One Year of FedNow: Disrupting and Redefining the Payments Ecosystem — What Lies Ahead

The FedNow service started with 35+ financial institutions in July last year and grew rapidly, with more than 850 participants by May 31st, 2024. The fact that there are more than 10,000 banks and credit unions in the US foretells further growth in 2024. Reflecting on FedNow's first anniversary, the diverse range of financial institutions — including banks, credit unions, and FinTechs — demonstrates how this real-time payments network is reshaping the financial industry. By providing instant payment settlement and democratizing access to real-time payments, FedNow has enhanced operational efficiencies and promoted greater interoperability while reducing complexities for financial institutions.

Transformational Impact on Financial Institutions

FedNow has fundamentally altered the payments landscape, laying the groundwork for ongoing innovation and expansion in the real-time payments ecosystem. Despite the increased costs of upgrading infrastructure and transaction fees, financial institutions see this as a revenue-adding proposition, with consumers increasingly willing to pay for speed and round-the-clock availability.

Driving Digital Payment Adoption

Total transaction value in the digital payments market is likely to exceed $3 trillion in 2024 and rise to over $4.6 trillion by 2028. This surge in digital payment adoption has led to the proliferation of services, including bill payments, mobile wallet transactions, and immediate payroll disbursements. FedNow’s secure, instantaneous settlement process addresses consumer expectations for instant access to funds and mitigates fraud risk. As FedNow's adoption accelerates, it challenges traditional payment frameworks and spurs innovation within the financial services industry. This initiative promotes the coexistence of diverse payment systems and drives them toward more efficient, integrated solutions.

Emerging Use Cases and Competitive Dynamics

Traditionally, moving to a new payments provider is more complicated and expensive for businesses than for consumers, making B2B customer acquisition hard and customer retention easy for banks. BigTechs and FinTechs are leveraging the projected growth in the payments market, with B2B payments volume expanding at 26% annually and expected to exceed $111 trillion by 2027. They are introducing value-added services at a pace that traditional financial institutions cannot match, posing tough competition to incumbent players.

FedNow has enhanced the digital ecosystem by integrating payments into workflows that extend beyond transactions, involving third-party apps, open banking, and services on both the sender and receiver sides. They are investing in building value-added services around automated bill payments, automated invoicing, accounting system integration, and risk prevention services like fraud detection prevention, misdirected transfers, etc. Traditional FIs need to capitalize on digital ecosystems further by adopting co-opetition models with tech providers and identifying the right partners to accelerate innovation and increase customer outreach. To stay competitive, traditional financial institutions must rethink their strategies and embrace new technologies. Collaborating with FinTechs and leveraging innovative solutions can help them offer enhanced services, such as predictive analytics for better decision-making and personalized customer experiences.

Tech Integration and Future Innovations

From a technological standpoint, we've observed a surge in tech adoption within the BFSI sector and a growing demand for integrating FedNow capabilities into existing systems. FIs are investing heavily in customer experience transformation strategies by taking a design-thinking-led, omnichannel-driven approach. Traditional players need to further ramp up their marketing approaches using real-time data, marketing automation, and better branding, which positions them on even ground as digital-native players.

Behind the scenes, implementing RTP involves modernizing technology systems, streamlining data pipelines, and developing new identity management, fraud prevention, and operational procedures. Legacy tech hampers the development of new payments solutions, and this is the main commercial payments problem that traditional FIs face, unlike their FinTech rivals. In response, FIs are modernizing their core systems using a dual-core approach to transition from monolithic/legacy core systems to more modular and composable technological solutions. We are seeing increasing GenAI adoption to accelerate the pace of each of these initiatives.

As more businesses and financial institutions integrate with FedNow, we anticipate a rise in technology adoption powered by AI, a broader array of use cases, and more applications embedding real-time payments into everyday financial transactions.

Strengthening Risk Management

Apart from the legacy technology modernization investments required for FedNow implementation, one of the challenges that financial services providers will face is managing the risk of frauds since FedNow doesn’t come with inherent fraud prevention measures. Rather, organizations utilizing FedNow are responsible for adhering to compliance standards and mitigating risk to safeguard against illegal practices like money laundering and fraud. Companies wanting to use FedNow must establish a strong risk management framework geared towards AML and fraud prevention for instant payments, with risk experts incorporating live monitoring solutions into their anti-fraud strategies.

In conclusion, FedNow’s impact on the payments ecosystem is expected to deepen further. Financial institutions must continue to innovate, adopting advanced technologies like AI and updating their core systems to remain competitive. The future of real-time payments is promising, with significant potential for improving efficiency, enhancing customer satisfaction, and promoting financial inclusion. In the coming years, we expect to see continued advancements in real-time payment technologies, pushing the industry toward a more interconnected and seamless financial ecosystem. Institutions that proactively adapt to these changes will not only survive but thrive in the rapidly evolving landscape of digital payments.

Author: Barath Narayanan,  Global BFSI and Europe Geo Head, Persistent Systems