The Financial Conduct Authority (“FCA”) and Payments Systems Regulator (“PSR”) have launched a Call for Information in relation to ‘Big Tech and Digital Wallets’.

The FCA and PSR is using the Call for Information to obtain market feedback to better understand the opportunities and risks associated with the rapid growth in the use of digital wallets. It is estimated that more than 50% of UK adults now use digital wallets and 38% of e-commerce transactions by value in 2023 involved a digital wallet.

The paper is also more than timely given the rapid evolution what digital wallets are capable of being used for and how new types of products and services are incorporating digital wallets into their offering in a way that simply didn’t exist a few short years ago, and accelerated by the Covid pandemic driving a significant part of modern economies to becoming digital, contactless and always online. Digital wallets now aren’t just online banking for your bank account – it is increasingly the only way you can obtain goods and services, where you store your digital assets (not just money either), and the key to unlocking a range of services in the digital economy.

The Call for Information focuses on three main areas.

1. Digital wallet use. The paper considers whether digital wallets are working well for consumers and businesses. For example, it asks for evidence about the speed and convenience of checkout processes, the rate of fraudulent transactions, and the effect of any functionality features which may be introduced in the near future. It also asks the extent to which Apple and Google Pay both being part of the respective companies’ mobile ecosystems could affect competition and innovation.
2. Integrations with account-to-account payments. The paper considers if there are any disincentives or other barriers to digital wallets integrating account-to-account payments. As things stand, most digital wallets are underpinned by a card transaction rather than alternative payment methods such as account-to-account payments. As the paper explains, this means that retailers have “limited choice of payment systems and the prices they pay. These costs are ultimately passed on to consumers”.

If account-to-account payments become more widespread, the Call for Information identified certain factors that could be at play impacting digital wallet providers’ willingness to integrate with account-to-account payment systems:

• Some pass-through digital wallet providers (e.g. Apple Pay or Google Wallet) charge issuers for initiating card transactions. Wallet providers may be reluctant to forgo these earnings unless account-to-account payment solutions also provide the opportunity to earn similar fees.
• Concerns regarding the potential need to become FCA-regulated payment initiation service providers (PISPs), or to make UK-specific changes to their global digital wallet offerings, could operate as a disincentive for wallet providers to integrate with account-to-account solutions.
• Effects on competition in relation to matters such as the fees involved and how the payment system used to complete a transaction will be chosen.

3. Consumer protection and market integrity. The paper addresses various possible consumer protection and market integrity concerns. If a widely used digital wallet were to suffer an outage, it could affect financial resilience and become a source of systemic risk in the financial system. Equally, while there is a convenience associated with connecting digital wallets directly to a user’s bank account (such as allowing the user to access a variety of financial and other digital services from a single connected wallet app), there is increased risk of data breaches at it inherently relies on more financial information being shared between different parties over user or public infrastructure.

The Call for Information also calls out the underlying question of whether certain digital wallets providers currently do – or should – fall within the regulatory scope of the FCA or PSR. As set out in the paper, where a digital wallet provider is providing regulated services, it will fall within the ambit of the FCA. However, there will be those providers that develop “new types of unregulated payment services” which, if widely used, “may increase the risk of consumer harm where lack of regulation means that consumers are not adequately protected”.  It therefore asks whether the existing regulatory framework is effective.

The paper touches on key market concerns regarding digital wallets, including how they are being used, identifying disincentives against integrating with disruptive peer-to-peer payment solutions, and how consumer rights and market integrity can be preserved.  The FCA and PSR have a role to play in balancing the need to foster greater competition and innovation while protecting participants from these harms.

A range of account-to-account or peer-to-peer payment solutions are gaining prominence, including those based on decentralised blockchain protocols, that are disintermediating traditional payment services providers, issuers and acquirers – and the digital wallets themselves. Despite this growth of other payment systems, the vast majority of digital wallet transactions in the UK are underpinned by a card transaction, with relatively little made using alternative payment methods such as account-to-account. Greater competition has the potential to drive improvements for consumers through increased innovation, lower prices and higher service quality. However, it may be that the key participants in the payment chain lack sufficient incentives to switch to these alternative methods – or the ability to steer their customers onto lower cost payment systems.

What we will also be watching out for is whether as a result of this paper the FCA and PSR make recommendations to expand the regulatory net to include a broader range of digital wallet providers. If what has happened regarding cryptoasset services is anything to go by, it is reasonable to assume that one approach may be to expand the existing payment services regime to cover a range of (currently unregulated) digital wallet services.

The deadline for responses to the Call for Information is on 13 September 2024, and it can be read in full here.