In 1996, journalists and other pundits predicted the death of cash and the emergence of a brave new world of electronic money and payments. An article in the New York Times Magazine boasted that “cash is dirty, inefficient and obsolete. ‘Smart’ cards, digital cash and a host of electronic currencies will soon replace pocket money.”1 This prediction was more hyperbole than reality. Cash is still being used and the use of electronic money globally currently trails cash and other traditional noncash payment instruments.2
Electronic money (e-money) loosely refers to many different types of substitutes for physical cash that allow for value to be stored electronically and for payment using the value to be made electronically.3 The Bank for International Settlements defines e-money as “stored-value or prepaid product in which a record of the funds or value available to the consumer for multipurpose use is stored on an electronic device in the consumer’s possession.”4
At present, some of the most popular examples of e-money schemes have involved limited purpose prepaid card programs. In these programs, nonbanks issue cards to consumers to make niche, small-value purchases. Examples include coffee cards, retail gift cards, and public transit cards.5
The United States and the member states of the European Union regulate nonbank issuers of e-money. This chapter will explain how nonbank e-money schemes and related forms of electronic payments6 are regulated in the United States and the European Union. The focus of the discussion is on prudential regulation of nonbank issuers of e-money. Much of the innovation in the area of e-money has occurred in the nonbank sector. The chapter examines the competing regulatory regimes in the European Union and the United States and examines both legal frameworks to see if regulation has been an incentive or a hindrance to innovation and growth of e-money in either market.
This chapter determines that both regulatory regimes have specific legal impediments that might appear to hinder the growth of e-money in the nonbank sector. At present, however, there is little data that shows a correlation between legal requirements and slower rate of e-money adoption in either the European Union or the United States. Rather, factors such as lack of consumer demand, payment culture, and the availability of other convenient forms of retail payments may in fact be greater predictors of the popularity of e-money regimes in both regions.
What Is Electronic Money?
E-money first emerged during the 1990s as part of the growth of the Internet for commercial transactions.7 The first wave of electronic payments focused on the concept of an electronic purse or wallet, which a consumer could load with electronic “value” as an alternative to using physical cash. Consumers might also make purchases with stored-value cards—plastic cards on which value was recorded.
Both electronic purses and stored-value cards were meant to facilitate commerce (both online and offline) as the means of payment became more portable. “Digital coins,” for example, were meant to be stored in an electronic wallet, and consumers would be able to purchase small-value items such as recipes or download newspaper articles with ease. Such small-value purchases are referred to as “micropayments.”
Despite much fanfare, many of the early e-money schemes of the 1990s failed or faded out of existence. There was a lack of uptake in the European and U.S. marketplace for early generation electronic purses and stored-value cards.8
At the same time, the potential advent of e-money caused regulators to examine the possible safety and soundness risks posed by nonbank issuers of e-money. Regulators began to ask questions about whether those who issued digital coins or other types of e-money were posing a safety and soundness risk to consumers who purchased such products and whether a corresponding systemic risk existed in the marketplace more generally.9
The perceived risks associated with e-money related to the fact that nonbank issuers of e-money would be entrusted with customer funds, held until e-money was redeemed or moved out of a particular system. If the e-money issuer became insolvent, absent a prudential framework, customers would become general unsecured creditors of the issuer. In the United States and Europe, some financial sector regulators advocated limiting issuance of electronic money solely to financial institutions.10 One of the questions asked was whether nonbank issuers were “accepting deposits” and thus required to be licensed as a financial institution.11
During the early twenty-first century, a resurgence of e-money has occurred. Internet funds transfer systems such as PayPal, prepaid consumer gift cards (for purchasing coffee or cell phone services), and services offered via mobile phones are part of the new wave of e-money products and services.12 While the emerging marketplace is still developing, regulators continue to assess regulatory efforts in the e-money and e-payments area in an effort to find the right level of regulation that will encourage payments innovation.
What are some of the different types of electronic money or payments that might be classified as “e-money”? The following summary provides a high-level overview of the array of products that have been identified as e-money or some form of Internet/electronic payments. Each of the categories listed below has been offered, at some point, by nonbanks. Financial services regulators in the United States and in Europe continue to assess and grapple with the issue of which types of e-money schemes should be regulated and which should be exempt—because of their limited scope or because they pose minimal risk to consumers.
E-Money and Internet Payment Mechanisms
Certain types of electronic payments or Internet payment mechanisms have been referred to by commentators by a host of different names including electronic cash, digital cash, electronic currency, and Internet or online scrip. E-money refers to money or a money substitute that is transformed into information stored on a computer chip or+ a personal computer (PC) so that it can be transferred over information systems such as the Internet. Technology permits the transmission of electronic value over networks that link PCs and the storage of electronic cash on the hard drives of PCs.13
One type of Internet-based e-money system has been described as a token or notational system. These computer-based systems involve a customer purchasing electronic tokens that serve as cash substitutes for transactions over the Internet. With this type of system, “money” or “value” is purchased from an issuer (who may be a bank or a nonbank). The value is then stored in a digital form on a consumer’s PC and the notational value is transferred over the Internet.
The “coin” is merely a notational series of numbers or other symbols that are transmitted over the Internet to a merchant. The merchant must then redeem the “coin” with an issuer that will verify that the coin has not been spent previously. The issuer of the Internet e-money is obligated to redeem these payments when received from the merchant. Digicash was an early example of this type of system.14
In addition to token or notational systems, there are also “account-based” e-money schemes. Account-based schemes involve a consumer purchasing “e-money” by debiting an existing bank account or using a credit card to buy cyber “coins.” The value is then stored on the issuer’s records and the consumer may access the records. The merchant that accepts the e-money ultimately redeems the account-based e-money with a bank or credit card company. The defunct Cybercash was an example of a system in which customers could purchase cyber coins to make micropayments over the Internet.15
Many of the first generation e-money systems were software-based e-money schemes, which could be managed by local software installed on a user’s local computer. Such applications have apparently vanished from the marketplace.16 In their place are new server-based accounts. Some server-based accounts are linked to e-mail addresses or mobile phone numbers. The other types of accounts sell prepaid funds that are linked to a personal identification number or access code.
In such systems the record of the money or value available to the consumer is lodged on a central server. Consumers can access their account information by logging on to a website or accessing the data via a wireless device.17 This new type of server-based e-money has some features of the stored-value products listed below—the main distinction is that the value is dematerialized and is not linked to a physical “card.”
Stored Value
During the 1990s, stored-value products were an innovation in payment systems technology. Today, stored-value products are often referred to as “prepaid” cards, referring to the fact that consumers pay value up front to purchase a card. The card is often used to pay for goods or services from a merchant or a host of merchants.
One class of stored-value products possesses certain basic characteristics. According to the U.S. Federal Reserve, stored-value products share three attributes: “(1) [a] card or other device electronically stores or provides access to a specified amount of funds selected by the holder of the device and available for making payments to others; (2) the device is the only means of routine access to the funds; and (3) the issuer does not record the funds associated with the device as an account in the name of (or credited to) the holder.”18
Stored-value cards have also been referred to as “smart” cards, or value-added cards. These cards record a balance on a computer chip that is debited at a point-of-sale terminal when a consumer or individual makes a purchase. Typically, a consumer will pay a bank or other provider money in exchange for a card that is loaded with value. The value can evidence the provider’s promise (typically to pay money) or can evidence the promise of a trustworthy third party. The consumer uses the card rather than paper currency to purchase goods and services.
Merchants who accept smart cards can typically transfer the value of accumulated credits to their bank accounts. A smart card is not typically used for transactions over the Internet, although this may be changing with the advent of new credit card products that include a stored-value component or chip. With other types of stored-value products, the value is recorded and stored on a computer server, rather than directly on the card.
One of the earliest versions of a stored-value product was the Mondex card. Mondex was a proprietary, privately held technology designed to create and circulate e-money using smart cards. Mondex aimed to substitute smart cards for existing physical cash. Mondex was developed by the NatWest Group in 1990. The first trial using Mondex technology began in 1992 involving over 4,000 staff in NatWest’s London offices paying for purchases in staff restaurants and shops. The first public trial commenced in Swindon, England in 1995, followed by subsequent trials with British universities. Mondex International was subsequently formed in July 1996. Mondex was tested in other European and North American markets including New York City. The New York City trial was deemed a failure as consumers failed to widely adopt Mondex as a preferred form of payment.19
The ownership structure of Mondex was complex. It consisted of several interdependent entities. Mondex International consisted of a consortium of international banks including Citibank and Chase, as well as Visa and MasterCard. MasterCard held a 51 percent ownership share and acquired full ownership in 2001.20
There are different types of stored-value cards. Some cards are part of so-called “closed” systems, in which a consumer can use a card for a limited range of goods or services provided typically by one merchant or one issuer. An example of a closed system would be a university photocopy card or a subway system metro/transit card. In these examples, a stored-value card can be used to purchase a narrow basket of services. At the university, a student would use a photocopy card to make copies in the library. A subway rider would use his or her card for riding on the subway and perhaps also on a city bus.
