CONCEPT PAGE
Will Smart Card Replace Hard Currency ?
by Stephen Wan
Electronic payment is not a new term to us. We are actually using some forms of electronic payments in our daily lives such as debit and credit cards and electronic fund transfer by banks. However, with more and more technological breakthrough, there are some other advanced types of electronic payments available in the world. For example, the Cyber Coin from CyberCash, the E-cash from Digicash, the Visa Cash from Visa International, and the Mondex card developed by the National Westminster Bank, United Kingdom.
CyberCash is established in August 1994 in the United States. It specializes in developing softwares and services for secured internet business transactions. It also teams up with Visa International and Mastercard International to develop the SET (Secure Electronic Transactio) standard for secured transactions. Its product Cyber Coin is proposed for transactions between US$0.25 to US$10.00. Cyber Coin is totally a software based product. However, there is an audit trail left behind that negates any anonymity which hard currency does not.
The E-cash from Digicash is developed by David Chaum based in Amsterdam. E-cash is also a software based system. "E-cash is auditable and traceable: Every transaction is authenticated and every e-cash coin stamped with the issuing bank's blind generated signature. Because each signature is unique and bank dependent, the electronic money cannot be duplicated and individuals cannot create their own ecash, effectively eliminating the potential for systemic risk."[1] E-cash is much closer to hard currency.
Visa Cash from Visa International and the Mondex are similar in fundamental terms. Visa International has teamed up with the Bank of China group and the Standard Chartered Bank to launch the Visa Cash in Hong Kong. The Visa Cash is a card embedded with a microprocessor (chip) which can be used to purchase small-value items. Thus, cash need not be carried in your wallet. Visa Cash operates on an open system which utilizes the existing Visa International worldwide system. No new or expensive hardware and software have to be installed. The current test in Hong Kong involves a disposable version of Visa Cash card, and later on Visa International will test a reloadable card, and hopefully eventually a combination of Visa Cash, debit and credit card will be introduced.
This concept paper is to examine the question whether smart card will replace our hard currency in the near future. And this paper mainly looks at the Mondex card that has several test sites operating in the world. In examining this issue, we will discuss a variety issues directly or indirectly related financial institutions, consumers, vendors and government. This paper begins with the background of the Mondex card.
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According to Diogo Teixeira, "the Mondex concept is: All users would have a plastic card containing a microchip upon which stored value could be placed. (However, the card has no PIN.) Each user would also have an electronic "wallet" device that can read or write information to the card and can also store value. A small personal balance reader could, when passed over one end of the Mondex card, display its stored value. Mondex tries to mimic cash in as many ways as possible. Stored value is placed on the card after insertion in an appropriately equipped ATM, telephone, or other electronic device. The holder's DDA or current account is then debited, exactly as if withdrawing cash. If the Mondex card or wallet is lost, burned, or eaten by the dog, the holder is simply out the value. There's a disincentive to thieves, since both the card and the wallet can be locked. However, if the card or wallet is stolen anyway, the holder is again out the value. Mondex is also envisioned to be less susceptible to counterfeiting than is today's paper currency."[2]
Tim Jones, CEO of Mondex said that "there are risks of counterfeit in cash, and it happens regularly, but the product is still stable. Similarly, as with physical money, there's no business requirement for there to be zero counterfeit in Mondex. The business requirement is that, if there is any counterfeit in Mondex, it's not serious enough to damage the integrity of the payment system." [3] He also said the Mondex team has taken more than adequate steps to secure the system: Mondex cards themselves are physically protected with tamper-proof silicon; the chips use digital signatures to authenticate each other; and messages transmitted between two Mondex wallets are encrypted." [4]
Mondex card is one of the cheapest hardware, on the other hand, personal computer is relatively expensive that not everybody can afford it. Mondex user does not necessary need a personal computer indeed. In Singapore, there is a student identification card. It is a student ID card, but also serves as library card, laboratory entrance card, telephone card and photocopy card. This card also is student's electronic wallet; student can make direct fund transfer from his or her bank account. The usage result is reported very good.
