                                               10
Online Stored Value Systems
n Permit consumers to make instant, online
  payments to merchants and other individuals
n Based on value stored in a consumer’s bank,
  checking, or credit card account
n PayPal most successful system with $91 billion
  processed in 2010, 98 million users
n Good sides: no personal credit info shared
  among the users; service can be used by
  individuals to pay one another even in small
  amounts
n Down sides: high cost and lack consumer
  protections when fraud occurs or charge is
  repudiated
Copyright © 2012 Pearson Education             Slide 4-98




                            How PayPal Works




Copyright © 2012 Pearson Education             Slide 4-99




                                                            11
Online Stored Value Systems
n   Smart cards: plastic cards with embedded chips storing
    personal data (e.g., multiple credit card no’s and info
    about health insurance, transportation, personal ID,
    bank accounts, and frequent fryer accounts)
    v Contact          : Require physical reader
          n certain-value retail store gift cards
          n Mondex – allows users in Europe and Asia to download cash
            from bank account to the card via Mondex-compatible phone
            or a card reader connected to a PC, can carry 5 currencies
            simultaneously and accepted by merchants who have readers
            installed
    v Contactless             : Use RFID or NFC technology
          n   EZPass – highway toll payment system
          n   Octopus – rechargeable contactless stored value smart card used in
              Hong Kong to pay public transportation, convenience stores, fast-food
              restaurants, parking, and POS.
Copyright © 2012 Pearson Education                                        Slide 4-100




        E-commerce Payment Systems (cont.)
    n   Digital accumulated balance payment:
        v Users  accumulate a debit balance for which they are
          billed at the end of the month, like a utility or phone bill
        v PaymentsPlus, BillMeLater

    n   Digital checking:
        v Extends  functionality of existing checking accounts for
          use online
        v Based on consumer’s existing checking account
        v Advantages: do not require consumers to send sensitive
          info over the Web, cheaper than credit cards for
          merchants, much faster than paper checks
        v PayByCheck, EBillMe
Copyright © 2012 Pearson Education                                        Slide 4-101




                                                                                        12
PayByCheck Sample Screen




Copyright © 2012 Pearson Education                                  Slide 4-102




                   Mobile Payment Systems
n Use of mobile handsets as payment devices well-
  established in Europe, Japan, South Korea
n Japanese mobile payment systems
       v   E-money (stored value charged by credit card or bank accounts)
       v   Mobile debit cards (tied to bank accounts)
       v   Mobile credit cards
n Japan’s NTT DoCoMo launched wireless RFID cell
  phones and related payment system (FeliCa) in 2004
n Not as well established yet in United States
       v   Infrastructure still developing
       v   Apple, Google, RIM developing separate NFC systems


Copyright © 2012 Pearson Education                                  Slide 4-103




                                                                                  13
FeliCa System Demo YouTube




           http://www.youtube.com/watch?v=QGkoFXbC3-4
Copyright © 2012 Pearson Education                               Slide 4-104




      Electronic Billing Presentment and
               Payment (EBPP)
n Online payment systems for monthly bills
n 30% + of households in 2010 used some EBPP;
  expected to continue to grow
n Two competing EBPP business models:
       v   Biller-direct (dominant model): Used by utility, phone, and
           credit card companies, and individual stores
       v   Consolidator: Third party (financial institution or portal)
           aggregates consumer’s bills and permits one-stop bill
           payment
n    Both models are supported by EBPP
     infrastructure providers
Copyright © 2012 Pearson Education                               Slide 4-105




                                                                               14
Copyright © 2012 Pearson Education   Slide 4-106




Copyright © 2012 Pearson Education   Slide 4-107




                                                   15

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04-2 E-commerce Payment Systems slides

