Imagine you are going to pay for your morning coffee and your stored value card returns an error message, or the payment app wallet on your phone does not open because the company providing the payment service went bankrupt. Worse, what if you live in a rural area and the e-money service provided through your mobile phone was the only access you had to the financial system? Or is your government now relying on the electronic money system to transfer benefits or collect taxes on a large scale?
Digital Forms of money, including central bank digital currencies, privately issued stablecoins, and electronic money, continue to evolve and find new ways to become more integrated into people’s daily lives. Essentially, electronic money is a digital representation of fiat money guaranteed by its issuer.
Customers exchange regular money for electronic money, which they can use to make payments through an app on their mobile phones to individuals and businesses with ease and immediate effect. Compared to other recently developed forms of digital currency, such as stablecoins, electronic money has been around for quite some time and its customer base continues to grow rapidly. Unlike most privately issued stablecoins, electronic money operates within a regulated framework.
For regulators and supervisors tasked with protecting consumers and ensuring a level playing field for all financial intermediaries, it can be difficult to keep pace with new developments. Regulators and supervisors need to think about how best to protect clients against the (potentially systemic) failure of e-money issuers, including preventing the loss of their funds.
A new IMF staff paper examines these and other scenarios that can put consumers and potentially all electronic money systems at risk. We examine the evolution of regulatory practices country by country and offer a set of policy recommendations on the regulation of electronic money issuers and the protection of their clients’ funds.
Electronic money offers payment solutions for unbanked people
We can think of electronic money as an electronic store of monetary value on a prepaid card or electronic device, often a mobile phone that can be widely used for making payments. The stored value also represents an enforceable value Claim against the issuer of electronic money, by which its customers can demand at any time the repayment of the funds that they have used to buy electronic money.
Electronic money is already an integral part of the daily lives of billions of people, especially in many developing countries, where many do not have access to the banking system. As shown in the graph below, a high percentage of the population in a number of East African countries are now using electronic money, making it important from a macro-financial perspective. It is estimated, for example, that two-thirds of the combined adult population of Kenya (where M-PESA has achieved a high degree of market penetration), Rwanda, Tanzania and Uganda regularly use currency.
Many of these people do not have bank accounts or other access to the formal financial system, so they store a significant portion of their available funds in electronic wallets and access them using cell phones or computers.
Protect financial systems and consumers
With the growing importance of electronic money issuers, a comprehensive and robust framework for the regulation and protection of client funds is essential. Issuers should be subject to proportionate prudential regulatory requirements.
For example, they should establish governance and operational risk management systems to identify and mitigate risks. They should also be prohibited from lending at retail. And, in order to protect consumers who may be less savvy than bank customers, rules should be in place to govern how issuers disclose fees, protect consumer data, and handle complaints.
One of the most important regulatory measures identified in our paper is that in order to protect customer money, all e-money issuers must implement mechanisms to keep safe and to separate these funds. Issuers must maintain a secure pool of liquidity equivalent to the amounts of customer balances and separate from the issuer’s own funds. This is a fundamental safeguard against the misuse of funds and should, in principle, allow the recovery of these funds in the event of the bankruptcy of an issuer.
However, segregation of client funds does not solve all the problems in the event of a potentially systemic issuer default. In the absence of specific bankruptcy rules, segregation by itself does not guarantee that clients would gain quick access to their funds, and this discontinuity can create serious problems if the issuer plays a potentially systemic role in the payment system and in everyday life. daily transactions of the country.
Potentially systemic, potentially problematic
Regulators and supervisors may need to significantly strengthen prudential supervision and user protection provisions, depending on the economic model and the size of the electronic money system. In countries with a potentially systemic e-money issuer or industry, the protection in place should be aimed at preserving customer funds and ensuring the continuity of critical payment services.
While some countries have sought to extend deposit insurance to electronic money, further efforts may be needed to operationalize this protection and ensure that it would work effectively in practice.
In particular, clients should not lose access to their funds and therefore services should be able to be restored or replaced quickly, preferably within hours. But the practical application of currency deposit insurance has yet to be tested, at least in practical terms. The costs and benefits of effectively extending deposit insurance coverage to electronic money need to be carefully considered.
As with many issues in the FinTech world, best practices continue to take shape, making policy decisions difficult. However, the pandemic has only increased the importance of prudent e-money frameworks as the number of online transactions and the growth of e-money have accelerated. For regulators and supervisors, now is the time to act.