“Open” systems are systems in which a stored-value card may be used as a cash substitute. The card is widely accepted by merchants and vendors in lieu of physical cash. An example of an open system would be a stored-value or prepaid debit card, in which the consumer may use the card at a wide range of merchants to pay for a large universe of goods and services. Some commentators make a distinction between open prepaid cards that operate as debit or automated teller machine (ATM) cards and prepaid purchasing cards that can be used widely throughout a country to purchase goods or services only, but are not redeemable as cash. Such cards are also referred to as universal gift cards.21
“Mixed” or “semi-closed” systems are ones that have features of open and closed systems. A stored-value gift card program offered by a shopping mall might be an example of a mixed system. For example, a stored-value gift card might be accepted by multiple merchants within a shopping mall. This system is not entirely closed because a wider array of merchants have agreed to accept the card as a means of payment. At the same time, the system is not “open” as the card may have no use outside the walls of the shopping center.22
These distinctions only become important as regulators attempt to determine which types of systems to regulate. The concern with any prepaid funding scheme, such as stored value, is whether the issuer, by selling consumers prepaid value, will end up holding enough of the consumers’ or other purchasers’ funds so as to pose a safety and soundness risk to purchasers.23 Closed systems do not pose the same sort of risks as open ones, in which cards serve as proxies for cash. Defining the different types of stored-value cards is an area of continued regulatory analysis.24
Electronic Scrip
Stored-value cards, token or notational systems, as well as account-based systems, may all involve exchange of value that is not redeemable in money. The term “scrip” has been used to refer to value that may be exchanged over the Internet but that may not be redeemable for money. Scrip is analogous to coupons or bonus points that can be exchanged by a consumer for goods or services but have no cash redemption value. Scrip can be used by merchants to sell access to value-added web pages on a per-access basis or a subscription basis. Merchants can also use scrip to provide promotional incentives to users. Scrip can represent any form of currency, points in a frequent user program, access rights, and so forth.
During the late 1990s, there were new micropayments systems being developed that allowed customers to either earn reward points online or to purchase points or “value” that is redeemable for goods and services rather than for money. One such example was Flooz, which issued its own gift “money.” Flooz issued what were essentially online gift certificates. A customer could open an account and was then able to purchase a certain amount of Flooz’s reward “dollars.” Then, the person could send the dollars to anyone with an email address (along with a card). The recipient, upon receipt, opened an account and then could spend the gift “dollars” at any participating store that accepted the “dollars.” It was not apparent from the Flooz website whether its “dollars” were redeemable in cash or merely in goods and services. Flooz filed for bankruptcy in 2001.25
Another U.S. company, Beenz, offered online points that were billed as web “currency.” Beenz’s “points” were units that consumers could have earned when visiting various websites, filling out surveys, or engaging in other online activities for which merchants seek to reward consumers. The points accrued and were stored in an online “account” that a customer could access to redeem his or her “points” for various goods and services. The points were not redeemable for money, and the company stated that it could discontinue the service at any time. Beenz offered an account-based payment system that issued nonredeemable points. Beenz also closed in 2001.26
The issue of whether loyalty cards and related Internet points or scrip are subject to regulation in the United States and the European Union remains an open question for the business community.27
Internet Funds Transfer
Various payment services offered by banks and nonbanks will transfer money over the Internet. Internet funds transfer replicates traditional money transmission but uses the Internet, PCs, and e-mail to initiate transactions. One such service, offered by PayPal, will transfer money over the Internet to anyone who has an e-mail address. Consumers who wish to send money via the Internet must first establish an online account with PayPal. A consumer can fund his or her account with payments from a credit card, a bank account debit, or by sending in a money order or check.
PayPal holds the consumer’s money until it receives a request to transfer the funds to a recipient. A transfer is effectuated by sending an e-mail to the recipient. The recipient then has several options for receiving payment ranging from establishing his or her own online account with PayPal, having the funds transferred to an existing bank account, or, if the customer has no bank account, receiving a check from PayPal. One of the reasons for PayPal’s growth and popularity is that it provided a low-cost alternative to credit cards in the online auction market. In 2002, PayPal was acquired by online auction giant eBay.28
Gold/Precious Metals Transfer and Payment
Somewhat similar to an Internet funds transfer system is a system whereby customers transfer precious metal via accounts on the Internet. One company that offers this service is e-gold. With e-gold, rather than having an “account” with e-money denominated in U.S. dollars, a customer sets up an online account and buys gold, silver, platinum, or palladium. The customer then has “x” grams or troy ounces of the precious metal. One can only send money to or purchase items from an existing customer or participating merchant. Customers reportedly can utilize their precious metal accounts to buy goods and services, to receive payment from third parties, and to pay bills.29
Mobile Payments
Mobile payments are the most recent type of e-money application, focused on the use of cellular phones and other mobile devices as mechanisms for transferring money or prepaying for goods and services. Mobile payments are point-of-sale payments made through a mobile device, such as a cellular telephone or a personal digital assistant (PDA).30
Using mobile payments, a consumer could purchase a plane ticket using his cell phone to authorize payment (either debiting his bank account using the cell phone as a device or debiting a prepaid account lodged with the cell phone provider or other business). If a restaurant patron wanted to pay his check quickly without waiting for the server to take his credit card, he could use a PDA to authorize payment. A consumer could pay for soda or candy from a vending machine using a cell phone to make the purchase.31
U.S. Regulation of Electronic Money
Prudential Framework for Nonbanks
In the United States, bank issuers of e-money are regulated at the federal level through federal banking regulators such as the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC).32 These institutions regulate bank-issued electronic money and subsidiaries of banks issuing e-money as well.33 To the extent that banks are already subject to a prudential regulation, the business of issuing e-money has been encompassed by a larger preexisting regulatory framework. When various banks wanted to establish an operating subsidiary to bring Mondex into the U.S. market, for example, the banks sought the approval of the OCC.34
At the same time, federal regulators have been slow to impose additional regulations on nonbank e-money issuers in the areas of consumer protection.35 The recent growth of stored-value and prepaid cards has caused the Federal Reserve and the FDIC to reexamine the absence of specific federal regulation of these emerging payment methods.36
Many of the recent e-money and e-payments developments in the United States, however, have occurred among nonbanks. PayPal, which offers Internet-based funds transfer, is perhaps the most widely known.37 In the prepaid market, the Starbucks card has been credited with the resurgence of prepaid or stored-value products in the twenty-first century.38
Some European commentators have noted that nonbank e-money and stored-value issuers have not been regulated within the United States.39 This view has often been formed because commentators have focused more on the federal level, where there has been an absence of prudential regulation as well as consumer protection measures for e-money.
The seeming lack of federal regulation, however, relates to the fact that there is no primary federal agency in the United States charged with supervision of nonbank providers of financial services, including nonbank e-money issuers. Prudential regulation in certain parts of the nonbank sector has been left to state banking regulators, who have the authority to license and regulate these industries. Many of the issuers of e-money in the United States are nonbank entities, such as PayPal. These nonbank entities are regulated typically by state banking regulators. Federal regulators deal with nonbank financial institutions primarily with respect to anti–money laundering compliance matters.40
In the United States, the regulation of nonbank issuers of stored-value products and e-money has been an outgrowth of existing regulatory frameworks rather than a new legislative phenomenon. State regulators have made revisions to the long-standing prudential frameworks in the nonbank financial sector.41 Rather than inventing something new, state regulators already had an existing model of “light-touch” safety and soundness regulation, which could be extended and applied to e-money.
For some time, a majority of the 50 states have had in place regulatory statutes for nonbank providers of “money services.” These laws provide safety and soundness protections for consumers through prudential regulation and licensing of money services providers. It is within this legislative framework that nonbank issuers of stored-value products and electronic money have been placed.
Money services businesses (MSBs) are nonbank entities that neither accept deposits like traditional banks nor make commercial loans. Rather, they provide alternative mechanisms for persons to make payments or to obtain currency or cash in exchange for payment instruments. MSBs engage in the following types of financial activities: money transmission (e.g., wire transfers); the sale of payment instruments (e.g., money orders, traveler’s checks, and stored-value cards); check cashing; and foreign currency exchange. The so-called “core” customers of MSBs are “unbanked” consumers or persons that do not maintain formal relationships with banks/depository institutions. State licensing, regulation, and oversight of MSBs vary greatly.42
Nonbank issuers of e-money and providers of certain types of electronic payments have been grouped together with MSBs. As early as 1997, the U.S. Department of Treasury, via its Financial Crimes Enforcement Network (FinCEN), coupled these disparate industries together, as entities that sold payment instruments or transferred funds for consumers, but did not accept deposits or make loans. Along with the traditional brick-and-mortar money services, FinCEN also grouped stored-value products under the same umbrella.43
Direct oversight of MSBs occurs at the state level through state licensing laws. The sale of payment instruments and money transmission is the most regulated activity with more than 45 states having some form of law that regulates the sale of checks and other payment instruments and/or money transmission.44 States vary in the extent to which they regulate both payment instrument sellers and money transmission—with some states regulating money transmission, others the sale of payment instruments, and still others a combination of the two activities.45
The existing state MSB laws vary in terms of detail and the requirements imposed on MSBs, the type of enforcement mechanisms and records available to regulators, and the nature of penalties for noncompliance with relevant state laws. The Money Transmitters Regulators Association (MTRA),46 an association of state regulators that deal with certain aspects of money services, has a model legislation outline that lists some of the core elements of a state licensing law. Some of the common elements of existing state law include
licensing and registration of MSBs (with more detailed requirements for payment instrument sellers and money transmitters than for check cashers or currency exchangers);
bonding, collateral, and net worth requirements;
examination of MSBs;
record keeping requirements;
regulatory reporting requirements;
permissible investment requirements (limiting MSB investment of funds held for customers in safe and highly liquid investments);
enforcement powers; and
civil and/or criminal penalties.