Diogo Teixeira argued that "cash still rules even after 30 years of continuous developments in electronic payment systems. In the G-10 countries, the ratio of notes and coin in circulation per capita ranges from $446 to $2748. In the US, there was about $300 billion of notes and coin supposedly in circulation in 1992, excluding that which was held by banks. Moreover, this number has been growing at a surprising 8% per year. US checkable deposits are larger, at about $742 billion in 1992, but are only growing at 6% per year. In the UK, about a quarter of all spontaneous payments over 100 pounds sterling are still made with cash. For payments under 5 pounds sterling, the percentage is 98%." [21]
Teixeira also said, "to really displace cash, the Mondex system has to have some qualities that credit and debit cards don't have. For example, cash is negotiable, meaning it can be given or traded to someone else. Credit and debit cards can't be given away - technically, they are identification cards owned by the issuer and restricted to one user. But, a Mondex card can be given away. Cash is a bearer instrument, meaning that possession is prima facie proof of ownership. Of course, credit and debit cards specifically are not bearer instruments. Cash can be held and used by anyone even if they have no bank account and no credit rating. But credit/debit cards can't be. Cash really places no risk on the part of the acceptor that the medium of exchange will be good. Yet, cards require an authorization system and checks require either personal knowledge of the payer or a check guarantee system. Lastly, cash is legal tender, meaning the payee must take it. Cards, of course, are not. (While the Mondex pilot in Swindon won't be legal tender initially, that could change in the future.)" [22]
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Mondex's first test site is a small town, 110 kilometers southwest of London called Swindon. [5] "To date, about 10,000 residents of the town (whose population is 190,000) have applied for and received the Mondex card. This is up from the 6,000 people who had it when it first rolled out in July, 1996, but short of the hoped-for 40,000. The number of stores and restaurants that accept the card has grown from 600 to 700; this puts the goal of eventually getting all 1,000 Swindon merchants on board within reach. In October, 1996, British Telecommunications converted the 250 payphones in Swindon to Mondex-compatible phones so that people can use them to load cash from the machine to their card just as they can at an ATM. Some of the residents have been given Mondex-compatible phones at home and some parking meters have been retrofitted to take Mondex. Buses will be next." [6] If the test result does not have major setback, Mondex will introduce the card across England in early 1997. [7]
In the United States, Wells Fargo expanded the Mondex card test to 550 employees in December. "Employees can load cash onto the cards at one ATM and four personal computers in bank buildings in San Francisco's financial district. The group of nearby merchants that take Mondex has grown from the original nine to 23. All the employees have a Mondex balance reader and electronic wallet. In addition to buying things with the card, Wells Fargo employees are transferring electronic cash from one person's Mondex card to another's - a feature that makes Mondex unique versus other stored-value type cards. The merchants like the promotion and increased traffic in their stores that the trial has caused. Employees like not having to fish for change, not incurring debt as they would with a credit card, and being able to see their last ten transactions on the wallet's display." [8]
In Hong Kong, the Mondex card will be launched by the Hongkong Bank in the last quarter of the year in two shopping malls, Sha Tin and Cityplaza. [9] "The Hongkong Bank group claims it has recruited 400 merchants in two shopping malls to take part in the 'soft' launch of the Mondex card. Customers of the bank would be invited to join depending on how close they lived or worked to the pilot shopping malls. And about 20 per cent of those invited would be given a free Mondex telephone. There will be about 50 to 60 automated teller machines in selected locations which can upload funds from the customer accounts on to Mondex cards. In addition, the two shopping malls will install Mondex telephone booths to serve as a medium for fund transfers." [10]
Back to home, "Canada's two largest banks, Royal Bank of Canada and CIBC have formed an alliance with Bell Canada, the country's largest telecommunications company, as a major supplier and marketing partner, to implement the Mondex system in Canada." [11] The first city for this pilot test is Guelph which has a population of 100,000 and is 90 kilometers southwest of Toronto. [12] "A few bank employees are already using the cards with a handful of merchants, but the test will get into full swing in early 1997 when thousands of Guelph residents receive cards and hundreds of stores have their terminals up and running. At that time, Guelph residents will be able to buy merchandise, make phone calls, and pay for parking and bus fare using the cards. Those who sign on will be able to load their cards at automated teller machines, pay phones or specially equipped home phones. Mondex cards can also handle person-to-person payments and foreign exchange transactions."[13]
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For the banking industry, cost reduction is always the issue. When people need cash, they will either go to the bank or the automatic teller machine (ATM). "The cost of operating bank branches and ATMs may be as high as 40% of total non-interest expense." [23] If Mondex can relieve much of cash deposits and withdrawals traffic for banks, they will actively participate in the implementation process of Mondex as evidence now shows. Almost every banks in Canada involve in some type of smart card market testing. And there are much more going on in Europe and Asia as Mondex and Visa Cash are fighting to be first in the market in those regions of the world.