  • 1. Chapter 4 Payment Systems Copyright © 2012 Pearson Education 1
  • 2. Learning Objectives n Describe the features of traditional payment systems n Understand the major e-commerce payment mechanisms n Describe the features and functionality of electronic billing presentment and payment systems Copyright © 2012 Pearson Education Slide 4-76 Types of Payment Systems n Cash n Checking Transfer n Credit Card n Stored Value n Accumulating Balance Copyright © 2012 Pearson Education Slide 4-78 2
  • 3. Cash n Legal tender defined by a national authority to represent value n Most common form of payment in terms of number of transactions n Instantly convertible into other forms of value without intermediation n Portable, requires no authentication n “Free” (no transaction fee), anonymous, low cognitive demands n Limitations: easily stolen, limited to smaller transaction, does not provide any float (period of time between purchase and actual payment), purchases tend to be final and irreversible unless otherwise agreed by the seller Copyright © 2012 Pearson Education Slide 4-79 Checking Transfer n Funds transferred directly via signed draft/check from a consumer’s checking account to merchant/ other individual n Most common form of payment in terms of amount spent n Second most common payment form in the United States in terms of number of transactions n Can be used for small and large transactions n Some float (can take up to 10 days for out-of-state checks to clear) n Not anonymous, requires third-party intervention (banks) n Introduces security risks for merchants (forgeries – so authentication is required – bounced checks, stopped payments), Copyright © 2012 Pearson Education Slide 4-80 3
  • 4. Credit Card n Account that extends credit to consumers, permits consumers to purchase items while deferring payment, and allows consumers to make payments to multiple vendors at one time n Credit card associations: v Nonprofit associations (Visa, MasterCard) that set standards for issuing banks, e.g., CitiBank n Issuing banks: v Issue cards and process transactions n Processing centers (clearinghouses): v Handle verification of accounts and balances Copyright © 2012 Pearson Education Slide 4-81 Credit Card n Are widely accepted as a form of payment n Reduce risk of theft related with carrying cash n Increase consumer convenience n Offer consumers considerable “float” n Merchants benefit from increased consumer spending, but pay a hefty transaction fee of 3-5% to the issuing banks n Consumers are liable to $50 for unauthorized transactions occurring before card issuer is notified n Consumers can refute or repudiate purchases under certain circumstances n Limit risk for consumers while raising it for merchants and banks Copyright © 2012 Pearson Education Slide 4-82 4
  • 5. Stored Value n Accounts created by depositing funds into an account, from which funds are paid out or withdrawn as needed v Examples: Debit cards, gift certificates, prepaid cards, smart cards v Debit cards: Immediately debit a checking or other demand-deposit account n Peer-to-peer (P2P) payment systems v Variation on stored value systems v e.g. PayPal requires an account with stored value, either a checking account or a credit card Copyright © 2012 Pearson Education Slide 4-84 Accumulating Balance n Accounts that accumulate expenditures and to which consumers make period payments v Examples: Utility, phone, American Express accounts v Accumulate balances over a specified period and are paid in full at the end of the period n Evaluating payment systems: v Different stakeholders (consumers, merchants, financial intermediaries, government regulators) have different priorities in payment system dimensions (cost, convenience, refutability, risk, anonymity, etc.) Copyright © 2012 Pearson Education Slide 4-85 5
  • 6. Payment System Stakeholders’ Priorities n Consumers v Low-risk, low-cost, refutable, convenience, reliability n Merchants v Low-risk, low-cost, irrefutable, secure, reliable n Financial intermediaries v Secure, low-risk, maximizing profit n Government regulators v Security, trust, protecting participants and enforcing reporting Copyright © 2012 Pearson Education Slide 4-86 Copyright © 2012 Pearson Education Slide 4-87 6
  • 7. Online Payment Methods in Other Parts of the World n Europe: mostly bank debit cards and some credit cards n China: paid by check or cash and pick up at local store n Japan: postal and bank transfers and CODs, using local convenience stores as pickup and payment point; also use accumulated balance accounts with telco for purchases made from home PCs Copyright © 2012 Pearson Education Slide 4-88 Online Credit Card Transactions n Processed in much the same way that in-store purchases are n Major difference is that online merchants do not see or take impression of card, and no signature is available (CNP transactions) n Thus are major reasons that charges can be disputed later by consumers n Participants include consumer, merchant, clearinghouse, merchant bank (acquiring bank) and consumer’s card issuing bank Copyright © 2012 Pearson Education Slide 4-89 7