In the late 1990s, several American states took the position that the transfer of money over the Internet or the use of an electronic payment instrument was the equivalent of money transmission in the brick-and-mortar world. Internet payment services were treated as the equivalent of money services because (1) the business entities constituted nondepository providers of financial services and (2) they accepted customer funds for transmission to third parties. Such Internet payment mechanisms include online bill payment services and Internet funds transfer services as well as stored-value and e-money issuers (which can be used online or offline). Several states also included stored-value products within their existing money transmission laws47
In addition to the efforts of individual states, a new uniform law was promulgated that provided a recommended uniform framework for the licensing and regulation of MSBs throughout the 50 states. On August 3, 2000, the National Conference of Commissioners on Uniform State Laws (NCCUSL) approved the Uniform Money Services Act (UMSA).48
The UMSA is a state safety and soundness law that connects all types of MSBs and creates licensing provisions for them. Among the goals of the uniform act was the suppression of money laundering by requiring MSBs to register with state regulators and adhere to safety and soundness requirements. The UMSA also placed the various forms of stored-value products and e-money emerging in the Internet economy under one law.
As noted above, state MSB regulation is a lighter form of prudential regulation. Since MSBs are not banks, they do not pose the same type of systemic risks that depository financial institutions may pose. As such, while there are certain regulatory constraints placed on MSBs, they are not as detailed or as extensive as the regulation that exists for depository institutions.
In 1994, the U.S. Congress enacted the Money Laundering Suppression Act (MLSA). The MLSA urged states to enact uniform laws to “license and regulate” MSBs including “businesses which provide check cashing, currency exchange or money transmitting or remittance services, or issue or redeem money orders, traveler’s checks and other similar instruments.” Congress specifically requested that the states develop uniform legislation under the auspices of either NCCUSL or the American Law Institute.49
NCCUSL responded to the congressional request. In 1997, a Drafting Committee was established to prepare a uniform licensing statute for money services. In October 1999, NCCUSL commissioned a Cyberpayments Working Group to examine the issue of whether stored-value, e-money, and other Internet payment mechanisms should be included within the scope of the UMSA.
In March 2000, the Drafting Committee considered the recommendations of the Cyberpayments Working Group and decided that Internet-based payment mechanisms should be included within the scope of the UMSA to the extent that such services involved the sale and issuance of monetary value or the transmission of monetary value by a nonbank, if the nonbank also holds a consumer’s money for its own account prior to redemption.
It was the holding of consumer funds that triggered concerns about safety and soundness. One of the primary tests as to whether an emerging electronic payment mechanism should be regulated relates to this issue of whether the business entity “holds” the consumer’s funds for any period of time, giving rise to a possible loss to the consumer if the issuer fails or absconds.
Ultimately, the UMSA did not include new or different licensing regimes for Internet payment mechanisms; rather it applies the existing licensing frameworks to new technologies.50 A nonbank entity that provides Internet funds transfer, such as PayPal, for example, would be treated the same as a company like Western Union that provides traditional nonbank funds transmission services. In the comments to the UMSA, nonbank Internet funds transfer was described as an activity that would fall within the scope of the Act. PayPal, when it accepts money from customers, which will be ultimately transmitted to third party recipients, is holding funds for consumers, thus raising safety and soundness concerns.
The UMSA Drafting Committee made the following decisions with respect to e-money:
The UMSA expanded the definition of “money” to reflect the fact that certain payment service providers employ a form of value that is not directly redeemable in money, but nevertheless (1) serves as a medium of exchange and (2) places the customer at risk of the provider’s insolvency while the medium is outstanding. The same safety and soundness issues pertinent to redeemable forms of value apply to these irredeemable forms of value.
Monetary value is defined as “a medium of exchange, whether or not redeemable in money.” The term “medium of exchange” connotes that the value that is being exchanged be accepted by a community larger than the two parties to the exchange. Hence, bilateral units of account, such as university payment cards, would not constitute “monetary value” for purposes of this Act. The definition of monetary value remains flexible to allow regulators to deal with emerging forms of monetary value and Internet scrip on a case-by-case basis. The term “monetary value” is defined so as to exclude pure barter or activities where the value that is being exchanged is used for exchange with a single issuer or merchant or within a small geographic radius.
Under the UMSA (as with existing state money transmission statutes), state regulators will also have to make the same type of determination as to when a certain type of monetary value has become so widely accepted that it constitutes a medium of exchange.
In the UMSA, the definition of stored value removes the requirement that value be stored on an instrument, because the instrument in which the stored value is embedded is not conceptually relevant.
Because monetary value is defined as “a medium of exchange, whether or not redeemable in money,” only stored value that consists of a medium of exchange evidenced in electronic record would qualify as stored value for purposes of regulation. A medium of exchange needs to be something that is widely accepted. Closed systems, as mere bilateral units of account, therefore would be excluded from regulation.
Internet payment services that hold a customer’s funds or monetary value for their own account rather than serve simply as clearing agents also fall within the definition of money transmission. By contrast, entities that simply transfer money between parties as clearing agents should clearly fall outside the scope of a safety and soundness statute. Similarly, the definition excludes entities that solely provide delivery services (e.g., courier or package delivery services) and entities that act as mere conduits for the transmission of data, such as Internet service providers.
The final comments to the UMSA were promulgated in May 2001. Vermont was the first state to adopt the Act in April 2001. Several other states have followed suit, including Iowa, Texas, and Washington, along with the U.S. Virgin Islands.51 While the UMSA has not been adopted as widely as anticipated, it serves as a useful reference template for understanding prudential regulation of e-money in the United States. Many states that have amended their existing money services laws to encompass e-money and stored-value products have been influenced by the UMSA’s definition of monetary value.52
The UMSA is meant to exempt small, closed stored-value systems from regulation. As the official commentary to the UMSA notes, when explaining the concept of “monetary value”:
The term “monetary value” is defined in such a manner as to exclude pure barter or activities where the “value” that is being exchanged is used for exchange with a single issuer or merchant or within a small geographic radius. Of course, regulators will have discretion with respect to which entities are engaged in the transmission or issuance of monetary value. Some States, such as Texas, for example, require the issuer of mall gift certificates that can be redeemed at multiple issuers to become licensed.
With Internet payments, the regulators will also have to make the same type of determination as to when a certain type of monetary value has become widely accepted as to constitute a medium of exchange. For Internet payment systems that involve Internet scrip or points (e.g., frequent flier or bonus points), regulators will need to grapple with how widely circulating such points are, whether they are redeemable, and whether they can be used to purchase or acquire a wide range of products and services. Certain types of bonus points are now donated to charities, for example, which can then sell them or auction them to individuals for a profit. The wider the use and the greater the circulation of a certain type of value, the more it replicates a medium of exchange.53
Has the U.S. Regime Fostered Innovation in the U.S. Market?
The UMSA and other state money transmission laws have had an impact on e-money issuers. A company such as PayPal must now be licensed as a money transmitter in many of the states in which it does business. As a “money transmitter” (similar to Western Union), PayPal must now subject itself to licensing and bonding in multiple states.54 It must also invest its funds in permissible investments and comply with other components of the state licensing laws.55
While a large market participant such as PayPal will capture a regulator’s attention, many other emerging entrants may be unaware that their business model requires them to obtain a money transmission license in a given state. One reason for this is that the lawyers who advise e-payments providers have tended to be lawyers who represent clients in the high-technology sector rather than attorneys who represent banks or MSBs. Such lawyers may be unaware of MSB regulation. In addition, it is unclear whether state regulators have the financial resources or capacity to enforce existing state laws against e-money issuers.56 In this sense, ignorance of the law, and lack of enforcement, suggests that e-money regulation in the United States has not hindered innovation. At the same time, the United States has not emerged as a front-runner in the e-money arena.
At present, it is difficult to assess the impact of money services regulation on the development of e-money and other e-payments schemes. With the rise of nonbank schemes, there has also been an emerging growth in consumer use of debit cards and automated clearinghouse systems to make payments. Thus, while e-payments are growing, e-money is one of a larger array of options available to the American consumer.57
The U.S. legal framework as applied to nonbank providers of e-money is certainly “light-touch” regulation. The attractiveness of the U.S. legal regime is that a company that operates as an e-money issuer or Internet funds transfer service does not need to have a large amount of capital in order to start a business. There are typically no initial capital requirements for MSBs. The few states that impose a “net worth” requirement for entry into the market set the dollar amounts at relatively low levels (e.g., US$25,000 or under).
While the lack of minimum capital requirements may seem surprising at first, one should remember that the state prudential frameworks for money services entities have been in place for quite some time. They have been applied to brick-and-mortar entities such as Western Union and other companies and have not given rise to widespread systemic failure in the MSB industry.
Consumer funds are nonetheless protected under a more light-touch system of prudential regulation because a licensed MSB must invest its customers’ money (while an obligation remains unredeemed or outstanding) only in so-called safe, permissible investments that are low risk and highly liquid. MSB licensees are also subject to regular inspection by state banking regulators and must purchase a security bond to protect consumers in the event of default or insolvency. Regulators also have enforcement authority and the ability to routinely examine their nonbank licensees.