As Teixeira said, "the challenge for the banking industry is to come to the right vision of how electronics will ultimately replace archaic paper payment systems. Then, the challenge is to figure out how to make a profit on that vision." [24]
At the annual Asia-Pacific general meeting of Visa International, "Visa group excutive vice-president for product development Francois Dutray said that today financial institutions and Visa are the sole owners and operators of the value exchange system worldwide. In 2005, there will be a whole range of participants involved in the transition from value exchange to information exchange." [14] In the emerging age of electronic commerce, Mondex poses serious threats to Visa and Mastercard.
As we mentioned above, Visa International has launched a pilot test of Visa Cash in Hong Kong to prepare itself in the battle with Mondex. Moreover, the Bank of Nova Scotia, Vancouver City Savings Credit Union, the Casses Populaires Desjardins and TD have introduced Visa Cash to their employees this year. [15]
Dennis Goggin of Visa International Asia-Pacific indicated that Mondex card has the following inefficiencies [16]: a. Visa Cash uses multi-purpose chip while Mondex's chip does not; b. Visa Cash records transactions in a central database which can be auditable and prevent frauds; Mondex does not; c. Visa Cash uses existing member banks' system while Mondex needs new technology and investment costs are high; d. Visa Cash do not need large amount of human resources to operate while Mondex requires more time to install systems and more staff in operation; e. Mondex does not meet ISO 7816 standard (EMV) and may need alteration in the future.
On the other hand, Mastercard International also sees the threats from Mondex card. It launched a smart card trial in Canberra, the capital of Australia, which is similar to the Visa Cash. The smart card (Mastercard Cash) is issued by three Australian banks: Westpac Banking Corporation, Australia and New Zealand Bank and Commonwealth Bank of Australia. This card can be used as debit and credit cards and making purchase of low-value items. [17] "Trevor Whitworth, vice-president in charge of chip card for Mastercard said that Mastercard Cash can be used throughout the world, because it is linked to an existing Masestro debit card or Mastercard credit card. You do not need another card in your wallet for low-value transactions." [18] "He also said that the Visa Cash card was detached from the existing credit and debit cards." [19]
Furthermore, Mastercard International announced in November that it agreed to purchase 51 per cent share holdings of Mondex and utilized its chip technology in Mastercard future smart card. [20] Therefore, Mastercard International chose to buy out the competition instead of having a head-on battle with Mondex.
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Consumers have been using coins and paper currency for many many years, and they are quite satisfied with them. Once consumers are accustomed to one form of payment method, it would take years for them to alter their habits. In addition, Mondex is not intended to be freely distributed to consumers. The Mondex card company and other issuing institutions are going to charge their customers for the Mondex cards and the electronic wallets. Greg McKenzie, senior vice-president of the CIBC's Card Products Division said that consumers can expect to pay between $1 and $3.50 a month. [25] This may be a major obstacle for Mondex to gain popularity, because cash is now available to consumers free of charge. Also, consumers use cash at no transaction costs. Thus, heavy resistance to migrate from cash to Mondex should be anticipated.