  • 8. How an Online Credit Transaction Works Figure 4.16, Page 301 Copyright © 2012 Pearson Education Slide 4-90 Limitations of Online Credit Card Payment Systems n Security: v Neither merchant nor consumer can be fully authenticated n Cost: v For merchants, around 3.5% of purchase price plus transaction fee of 20 – 30 cents per transaction + other setup fees (see next fig.) v Paypal’s fees are even higher 3.5% + 1.5% – 3% v Avoiding this by aggregating purchases made within 24 hrs and charge to credit card account as a total, e.g., Apple’s iTunes Music Store with $0.69 – $1.29 cents/ song n Social equity: v Many people do not have access to credit cards (young adults, plus almost 100 million other adult Americans who cannot afford cards or who have low incomes) Copyright © 2012 Pearson Education Slide 4-92 8
  • 9. E-commerce Payment Systems (cont.) n Digital wallets v Emulates functionality of wallet by authenticating consumer, storing and transferring value, and securing payment process from consumer to merchant v Early efforts to popularize failed; E.g., MS’s server-side Passport & MSN Wallet terminating in Feb 2005 v Latest effort: Google Checkout Copyright © 2012 Pearson Education Slide 4-93 Google Checkout Sample Screen Copyright © 2012 Pearson Education Slide 4-94 9
  • 10. Digital Cash (“e-cash”) n One of the first forms of alternative payment systems n Value storage and exchange using tokens n Not really “cash” v Users deposit money in bank or provide credit card; banks issue digital tokens (unique encrypted number) for denominations of cash, and consumers “spend” these at merchants’ sites; merchants deposit these e-tokens in its bank n Most early examples (DigiCash, First Virtual, and Millicent) have disappeared; protocols and practices too complex n GoldMoney still survive Copyright © 2012 Pearson Education Slide 4-95 Digicash: How First Generation Digital Cash Worked Figure 6.6, Page 324 Copyright © 2012 Pearson Education Slide 4-96 10
  • 11. Online Stored Value Systems n Permit consumers to make instant, online payments to merchants and other individuals n Based on value stored in a consumer’s bank, checking, or credit card account n PayPal most successful system with $91 billion processed in 2010, 98 million users n Good sides: no personal credit info shared among the users; service can be used by individuals to pay one another even in small amounts n Down sides: high cost and lack consumer protections when fraud occurs or charge is repudiated Copyright © 2012 Pearson Education Slide 4-98 How PayPal Works Copyright © 2012 Pearson Education Slide 4-99 11
  • 12. Online Stored Value Systems n Smart cards: plastic cards with embedded chips storing personal data (e.g., multiple credit card no’s and info about health insurance, transportation, personal ID, bank accounts, and frequent fryer accounts) v Contact : Require physical reader n certain-value retail store gift cards n Mondex – allows users in Europe and Asia to download cash from bank account to the card via Mondex-compatible phone or a card reader connected to a PC, can carry 5 currencies simultaneously and accepted by merchants who have readers installed v Contactless : Use RFID or NFC technology n EZPass – highway toll payment system n Octopus – rechargeable contactless stored value smart card used in Hong Kong to pay public transportation, convenience stores, fast-food restaurants, parking, and POS. Copyright © 2012 Pearson Education Slide 4-100 E-commerce Payment Systems (cont.) n Digital accumulated balance payment: v Users accumulate a debit balance for which they are billed at the end of the month, like a utility or phone bill v PaymentsPlus, BillMeLater n Digital checking: v Extends functionality of existing checking accounts for use online v Based on consumer’s existing checking account v Advantages: do not require consumers to send sensitive info over the Web, cheaper than credit cards for merchants, much faster than paper checks v PayByCheck, EBillMe Copyright © 2012 Pearson Education Slide 4-101 12
  • 13. PayByCheck Sample Screen Copyright © 2012 Pearson Education Slide 4-102 Mobile Payment Systems n Use of mobile handsets as payment devices well- established in Europe, Japan, South Korea n Japanese mobile payment systems v E-money (stored value charged by credit card or bank accounts) v Mobile debit cards (tied to bank accounts) v Mobile credit cards n Japan’s NTT DoCoMo launched wireless RFID cell phones and related payment system (FeliCa) in 2004 n Not as well established yet in United States v Infrastructure still developing v Apple, Google, RIM developing separate NFC systems Copyright © 2012 Pearson Education Slide 4-103 13
  • 14. FeliCa System Demo YouTube http://www.youtube.com/watch?v=QGkoFXbC3-4 Copyright © 2012 Pearson Education Slide 4-104 Electronic Billing Presentment and Payment (EBPP) n Online payment systems for monthly bills n 30% + of households in 2010 used some EBPP; expected to continue to grow n Two competing EBPP business models: v Biller-direct (dominant model): Used by utility, phone, and credit card companies, and individual stores v Consolidator: Third party (financial institution or portal) aggregates consumer’s bills and permits one-stop bill payment n Both models are supported by EBPP infrastructure providers Copyright © 2012 Pearson Education Slide 4-105 14
  • 15. Copyright © 2012 Pearson Education Slide 4-106 Copyright © 2012 Pearson Education Slide 4-107 15