One of the possible major impediments in the United States to the wider use of e-money is the fact that issuers of e-money or providers of Internet payments must be licensed in multiple states—thus incurring duplicate and at times redundant obligations. There is currently no widespread system for creating reciprocal licensing or a multistate “passport” regime for licensed e-money issuers. In 2004, NCCUSL adopted proposed amendments to UMSA to provide for a reciprocal MSB licensing regime.58 To date, the amendments have not been adopted by any of the states.
There is, moreover, no uniform standard applied by the 50 states when it comes to the regulation of e-money issuers. Critics often refer to the patchwork of regulations that exists in the United States, making it difficult for businesses to comply in an efficient manner. MTRA as the regulatory body has moved to create uniform reporting forms and to encourage joint supervisory examinations as a way of creating efficient and cost-effective solutions of multistate licensees.59
Industry participants are also critical of state regulatory approaches (particularly in the area of stored value), because the definitions leave room for regulatory discretion and interpretation (e.g., UMSA requires that stored-value issuers be licensed and regulated when the stored value becomes equivalent to a “medium of exchange”). Critics of this approach note that this does not give prospective e-money issuers guidance as to whether a particular quasi-closed or mixed system would fall within a particular state’s licensing laws.
Electronic Money Regulation in the European Union
As in the United States, European nonbanks have developed e-money products.60 Commercial banks responded to this phenomenon with e-money products of their own such as Proton in Belgium, the Chipknip in the Netherlands, and Quick in Austria.61 As with the United States, e-money schemes have been slow to be adopted.62
The European Monetary Institute63 issued an initial report in 1994, which analyzed the consequences of the first wave of e-money products. The “Report to the Council of the European Monetary Institute on Prepaid Cards” stated that entities that issued prepaid multipurpose cards could be characterized as taking deposits from the public.64 Consequently, the European Monetary Institute recommended that issuers be regulated under existing banking supervision laws.65
During the latter part of the 1990s, central banks and banking regulators further examined the possible risks associated with e-money in relation to monetary policy and prudential supervision. As the Association of Electronic Money Issuers in the Netherlands recently pointed out:
The main position of central banks and supervisors in Europe is best illustrated by the statement, in a lecture for the IBIT Forum in Basle on June 11, 1996, by Wendelin Hartmann, a member of the Directorate of the Deutsche Bundesbank: “Consequently, the EU central banks have agreed as an initial step to ensure, above all, that this development is subject to control. In all EU countries, therefore, legal initiatives have been set in motion, as a result of which only credit institutions which are subject to banking supervision will be allowed in future to issue multi-purpose prepaid cards.”66
The European Commission proposed an initial draft directive on electronic money institutions in 1998. This proposal was meant to facilitate the development of innovation and to encourage new market entrants such as nonbanks into the e-money sector.67 The European Central Bank responded and requested changes to the proposed directive.
The final version of the Directive was published in the Official Journal of the European Communities on October 27, 2000. The European Commission emphasized competition and innovation as one of its primary goals for introducing the E-Money Directive.68 The E-Money Directive introduced a new type of institution, distinct from the “credit” institution (bank) that would be subject to lighter-touch regulation. Member states were required to implement the Directive by April 27, 2002.
The E-Money Directive has several goals. These include (1) harmonizing the member states’ laws, (2) ensuring consumer confidence by supervision of electronic money institutions, and (3) fostering competition in the sector of electronic money. At the core of the E-Money Directive stands its definition of “electronic money.”69 The E-Money Directive sets forth a new supervisory regime for companies whose sole purpose is to issue electronic money. This dedicated legal regime is a trimmed-down supervisory regime based on the traditional prudential framework for credit institutions.70
According to the preamble of the Directive, there are several main objectives for the enactment of the Directive: (1) to assist electronic money in delivering its “full potential benefits” and avoid “hampering technological innovation” (Recital 5), (2) to “ensure bearer confidence” (Recitals 4 and 9), and (3) to “preserve a level playing field between electronic money institutions and other credit institutions issuing electronic money” (Recital 12).
Electronic money is defined within the Directive in a way that resembles the definition in UMSA. It also adopts a concept of “monetary value.” Article 1 of the E-money Directive71 defines “electronic money” as
Monetary value as represented by a claim on the issuer which is:
(i) stored on an electronic device;
(ii) issued on receipt of funds of an amount not less in value than the monetary value issued; and
(iii) accepted as means of payment by undertakings other than the issuer.
The criterion in (iii) is meant to distinguish electronic money from sole-purpose stored-value products (closed systems) where the issuer sells a consumer value that may be redeemed solely for a narrow class of good or services offered by the issuer. Phone cards or photocopy cards are examples of such systems.72
Article 2(3) of the Directive also notes that an issuer’s receipt of funds from a customer will not constitute a “deposit” within the meaning of Article 3 of the EC Directive on Credit Institutions “if the funds are immediately exchanged for electronic money.”73 This is a critical provision, as deposit taking in the European Union requires businesses to adhere to stricter prudential requirements. At the same time, some commentators have noted that the term “immediately exchanged” is vague and requires more clarity.74
The E-Money Directive creates a two-tier regulatory regime. In addition to traditional credit institutions (e.g., banks), the Directive creates a new institution referred to as an electronic money institution (EMI). EMIs are subject to a less restrictive prudential regulatory regime. This is meant, in part, to foster competition in the e-money sector and to allow nonbanks to participate in the marketplace. Such an institution should
possess initial capital of an amount of at least €1 million;
invest all funds received by customers in liquid assets;
solely perform business activities that are closely related to issuing e-money;
ensure sound and prudent management;
redeem electronic money at “par value” upon request of the consumer; and
comply with certain know-your-customer and suspicious transactions reporting requirements.
Other main features of the EMI Directive include the following:
A Single Passport Principle. Under the so-called “country of origin principle” (sometimes referred to as a “single passport”), an EMI properly licensed in one member state may conduct business in other member states with a single license.
Waivers. member states may waive the application of the EMI and the Banking Directives to EMIs if the overall e-money scheme is limited in scope.
Since it is easier to become an EMI than a full-fledged credit institution, it was anticipated that the Directive would lower the entry costs and impediments for nonbanks. Similarly, it was expected that the single passport would make it easier for nonbanks to offer a European product rather than national e-money products. This, in turn, would facilitate a stronger internal market, reinforced by common European payment schemes.
The Directive’s waiver requirement was meant to allow small limited purpose schemes to be exempt from regulation as EMIs. This would allow local, community-based e-money schemes to flourish alongside larger pan-European ones. Article 8 of the E-Money Directive allows member states to waive the application of some or all of these provisions to electronic money institutions, provided that a proposed electronic device has a maximum storage capacity of €150 and meets one of the following criteria:
total business activities of the issuer do not normally exceed €5 million and never exceed €6 million;
the e-money issued is accepted only by the issuer’s subsidiaries, by the issuer’s parent undertaking, or by any subsidiaries of that parent undertaking; or
the e-money issued is accepted only by a limited number of undertakings (which are within a limited local area, or in a close financial and business relationship with the issuer).
Smaller schemes, while exempt from licensing and supervision, may not operate in other member states without either seeking an independent waiver from other European regulators or obtaining a license (i.e., by operating across multiple borders, the EMI may, by definition, be engaged in business that should be supervised).
Implementation of the E-Money Directive
As of 2002, only 10 of the 15 European member states had met the timeline for the implementation of the E-Money Directive.75 There is also considerable local variation in how the Directive was implemented. For example, the definitions of e-money adopted by the various member states differed considerably. As one report notes:
Austria and Ireland have specified the maximum amount of e-money to be stored on an electronic device (2,000 and 5,000 euros, respectively)….
In Spain and Austria, specific clauses have been formulated in the law itself to confirm that funds received from the public do not constitute a deposit if these funds are exchanged for e-money. In the Netherlands, e-money is more broadly defined as “monetary value on an electronic device.” In Sweden, e-money is defined as “a monetary value representing a claim on the issuer and which, without existing in a individualised account, is stored in an electronic medium and approved as a means of payment by others than the issuer.”76
As in the United States the types of e-money systems that are regulated and that are exempt is still ambiguous. The Article 8 waiver process, for example, is creating significant differences in who is or is not licensed in different member states. In some member states no waivers have been introduced.77
In the United Kingdom, implementation of the Directive’s Article 8 waiver provisions provided additional criteria beyond those set forth in the Directive itself with respect to what constitutes a local e-money scheme or “area.” In the United Kingdom, the Financial Services Authority allows so-called “small issuers” to apply for a certificate that expressly excludes their business activities from being regulated.78 A certificate will be granted if “the e-money issued is only accepted by not more than one hundred persons (and these persons are within the same premises or in a limited local area—a shopping center, an airport, a railway station, a university campus; or any area that does not exceed four square kilometers—or where the persons are in a close financial and business relationship with the issuer).”79 Critics of the British waiver provisions note that these geographic and population restrictions are arbitrary and problematic to apply in practice.
Does the E-Money Directive Provide Incentives for Innovation?
At present, many stakeholders within the European Union are examining the issue of whether the E-Money Directive helps or hinders e-payments innovation. The European Commission recently launched a consultation to examine the impact of the directive on the market. In a recent consultation document the Commission services (DG Internal Market) noted the following:
The Commission services’ impression at the start of this review process […] is that the original ambitions of the Directive (improve the single market for financial services, create legal certainty, encourage new market entrants, contribute to the development of E-commerce) have not been achieved, or at most only partly—and indeed that far from improving the single market for E-money institutions and encouraging new entrants, the Directive may have had the unintended effect of constraining the development of the market.80
As evidence of the constraining effect of the Directive, the Commission notes that few e-money licenses have been authorized and that many supervisory authorities have waived certain provisions of the Directive as permitted by Article 8.
