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Updated on Friday, May 29, 2020
FedNow is a proposed real-time gross settlement (RTGS) service intended to speed up payments for everyone. Essentially, it will serve as a faster alternative to the payment systems we know today — the automated clearing house (ACH), debit cards, checks and wire transfers.
First announced in August 2019, FedNow is targeted to go live in 2023 or 2024.
How FedNow will work
FedNow will operate 24 hours a day, seven days a week, 365 days a year. This will cut out the usual waiting period of three to five business days for your payments to go through.
Here’s how the proposed FedNow payment system will work:
- You, as the sender, will make your payments like you usually would with your bank. Your bank will then take that information and send it through the FedNow Service.
- FedNow then acts as an intermediary between institutions. It will confirm that you and your recipient’s information is valid before pushing the payment through to your recipient’s institution.
- Once the payment’s information is settled between both banks, the payment can be cleared to move to the recipient’s bank, and finally to the recipient’s own bank account.
In its early days, payments through FedNow will be limited to $25,000. FedNow will offer the capability to add descriptive information to a payment to denote remittances or invoices, for example, in compliance with an ISO® 20022 standard (an internationally agreed-upon standard platform for the development of online messages).
How FedNow can help our payments system
For many Americans, waiting a few days for an online payment to clear is a mere inconvenience. But for the millions of Americans who live paycheck to paycheck, days-long waits for payments can be financially disastrous. FedNow is designed to help level the payments playing field.
A real-time payments system would better serve Americans living paycheck to paycheck. A recent MagnifyMoney survey found that 53% of Americans live paycheck to paycheck, which means they don’t have any money left over after all of their expenses are paid.
When these populations are forced to wait for their paycheck or bill payment to clear, it’s not just an inconvenience — it can mean waiting several days to buy essentials or charging purchases to a credit card. Missed bill payments also often lead to more fees and interest payments, digging a deeper financial rut. FedNow could eliminate this dangerous lag in payments.
Small businesses could also benefit from a real-time payments system, as it would allow them to avoid short-term financing options, which are often unnecessarily costly.
With faster payments, FedNow could potentially bring people back to traditional banking. In 2017, the FDIC found that 8.4 million American households were unbanked, meaning they don’t have a checking or savings account. An additional 24.2 million households were underbanked, meaning they had an account at a traditional institution, but also used outside services like money orders or payday loans. A common reasoning for their unbanked status was that banks don’t offer the needed products or services and carry high fees.
These unbanked and underbanked populations could feel safer and more supported with real-time payments. With a lower risk of missed payments, fees could also be less of a concern.
A real-time payments system would also prove invaluable in times of crisis. For example, during social distancing amid the coronavirus pandemic, online and cashless payments became king. Such a system would have offered a significant boost, especially when it came to sending out economic impact payments to American taxpayers. Instead of waiting weeks — or even months — for paper stimulus checks to arrive in the mail Americans could have received some financial relief immediately.
Why the Federal Reserve is stepping up to create FedNow
Effectively, the Fed is stepping in sooner rather than later to create a safe and secure model before a private — and inherently exclusive — real-time payment service pops up.
The Fed is already connected to over 10,000 U.S. institutions, which it can — and will — use to implement FedNow on a large scale. This makes it possible to provide equal service to banks both big and small. The Fed’s widespread reach simply couldn’t be mimicked by private institutions, like through a new payments app, for example.
Additionally, a privately funded and run RTGS runs the risk of being too exclusive, rather than acting as a nationwide solution available for all Americans. For example, if a big bank created a monopoly over real-time payments, that feature may be available only to that bank’s customers. The Fed, as a government institution, can ensure fairer implementation.
Supporters also believe that FedNow could set the benchmark for an RTGS, one that other institutions can learn from and improve upon. A big ask of the Fed while creating this program is for it to maintain an openness to foster competition between institutions instead of removing it.
The response to FedNow
A widespread real-time payments system is unprecedented in the U.S.; however, Europe, Mexico and Australia already have their own real-time interbank payment systems in place. With so many players (big banks, small banks, consumers, the government and the Fed itself) involved, everyone has an idea of how FedNow should — and shouldn’t — go.
For one, the U.S. House Committee on Financial Services Task Force on Financial Technology has criticized FedNow’s low $25,000 limit and its long-term timeline, but on the whole is supportive of the Fed taking action towards an RTGS.
Small banks acknowledge that they stand to benefit greatly from a Federal Reserve-led RTGS, as they could be left behind if private monopolies created the system instead. Tech companies have weighed in, too, although they’ve been more focused on the opportunity FedNow can provide to private ventures. Executives at companies like TransferWise and Google have expressed their support for the Fed taking the lead on the project, and have pushed for a system that’s inclusive for both companies and consumers.