Reliability is another question that consumers will ask. Consumers concern about their money in the electronic form; they have experiences with the existing ATMs, for instance, the Toronto Dominion Bank in Canada had its computer system crashed which paralyzed their electronic banking systems in October; customers could not get cash or do debit card purchases from 6:30 am to 8:30 pm. As consumers depend on computer systems more and more, more reliable computer systems are crucial. Security is also concerned by consumers. Will fraud be committed with the Mondex card? Would my money be intercepted when I am transferring from my bank account to the electronic wallet? "Mondex uses a system of digital signatures to ensure transactions are bona fide, however the transactions are sent in plaintext." [26]
Unfortunately, Ross Anderson, a lecturer at the Cambridge University's computer laboratory showed that it is possible to tamper the chip used in smart card; the chip is manufactured by the Dallas Semiconductor Corporation and "used in about one million point-of-sale terminals and other devices around the world." [27] Therefore, it shows the world that chips used in smart card are not tamper-proof, and reduces consumers' confidences in accepting the Mondex card. Mondex responded that they are "improving its technological defences more rapidly than scientists such as Anderson could devise attacks." [28]
Consumers who are unable to afford to have a credit or debit card such as low income consumers, children and students are looking forward to using smart cards. Since this technology does not require consumers to have a computer to transfer funds back and forth, they can reduce the possibility of losing the hard currency or being stolen. For people on the government assistance list, they can receive government benefits electronically through smart cards such as Mondex or Visa Cash; so that they would not have to pay a high service fee for cashing government cheques at banks. By holding the Mondex card, low wage consumers can make purchases with this new technology, and they are not left behind the emerging electronic commerce. [29]
Vendors have the same concerns of consumers. But, in addition, they also consider the charges that banks will ask when the pilot test is over. In Hong Kong, the Hongkong Bank group tells the merchants who sign up for the pilot test that the future charges on using the Mondex card will be lower than the charges for current electronic payment system named 'EPS' which is similar to the 'Interac' in Canada. [30]
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Will smart card be used in the illegal market? As Mondex card maintains user anonymity, would money laundering a issue that the government must attend to? Yes, with this smart card format electronic payment system, funds would be difficult to be traced; and criminals may use it as a channel for money laundering. In addition, given the nature of Mondex card, business transactions may be unrecorded in order to evade and avoid taxes. The reduction in tax revenues would be one of the indicators of the illegal activity level with Mondex cards. "But if large transfers of electronic money into bank accounts were reported to authorities, as is now the case for currency, electronic money would not necessarily present more opportunities for fraud than those that now exist with currency. It is possible, however, that value held on an extensive nonbank network (e.g. Mondex, Visa and Mastercard, etc.)could be readily moved to several remote locations and deposited in smaller amounts to avoid detection." [31]
Another government concern is counterfeiting. With the currency we are using today, advanced technologies in laser printing and photocopying can produce near perfect counterfeit currency. For Mondex cards, the government concerns about whether the chip on the card can be tampered, and the money stored in the chip can be counterfeited. If one card can be tampered, then the whole Mondex system would not work. Government would also like to know whether the current cryptographic techniques are good enough to prevent, detect and correct any counterfeiting consequences. [32]
The third concern of the smart card is what David Laster and John Wenninger described in their paper: Policy Issues Raised by Electronic Money. "When a bank issues electronic money, it debits the consumer's checking account and increase its liability for electronic money. In order to keep the offsetting decrease and increase in liabilities neutral with respect to the demand for reserves, the value for electronic money would need to be subject to the same reserve requirements as consumer transactions deposits. When the value outstanding is issued by a nonbank, however, the question changes because these issuers fall outside the regulatory framework for banks. Therefore, the liabilities of nonbank network operators would not be reservable, just as their liabilities would not be subject to deposit insurance." [33]