Some of the same concerns are echoed at the member state level. Critics of the E-Money Directive have noted that the final version of the E-Money Directive was restrictive and did not provide incentives for nonbanks to form EMIs.81 Some member states view implementation of the Directive at the local level as noncoherent. As a result, there is a perception that competition is not level among member states.82
The scope of the Directive is also viewed as unclear in several respects. It is unclear, for example, whether the Directive applies to certain types of new products such as loyalty or bonus-point schemes like the scrip-type programs outlined above.83 As one commentator queries,
If the Directive covers bonus-point or barter schemes, they would have to adhere to the redeemability requirement. Up until now, many of these schemes have issued nonredeemable value points. Thus, if the Directive covers bonus points, the question arises whether it is really necessary to force re-deemability on such schemes.84
Regulators in some EU member states are also struggling to understand the complexities of the e-money market and the new technologies being used to facilitate e-payments. In Germany, for example, banking regulators may be classifying PayPal-type payment schemes as deposit-taking activities. The European Commission held a consultation on the application of the E-Money Directive to mobile payment operators, because different member states had taken contrary views on the subject.85
As for specific impediments, the initial capital requirement of €1 million may be the most significant deterrent to the growth of EMIs. Such a capital requirement may favor incumbent market participants rather than new entrants. For example, banks and telecommunications companies are the type of incumbent market players that have the type of capital that would permit the formation of a stand-alone e-money business. As one commentator notes, “what is missing is a growth path for small issuers that want to go transnational and a framework that provides financial incentives for ‘start-ups’ to launch new, Union-wide payments products. The Directive would hence appear to fail in its first objective, which is “to assist electronic money in delivering its full potential benefits.”86
The EMI Directive and the UMSA Compared
The UMSA and the E-Money Directive were drafted in two different regulatory jurisdictions—each done in isolation and without the benefit of the other jurisdiction’s work.87 The UMSA was drafted by a quasi-legislative nongovernmental body representing lawyers from the 50 states. The UMSA may represent a more bottom-up approach to the regulatory issues. In the United States, nonbank e-money issuers were folded into an existing light-touch prudential framework. Experts at a supranational level, in contrast, drafted the E-Money Directive.88 In Europe, a new framework was created exclusively for e-money issuers, derived in part from existing regulation of credit institutions.
Despite the differences in drafting approaches, there are striking similarities between the two legal frameworks. This suggests that while further refinements may be needed, both the UMSA and the E-Money Directive represent useful first steps in the prudential regulation of e-money.
The main objectives of the UMSA are also similar to those found in the preamble to the E-Money Directive: (1) providing a harmonized and uniform legal framework with respect to MSBs, (2) ensuring the safety and soundness of MSBs, and (3) reducing barriers to competition and growth in new sectors such as emerging Internet and electronic payment mechanisms.89
The UMSA’s definition of “stored value” also resembles the Directive’s concept of “electronic money.” “Stored value” is defined as monetary value that is evidenced by an electronic record (i.e., “information that is inscribed on a tangible medium or that is stored in an electronic or other medium and is retrievable in perceivable form”). As noted earlier, in the European Union, electronic money is defined by the E-Money Directive as “monetary value as represented by a claim on the issuer which is: (1) stored on an electronic device; (2) issued on receipt of funds of an amount not less in value than the monetary value issued; and (3) accepted as means of payment by undertakings other than the issuer.”90
The UMSA’s inclusion of value that is nonredeemable obviously differs from the EMI Directive’s requirement of redeemability but the notion of monetary value that may be stored electronically is an essential concept underpinning both legal regimes. The rationale for the extension of the UMSA to encompass transactions involving monetary value is as follows: “certain payment service providers employ a form of value that is not directly redeemable in money, but nevertheless (1) serves as a medium of exchange and (2) places the customer at risk of the provider’s insolvency while the medium is outstanding. The same safety and soundness issues pertinent to redeemable forms of value apply to these irredeemable forms of value.”91
The concept of “medium of exchange” is further defined as the value that must be accepted by parties other than the issuer (open systems).92 This corresponds with Art. 1(3)(b)(iii) of the EMI Directive, which also excludes closed systems. The flexibility that is inherent in the UMSA’s definition (“[w]ith Internet payments, the regulators will … have to make the determination as to when a certain type of monetary value has become widely accepted as to constitute a medium of exchange”) is perhaps analogous to the Directive’s waiver provision for limited undertakings in Art. 8(1)(c).93
EMIs and MSBs are also subject to the following shared regulatory requirements:
licensing and approval requirements (UMSA § 201—License required; and E-Money Directive Article 1—Scope, Definitions, and Restrictions);
a prudential supervisory regime (UMSA § 203—Security; § 206—Net Worth; and §§ 601 et seq. Examinations, Reports, Records; and E-Money Directive Articles 4—Initial Capital; 6—Verification; and 7—Sound and Prudent Operation); and
restrictions on permissible investments to safeguard funds received from consumers while the e-money or stored value is outstanding and to guarantee safety and soundness (UMSA § 701 et seq.; and E-Money Directive Article 5—Limitations in Investments).94
There are many similarities between the UMSA and the E-Money Directive in terms of core definitional concepts relating the obligations imposed upon nonbanks that issue e-money. There are, however, a few key distinctions between the UMSA and the E-Money Directive. First, the E-Money Directive requires an EMI to have a minimum initial capital of €1 million. By contrast, the UMSA and other state money services statutes require either no net worth or a minimum amount of US$25,000 or less.
The UMSA does require licensees to obtain what is referred to as a surety bond (against which consumers can claim in the event of certain triggering events including insolvency).95 This bond, however, is a form of insurance and costs much less to purchase. In some states, the regulator can waive the bond requirement or a substitute security instrument (e.g., a letter of credit) can be used in place of the bond. Thus, the financial cost of starting a nonbank e-money enterprise in the European Union appears, upon an examination of the laws on the books, to be significantly higher than in the United States. It is important to note, however, that EU capital requirements may be waived for smaller EMIs under Art. 8 of the Directive.
When first enacted, the UMSA lacked any sort of passport principle. This meant that U.S. nonbank e-money issuers would have to obtain licenses in each jurisdiction in which they conducted business (usually defined by regulators as when there are customers located in a given state). This was a sharp contrast with the E-Money Directive, which allowed an EMI to obtain licensing or approval in one EU member state as a basis for operating throughout the EU market. It also is a disadvantage for nonbanks who have to compete with banks that can take advantage of national charters or reciprocal interstate branching.
As noted above, NCCUSL amended the UMSA in 2004 to permit a licensee to operate in other states with its original license if the states both have substantially similar regulatory regimes. In practice, however, there still exists a lack of passporting in the United States. Because only a few states have adopted the UMSA (and, as of now, without the recent amendments), companies such as PayPal must obtain multiple licenses and secure multiple security bonds for the states in which they do business. MSBs in the United States (and MSBs from abroad offering services in the United States), provided there is a sufficient jurisdictional nexus (which will more often be the case than not in the context of electronic commerce), must obtain licenses in states where their customers reside. As one commentator noted, “It may come as a surprise for many Europeans that conducting interstate business within the U.S.A. may be much more cumbersome than conducting international business within the EU.”96 That being said, the fact that many regulators have not moved to actively regulate e-money and stored-value products means that few issuers have encountered situations in which they are burdened by multiple licensing regimes. Traditional money transmitters, such as Western Union, have complied with this patchwork system of state prudential regulation for quite some time. Thus, it is unclear to what extent the perceived obstacle of different state laws in the United States has hindered innovation in e-money and e-payments.
Conclusions
Current statistics regarding the use of e-money and new forms of e-payments continue to fall below expectations in the United States and in the European Union.97 At present, there has been little comparative analysis of e-money regulation and its impact on the development of competing payment markets.98 Thus, an inquiry into the role of laws and regulation in promoting or hampering e-money adoption is at best a tentative inquiry at present.
A brief, preliminary analysis of the EU and U.S. written legal frameworks provides a starting point for such an analysis. From an examination of written legislation, a few important and preliminary lessons emerge. First, two important economic regions of the world have developed quite similar prudential regimes to govern the nonbank sector’s involvement with e-money. While there may be individual aspects of the E-Money Directive and the UMSA that differ, certain shared core concepts of licensing and supervision are a useful baseline for prudential regulation (e.g., permissible investment restrictions is a shared approach to protecting consumer funds in both regions).
At the same time, similar criticisms have been leveled in both the United States and the European Union surrounding the scope of existing prudential laws. The business community would like more guidance on what types of emerging electronic payment methods, and existing ones, fall within the scope of either regulatory regime. Loyalty schemes and mobile payments are two examples of payment systems where the answer is unclear or may vary. In the United States, for example, different states have taken varying positions on “mixed” systems.
As for protection of “bearers,” or holders of e-money, the use of security bonds under the UMSA may be a more straightforward and lower-cost mechanism for safeguarding consumers than the capital requirements imposed by the E-Money Directive.
The fundamental question remains, however, as to what extent the current legal frameworks are a disincentive or obstacle to growth of e-money. In the European Union and in the United States, more empirical work remains to be done. The European Commission’s consultation and review of the E-Money Directive will be one of the first systematic reviews of the relationship between the Directive and the low rate of licensing of new EMIs.
In the United States, one might perceive multiple state licensing regimes to be obstacles to the entrance of nonbanks into the e-money marketplace. As noted previously, however, preliminary (and unscientific) surveys of regulators indicate that existing laws relating to money services have not been enforced or implemented in most states to create practical obstacles.
There are several competing theories as to why the uptake of e-money and other electronic payments methods have been slow. While the research is contradictory, it points to factors other than the current legal environment as significant determinants of the slow growth of nonbank e-payment schemes. Current research identifies the reluctance of consumers and merchants as larger conceptual reasons as to why the e-money has not become quickly adopted in both regions.
Some economists postulate that consumers are in fact rational decision makers. The lack of uptake of stored-value or e-money products in the United States, for example, may be because consumers already have access to convenient credit card and debit card systems. The payments infrastructure in the United States already supports these applications.99 By contrast, smart card usage is higher in Europe. This may be because the telecommunications infrastructure in Europe is slower and consumers may have greater ease of transaction with stored-value cards that do not require network authorization.100
Recent EU studies show that merchants need additional incentives in order to accept new forms of e-payments. Consumer interest is similarly a significant factor in the European Union.101 In both markets, existing payment choices may be better for a variety of reasons, including the fact that certain consumer protections and error resolution mechanisms already exist for credit and debit cards, but do not exist for e-money or stored-value applications.102
There is some preliminary evidence that the type of e-money schemes that are enjoying success are limited purpose stored-value schemes.103 Part of this may be because “closed” systems or small-scale e-money schemes are exempt from regulation in the United States and in Europe. Another reason for the success of stored-value cards in the more “niche” areas such as parking, public transit, and other low-value/high-speed transactions may relate to the convenience associated with stored-value products. In those contexts a merchant or service provider may prefer stored-value over credit cards, which have a higher fee per transaction.104
Another hypothesis is that payment systems that will have the most success are those that leverage existing networks and infrastructures. PayPal, for example, leverages the existing infrastructure of banks, automated clearinghouse systems, and the credit card industry to deliver Internet-based fund transfers. Similarly, new types of mobile payments may be successful because such systems leverage existing payment networks. A consumer may authorize a payment via cell phone. The payment will then be charged to the consumer’s existing bank account or cell phone bill. Thus, mobile payments leverage two existing and large networks—those of banks and of telecommunications providers.105
The other factor that has only been examined in a cursory fashion is the so-called “payment culture.” This is an amorphous term that tries to bundle together the cultural preferences and historical development of payment options in different societies.106 U.S. consumers, for example, use more checks than in Europe. A research study at the Federal Reserve in Cleveland indicated that U.S. consumers like cash and thus have been slow to move to electronic money substitutes.107 Some economists note that consumers are reluctant to adopt new payment methods. Some of the reluctance relates to risk of loss such as fraud risk and also credit risk, which in turn could be described as payment culture (e.g., U.S. consumers expect payment systems to offer the same fraud and error protection as credit cards).108
The empirical and qualitative research to date presents many interesting views as to why end users have not widely embraced e-money and stored-value products as predominant forms of retail payments. While this research is interesting, it asks questions that presuppose the existence of suppliers in the marketplace that are offering services to the consumer that the consumer chooses not to adopt. The questions asked in many of the recent studies about the lack of e-money penetration do not focus on a more fundamental question: is regulation hindering the creation of supply and of new e-money models that might be better tailored to consumer demand?
While further analysis of the legal environment is needed, one pattern has emerged in the United States and the European Union that should cause us to rethink the current nature of prudential regulation.
The rise and success of limited purpose, niche, or closed stored-value systems indicate that consumers and merchants see benefits in using e-money in situations where credit cards and debit cards may cost too much or not work as well in certain locations (e.g., parking kiosks or places where no human agent is present). These products typically fall outside the scope of prudential regulation under the UMSA, MSB laws, or the E-Money Directive.
Thus, one useful line of inquiry is whether the more rapid uptake of small-value schemes is because this is a less regulated payment system. Issuers may, for example, choose to go into such lines of business because there are limited regulatory burdens associated with selling coffee cards. It is also possible that the popularity or demand for such products relates more to the narrowly tailored features of such stored-value products, which make them better alternatives to traditional payment instruments in certain circumstances. Whether regulation has influenced the success of the prepaid market merits further study.
Notes
James Gleick, “Dead as a Dollar,” The New York Times Magazine (June 16, 1996), at 9–16.
In March 2004, the Committee on Payment and Settlement Systems of the Bank for International Settlements (BIS) published its most recent Survey of Developments in Electronic Money and Internet and Mobile Payments. The survey included data from 95 countries and included figures from the end of 2002 or 2003. The BIS reports: “In a number of card-based [e-money] schemes, the number of cards issued and the number of merchant terminals available for e-money transactions are considerable. However, the outstanding e-money balances (float), as well as the volume of transactions, remain small in most cases. Similarly, the value of daily transactions is low on account of the low levels of usage but also because the average value of the transactions is very small, typically a few U.S. dollars. The limited data available on float, volume and value of daily transactions, in respect to network based e-money schemes, suggest that these are very low.” Bank for International Settlements, Committee on Payment and Settlement Systems, Survey of Developments in Electronic Money and Internet and Mobile Payments, Report No. 62, at 3 (2004), ISBN 92-9197-667-9, http://www.bis.org/publ/cpss62.pdf.
Benjamin Geva and Muharem Kianieff, “Reimagining E-Money: Its Conceptual Unity with Other Retail Payment Systems,” in Current Developments in Financial and Monetary Law, Vol. 3 (Washington: IMF, 2005), at 669, http://www.imf.org/external/np/leg/sem/2002/cdmfl/eng/bg_mk.pdf.
In the BIS framework, e-money includes prepaid cards (also referred to as electronic purses) and prepaid software products that use computer networks to access the consumer’s account (sometimes called digital cash). Bank for International Settlements, supra note 2.
Malte Krueger, “E-Money Regulation in the EU,” in E-Money and Payment Systems Review (London: Central Banking, 2002), at 239–51; and Mark Furletti, “Prepaid Cards: How Do They Function? How Are They Regulated?” Federal Reserve Bank of Philadelphia, Payment Cards Center Discussion Paper No. 04-04 (2004), http://www.phil.frb.org/pcc/papers/Prepaid_Cards.pdf.
Electronic payments as defined by the European Central Bank refer to “payments that are initiated, processed and received electronically.” European Central Bank, Issues Paper for the ECB Conference on E-Payment Without Frontiers (2004), http://epso.intrasoft.lu/papers/ECB%20conference%20epayments%20issues%20paper.pdf.
Steven Levy, “E-Money (That’s What I Want),” Wired Magazine, Issue 2.12 (1994), http://www.wired.com/wired/archive/2.12/emoney_pr.html; and Congressional Budget Office of the United States, Emerging Electronic Methods for Making Retail Payments (1996), http://www.cbo.gov/showdoc.cfmindex=14&sequence=0.
Federal Reserve Bank of Dallas, “How Do We Pay,” Financial Industry Issues, First Quarter (1997), at 1–8, http://www.dallasfed.org/banking/fii/fii9701.pdf; and L.L.S. Siu, “Octopus and Mondex: The Social Shaping of Money, Technology and Consensus,” Studies of Finance Working Papers, University of Edinburgh (2002), http://www.sociology.ed.ac.uk/finance/papers/siu_octopus.pdf.
Many commentators have informed the Task Force that they were concerned that e-money issuers would become insolvent, and that consumers would not be informed of their rights in the event of such an insolvency….
Other nonbank issuers may be subject to state regulatory oversight; however, the extent of this supervision is unclear. Clarification by state regulators and legislatures of the applicability of their laws to e-money could be beneficial.
Office of the Comptroller of the Currency, The Report of the Consumer Electronic Payments Task Force (April 1998), at 44, http://www.occ.treas.gov/netbank/ceptfrpt.pdf.
See also, James McAndrews, “Banking and Payment System Stability in an Electronic Money World,” Federal Reserve Bank of Philadelphia, Working Paper No. 97-9 (1997), http://www.phil.frb.org/files/wps/1997/wp97-9.pdf; Barbara Good, “Will Electronic Money Be Adopted in the United States?” Federal Reserve Bank of Cleveland, Working Paper No. 9820 (1998), http://www.clevelandfed.org/Research/Workpaper/1998/Wp9820.pdf; and E. Solomon, Virtual Money: Understanding the Power and Risks of Money’s High-Speed Journey into Electronic Space (New York: Oxford University Press, 1997).
John D. Muller, “Selected Legal Issues in the Issuance of Electronic Money,” 2(2) Journal of Internet Banking and Commerce (1997), http://www.arraydev.com/commerce/JIBC/9702-17.htm.
M. Robson, “Electronic Money: Public Policy Issues,” Bank of England, Financial Stability Review, No. 1 (Autumn 1996), at 23–30; and Siu, supra note 8.
Bank for International Settlements, supra note 2.
Michael A. Froomkin, “Flood Control on the Information Ocean: Living With Anonymity, Digital Cash, and Distributed Databases,” 15 University of Pittsburgh Journal of Law and Commerce (1996), at 395.
Digicash is now referred to as ecash. See European Payment Systems Observatory, ePSO Database, http://www.jrc.es/cfapp/invent/details.cfm?uid=30.