Nevertheless, in United States, the Republican Mike Castle would rather let the market decide what to do with the smart cards. He said that there are many universities issuing cash card to students; and students can use these smart cards to purchase food, books, parking and telephone charges on campuses. He believed that these students will get used to using this form of electronic money and will adapt to it when they enter the workforce; they will not keen on spending currency as we do now. [34]
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This paper has presented the financial institutions, consumers and vendors, and government perspectives on smart cards like Mondex. The question is: whether smart card like Mondex will replace our hard currency? The answer is not so clear at present as the implemention of these smart cards is still in an infant stage. In the short run, Mondex cards can be run parallel with the existing currency because Mondex mainly targets to small-value item purchases. Paper currency may be still needed in medium to large transactions. Mondex does not make such a claim to replace physical cash. "It points out that in the developed nations about 60% of all transactions are made in cash - so capturing even a small portion of that market will make the system a success." [35]
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For more information on security and encryption, please see concept papers written by:
Here are more links to the Mondex card subject matter:
Finance and Banking: Mondex
Launch of Mondex electronic cash system: news release
Mondex:Preparing for Electronic Commerce
Mondex Magazine
Mondex Home Page
Revolutionary Upstart Mondex Takes on King Cash
Royal Bank, CIBC Introducing Mondex Electronic Cash System To North America
The Mondex project - [Coopers & Lybrand in the UK]
Here are more links to Digital cash subject matter:
Overview of Electronic Payment Systems by Weiyu Chen
Cybercash
Digicash
CheckFree Corporation
Digital Cash
alt.culture: digital cash
Cyphernomicon 12.9: Legal Issues with Digital Cash
Cyphernomicon 12.10: Prospects for Digital Cash Use
Digital Cash and Monetary Freedom
Policy Issues Raised by Electronic Money
PowerPC News: BURN THOSE BANK NOTES - DIGITAL CASH IS COMING
Private Library - Finance
Tim Jones' Submission to the House of Representatives
[1] "In a silicon society, who will be king of electronic cash?" Bank Systems & Technology, May 1996, pp.72.
[2] Diogo Teixeira, "Revolutionary Upstart Mondex Takes on King Cash," September 30, 1994. Click here
[3] "In a silicon society, who will be king of electronic cash?" Bank Systems & Technology, May 1996, pp.72.
[4] Ibid.
[5] This is Cash, Swindon. Click here
[6] Lunt, Penny, "Mondex spreads its wings," ABA Banking Journal, February 1996, pp.50-54.
[7] Ibid.
[8] Ibid.
[9] "Small transactions face a change of heart," Banking World Hong Kong, September 1996, pp.14-15.
[10] Fung, Noel, "The stakes are high in the newest card game in town," Banking World Hong Kong, July 1996, pp.12.
[11] Launch of Mondex electronic cash system: news release. Click here
[12] Ibid.
[13] Blackwell, Richard, "Tests see whether Canadians will give up small change," The Financial Post, November 15 1996, pp.13.
[14] Fung, Noel, "Reaching for the 'Net," Banking World Hong Kong, January 1996, pp.12.
[15] Blackwell, Richard, "Tests see whether Canadians will give up small change," The Financial Post, November 15 1996, pp.13.
[16] The Hong Kong Economic Journal, November 19 1996.
[17] Fung, Noel, "Pilot scheme aims to make big business out of small change," Banking World Hong Kong, May 1996, pp. 21.
[18] Fung, Noel, "Reaching for the 'Net," Banking World Hong Kong, January 1996, pp.13.
[19] Ibid.
[20] The Hong Kong Economic Journal, November 19 1996.
[21] Teixeira, Diogo, "Revolutionary Upstart Mondex Takes on King Cash" Click here
[22] Ibid.
[23] Ibid.
[24] Ibid.
[25] Scroppo, Fina, "Canadian market to test electronic cash card," CA Magazine, June/July 1996, pp.8.
[26] "Burn those bank notes - Digital cash is coming," PowerPC News, July 22 1994. Click here
[27] Denton, Nicholas, "Academic cracks cash-card chips," The Financial Post, November 16 1996, pp.11.
[28] Ibid.
[29] Laster, David and Wenninger, John, "Policy Issues Raised by Electronic Money" Click here
[30] Fung, Noel, "The stakes are high in the newest card game in town," Banking World Hong Kong, July 1996, pp.12.
[31] Laster, David and Wenninger, John, "Policy Issues Raised by Electronic Money" Click here
[32] Ibid.
[33] Ibid.
[34] Koprowski, Gene, "Rep. Mike Castle on e-money: Let the market decide," Forbes, August 26 1996, pp.72.
[35] "Burn those bank notes - Digital cash is coming," PowerPC News, July 22 1994. Click here
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