European Payment Systems Observatory, Database on E-Payment Systems, http://www.jrc.es/cfapp/invent/details.cfm?uid=24.
European Central Bank, supra note 6.
Id.
Federal Reserve proposal to amend Federal Reserve Regulation E to include stored value. See Regulation E—Electronic Funds Transfers, 61 Federal Register 19,696 (1996).
European Payment Systems Observatory, Database on E-Payment Systems, http://www.jrc.es/cfapp/invent/details.cfm?uid=64.
G. E. Truman, K. Sandoe, and T. Rifkin, “An Empirical Study of Smart Card Technology,” 40(6) Information & Management (2003), at 591–606.
Judith Rinearson and Chris Woods, “Beware Strangers Bearing Gift Cards: Some Wholesale Advice for Your Retail Clients,” 14(2) Business Law Today (2004), http://www.abanet.org/buslaw/blt/2004-11-12/woods.shtml.
Mark Furletti, “Prepaid Card Markets and Regulation,” Federal Reserve Bank of Philadelphia, Payment Cards Center Discussion Paper, No. 01-04 (2004), http://econpapers.repec.org/paper/fipfedpdp/04-01.htm; and Rinearson and Woods, id.
State legislatures and attorneys general have begun to try to regulate prepaid gift cards from a consumer protection standpoint. In particular, many states have attempted to restrict the way in which card issuers can (1) deduct value from cards for lack of use (dormancy or maintenance fees) and (2) use expiration dates. Such regulations are not prudential regulations and thus are beyond the scope of this chapter.
Julia S. Cheney, “Prepaid Card Models: A Study in Diversity,” Federal Reserve Bank of Philadelphia, Payment Cards Center Discussion Paper No. 05-03 (2005); and Furletti, supra note 5.
“Net Currency Seller Files for Bankruptcy,” New York Times (September 3, 2001), at C4; and Hugo Godschalk, “Failure of Beenz and Flooz Indicates the End of Digital Web-Currencies?” 10 Electronic Payment Systems Observatory (ePSO) Newsletter (November 2001), http://epso.jrc.es/newsletter/vol10/6.html.
Godschalk, id. See also ePSO Inventory Database on E-Payment Systems for a chronological description of Flooz and Beenz, http://epso.jrc.es/paysys.html.
Krueger, supra note 5.
ePSO Inventory Database on E-Payment Systems, http://www.jrc.es/cfapp/invent/details.cfm?uid=83. See also the PayPal website, http://www.paypal.com.
e-gold Ltd. website, http://www.e-gold.com. See also ePSO Inventory description of E-gold at http://www.jrc.es/cfapp/invent/details.cfm?uid=74.
European Commission, “Application of the E-money Directive to Mobile Operators,” Consultation Paper of the DG Internal Market (2004), http://europa.eu.int/comm/internal_market/bank/docs/e-money/2004-05-consultation_en.pdf.
Mobile Payment Forum, “Ensuring Interoperable and User-Friendly Mobile Payments,” White Paper (2002), http://www.mobilepaymentforum.org/pdfs/mpf_whitepaper.pdf.
Office of the Comptroller of the Currency, supra note 9.
Muller, supra note 10.
Office of the Comptroller of the Currency, “Interpretations, Conditional Approval #220 (Mondex), December 12, 1996,” in Interpretations and Actions (December 1996), http://www.occ.treas.gov/interp/nov/conda220.htm.
Office of the Comptroller of the Currency, supra note 9; and Manfred Kohlbach, “Making Sense of Electronic Money,” 2004(1) Journal of Information Technology and Law, http://www2.warwick.ac.uk/fac/soc/law/elj/jilt/2004_1/kohlbach.
Recent proposals to regulate prepaid cards at the federal level include expanding the scope of Federal Reserve Regulation E to encompass employer provided payroll cards: 69(180) Federal Register (September 17, 2004); and the Federal Deposit Insurance Corporation’s proposal to clarify whether the funds held by issuers or prepaid cards constituted “deposits” for purposes of the FDIC Act. See 69(74) Federal Register (April 16, 2004), http://www.fdic.gov/news/news/press/2005/pr6505.html; and Federal Reserve Board, “A Summary of the Roundtable Discussion on Stored-Value Cards and Other Prepaid Products” (November 2004), http://www.federalreserve.gov/paymentsystems/storedvalue/.
For a summary of the early phases of PayPal’s development, see ePSO Inventory Database on E-Payment Systems at http://www.jrc.es/cfapp/invent/details.cfm?uid=83. PayPal was acquired by online auction site eBay in October 2002. See PayPal website “About Us,” http://www.paypal.com/cgi-bin/webscr?cmd=p/gen/about-outside; and Jeffrey D. Jordan, “Innovations Keynote Address,” Federal Reserve Bank of Chicago 2005 Payments Conference, http://www.chicagofed.org/news_and_conferences/conferences_and_events/files/2005_payments_jordan.pdf.
Rinearson and Woods, supra note 21; and John Morgan, “Legal Implications of Stored-Value Cards,” Perkins Coie Client Update (January 2005), http://www.aals.org/am2005/saturdaypapers/830morgan3.pdf.
Krueger, supra note 5; and Kohlbach supra note 35.
For further information on the U.S. Treasury Department’s regulation of money services businesses for compliance with the federal Bank Secrecy Act, see http://www.msb.gov.
Judith Rinearson, “Regulation of Electronic Stored-Value Payment Products Issued by Nonbanks Under State ‘Money Transmitter’ Licensing Laws,” 58 Business Lawyer (November 2002), at 317.
Coopers and Lybrand, “Non-Bank Financial Institutions: A Study of Five Sectors Prepared for the Financial Crimes Enforcement Network” (February 1997), http://www.fincen.gov/cooply.html.
Definition and Registration of Money Service Businesses, 62 Federal Register 27,890 (May 21, 1997). See Anita Ramasastry, “Memorandum to Drafting Committee, Proposed Nondepository Providers of Financial Services Act, National Conference of Commissioners on Uniform State Laws on Overview of Relevant Legislation and Regulations” (October 13, 1997), http://www.law.upenn.edu/bll/ulc/ndpfsa/ndp1097.htm.
National Conference of Commissioners on Uniform State Laws, Uniform Money Services Act [hereinafter UMSA] (2001), http://www.law.upenn.edu/bll/ulc/moneyserv/UMSA2001final.pdf.
Ramasastry, supra note 43.
For recent developments at the state level, see the MTRA website, http://www.mtraweb.org.
Anita Ramasastry, “Memorandum to Cyberpayments Working Group of the Uniform Money Services Business Act Drafting Committee on Issues to Be Considered by the Working Group” (January 5, 2000), http://www.law.upenn.edu/bll/ulc/moneyserv/cyberpayments.html.
Anita Ramasastry and Tom Bolt, “Questions and Answers About the Uniform Money Services Act” (June 15, 2000), http://www.law.upenn.edu/bll/ulc/moneyserv/msbQA0620.htm.
Ramasastry, supra note 43.
UMSA, supra note 44.
For the current status of the UMSA and its adoption by the states, see http://www.nccusl.org.
Stored-value cards issued by nonbanks for use in “open” systems (i.e., to purchase goods and services offered by vendors other than the issuer of the card) will generally be subject to regulation under the Sale of Checks Act because the nonbank issuer is holding the funds of third parties. Consumers are relying on the nonbank issuer that the card will be honored when presented by the purchaser of goods and services at diverse locations.
See Remarks of Catherine A. Ghiglieri, Texas Department of Banking the PULSE EFT Assoc. Member Conference (October 11, 1996), http://www.banking.stat.tx.us/exec/speech10a.htm.
UMSA § 102(10).
As of October 17, 2005, PayPal indicated that it is licensed in 34 states. See https://www.paypal.com/cgi-bin/webscr?cmd=p/ir/licenses-outside.
To locate where the UMSA has been adopted, see NCCUSL’s website, http://www.nccusl.org/Update/DesktopDefault.aspx?tabindex=2&tabid=60.
ePSO Inventory Database on E-Payment Systems, http://epso.jrc.es/paysys.html; and A. Ramasastry, “E-Payments Regulation and Innovation in the U.S. and Assessment of State Regulatory Practice and Perception,” presentation for European Payment Systems Observatory Conference on Consumer Online Payments: Trends and Challenges for Europe (February 2002), http://epso.jrc.es/conference/presentations/ps1/ramasastry.pdf.
Federal Reserve, The Future of Retail Electronic Payments Systems: Industry Interviews and Analysis, Staff Study 175 (December 2002), http://www.federalreserve.gov/pubs/staffstudies/200-present/55175.pdf.
UMSA would allow any type of licensed MSB to operate in other jurisdictions on the basis of a single license granted by a lead regulator, as long as the states in which the MSB conducts business have laws that are substantially similar to those in the home licensing state. National Conference of Commissioners on Uniform State Laws, Amendments to Uniform Money Services Act (2004) [hereinafter UMSA Amendments], http://www.law.upenn.edu/bll/ulc/moneyserv/approvedfinal2004.htm.
See, e.g., the MTRA’s Money Transmitter Regulators’ Cooperative Agreement (2002), http://www.mtraweb.org/coop_agr.shtm.
Simon Lelieveldt, “The Electronic Money Directive: Recapitulation and Outlook,” Working Paper prepared for the GTIAD meeting (November 27, 2003), Amsterdam, on behalf of the Association of Electronic Money Issuers in the Netherlands, http://www.simonl.org/docs/pp221103.doc.
Id.
L. Van Hove, “Electronic Purses: (Which) Way to Go?” 5(7) First Monday (July 2000), http://www.firstmonday.org/issues/issues5_7/hove/index.html.
The European Monetary Institute, the precursor for the European Central Bank, met for the first time on January 12, 1994.
European Monetary Institute, Report to the Council of the European Monetary Institute on Prepaid Cards (May 1994).
In the United States, individual banking regulators have taken similar positions that nonbank issuers were “accepting deposits” when taking consumer funds for the purpose of funds transmission or in exchange for the issuance of a stored-value card. See, e.g., New York State Banking Department, staff interpretation, Opinion regarding PayPal Activities (June 3, 2002), http://www.banking.state.ny.us/legal/lo020603.htm.
Lelieveldt, supra note 60.
The draft and final directives are formally titled the “EU Directive on the Taking Up, Pursuit of and Prudential Supervision of the Business of Electronic Money Institutions.”
Krueger, supra note 5.
Art. 3(b), 2000/46/EC of the European Council and Parliament of Ministers of 18 September 2000 on the Taking Up, Pursuit of and Prudential Supervision of the Business of Electronic Money Institutions, in Official Journal of the European Communities, L275 (October 27, 2000), at 39–43. http://www.europa.eu.int/eur-lex/pri/en/oj/dat/2000/1_275/1_27520001027en00390043.pdf [hereinafter “E-Money Directive”].
Marc Vereecken, “A Harmonized EU Legal Framework for Electronic Money,” 7 ePSO Newsletter (May 2001), http://epso.jrc.es/newsletter/vol07/docs/ePSO-N.pdf; and Rufus Pichler, “The European Electronic Money Directive and the U.S. Uniform Money Services Act—The Similarities and Differences,” 11 ePSO Newsletter (November 2001), http://epso.jrc.es/newsletter/vol11/6.html.
Art. 1(3)(a), E-Money Directive, supra note 69.
Kohlbach, supra note 35.
Art. 2(3), Directive 2000/46/EC, supra note 69.
Kohlbach, supra note 35, citing J. Chuah, “The New EU Directives to Regulate Electronic Money Institutions—A Critique of the EU’s Approach to Electronic Money,” 5(8) Journal of International Banking 180, at 183 (2000). See also W.R.M. Long and J.M. Casanova, “European Initiatives for Online Financial Services, Part 2: Financial Services and the Regulation of Electronic Money,” 18(1) Butterworths Journal of International Banking and Financial Law 8 (January 2003).
As recently as 2003, the European Commission noted that it would send opinions to Belgium, Finland, France, and Greece for failing to adopt the measures necessary to comply with the E-Money Directive. Thus, implementation of the directive has not been as rapid as anticipated. (IP/03/4). European Commission Press Release, “Commission Moves Against 13 member states for Failure to Implement EU Legislation” (January 6, 2003), http://europa.eu.int/rapid/pressreleasesaction.do?reference=IP/03/4&format=HTML&aged=1&language=EN&guiLanguage=en. See also European Central Bank, “E-payments in Europe—The Eurosystem’s Perspective” (September 2002), at 21 (noting that only 10 member states had implemented the E-Money Directive as of August 2002), http://www.ecb.int/events/pdf/conferences/epayments.pdf.
The European Central Bank (ECB) notes that: “The definitions of e-money in local regulations and supervisory approaches vary considerably as well. Some countries have specified maximum amounts of e-money that may be stored on an electronic device. In some national laws specific clauses confirm that the funds that e-money issuers receive from the public in exchange for e-money values do not constitute a deposit. In other countries, however, e-money has been interpreted so widely that hardly any criteria or a consistent differentiation remain, especially in the context of the different definitions of [EMIs] partly as credit institutions, partly as service providers.” ECB, Issues Paper for the ECB Conference on E-Payment Without Frontiers (2004), http://epso.intrasoft.lu/papers/ECB%20conference%20epayments%20issues%20paper.pdf. See also, Lelieveldt, supra note 60.
ECB, id.
G. Bamodu, “The Regulation of Electronic Money Institutions in the United Kingdom,” 2003(2) Journal of Information, Law and Technology.
Kohlbach, supra note 35.
European Commission, “Questionnaire on the Electronic Money Directive,” 2000/46/EC (July 14, 2005), http://europa.eu.int/comm/internal_market/bank/docs/e-money/questionnaire_en.pdf.
Godschalk, supra note 25; and Lelieveldt, supra note 60.
Danish Ministry of Science, Technology and Innovation, “Barriers to Electronic Payments,” Discussion Paper (October 2004), http://www.vtu.dk/fsk/ITC/Diskussionspapir14102004.pdf.
Krueger, supra note 5; and H. Godschalk and M. Krueger, “Why E-Money Still Fails: Chances of E-Money Within a Competitive Payment Instrument Market,” paper prepared for the Third Berlin Internet Economics Workshop (May 26, 2000), http://www.berlecon/services/en/iew3/papers/godschalk.pdf.
Kohlbach, supra note 35.
European Commission, Application of the E-Money Directive to Mobile Operators, Consultation Paper of the DG Internal Market (2004), http://europa.eu.int/comm/internal_market/bank/docs/e-money/2004-05-consultation_en.pdf.
Kohlbach, supra note 35.
Although the official commentary to the UMSA makes reference to the E-Money Directive, the comments were drafted after the National Conference of Commissioners on Uniform State Laws had adopted the Act. The Drafting Committee deliberated without review of the E-Money Directive or any related white papers or commentary.
Rufus Pilcher, “The European Electronic Money Institutions Directive and the U.S. Uniform Money Services Act—The Similarities and Differences,” 11 ePSO Newsletter (November 2001), http://epso.jrc.es/nesletter/vol11/6.html.
UMSA, supra note 44.
Pilcher, supra note 88.
UMSA, § 102(10).
Monetary value is defined as “a medium of exchange, whether or not redeemable in money.” The term “medium of exchange” connotes that the value that is being exchanged be accepted by a community, larger than the two parties to the exchange. Hence, bilateral units of account, such as university payment cards, would not constitute “monetary value” for purposes of this Act. A university payment card that was also accepted by a few local pizzerias could be at the borderline. A university payment card accepted by most local merchants would likely be “monetary value.” The definition of monetary value, to some extent, must remain flexible to allow regulators to deal with emerging forms of monetary value and Internet “scrip” on a case-by-case basis. It is possible, therefore, that a certain type of monetary value of stored-value might not constitute a medium of exchange when first introduced, but might evolve into a more commonly accepted form of payment and would become a medium of exchange. UMSA, § 102(10).
In effect, the term “medium of exchange” is meant to indicate that when an e-money or stored-value system looks more like currency (in terms of its wide acceptance as a means of payment), it poses certain safety and soundness concerns not apparent with small, limited purpose payment systems.
Pilcher, supra note 88.
Both instruments require the EMIs (Art. 5 EMI Directive) or MSBs (€ 701 UMSA), respectively, to maintain investments at all times at least in the amount of their outstanding liabilities arising from issued and outstanding electronic money or stored value. Further, both instruments define permissible, low-risk investments (Art. 5 EMI Directive and € 702 UMSA). Pilcher, supra note 88.
UMSA, § 206.
Pilcher, supra note 88.
Monica Hartmann’s presentation on behalf of the European Central Bank in 2004 shows that card-based e-money schemes accounted for only 1 percent of cashless payment transactions in 2002 in 25 EU member states. Credit card and debit cards, by contrast, constituted 31 percent of those transactions. M. Hartmann, “What Is New with Innovative Payments,” presentation prepared for the ECB Conference E-payments Without Frontiers (November 10, 2004), http://www.ecb.int/events/pdf/conferences/epayments2004/041110_econf_hartmann.pdf.
Kohlbach, supra note 35.
B. Mantel, “Why Do Consumers Pay Bills Electronically? An Empirical Analysis,” 24(4) Economic Perspective of the Federal Reserve Bank of Chicago (2000), http://www.chicagofed.org/publications/economicperspectives/2000/4qep3.pdf.
Id.
ECB, supra note 6.
S. Chakravorti, “Why Has Stored Value Not Caught On?” Emerging Issues of the Federal Reserve Bank of Chicago (May 2000), http://www.chicagofed.org/publications/publicpolicystudies/emergingissues/pdf/S&R-2000-6.pdf; and R. Mann, “Making Sense of Payments Policy in the Information Age,” 93 Georgetown Law Journal 633 (2005).
Krueger, supra note 5.
Mantel, supra note 99.
Bank for International Settlements, supra note 2; and B. Mantel and T. McHugh, “Evolving E-payment Networks: The Strategic, Competitive, and Innovative Implications,” 13(1) Payment Systems Worldwide 4 (Spring 2002).
K. Böhle and M. Krueger, “Payment Culture Matters—A Comparative EU-U.S. Perspective on Internet Payments,” ePSO Background Paper No. 4 (August 2001), http://epso.jrc.es/Docs/Backgrnd-4.pdf.
Barbara A. Good, “Electronic Money,” Federal Reserve Bank of Cleveland Working Paper 97/16 (1997), http://www.clevelandfed.org/research/workpaper/1997/wp9716.pdf.
Chakravorti, supra note 102.