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Understanding the Most Common Payment Schemes
There are two different concepts that people often use interchangeably.
One is a Payment Scheme, and the other is a Payment System (also called a Payment Rail). Most people think both are the same, but they are not.
I always prefer to look at these two terms in the following way because it gives me better clarity.
Payment Scheme
A Payment Scheme is a set of rules and guidelines for processing a payment transaction. These guidelines can be for Instant Payments, RTGS payments, ACH payments, or Cross Border payments.
There is a central authority that determines how a payment should be executed, what kind of data is required, and other aspects of payment processing. This central authority can be the Central Bank of a country or another entity specifically designated to govern the payment scheme.
All participating banks must follow these guidelines and generate payment messages that comply with them before sending the messages to the payment system. If there are any errors or deviations, the payment system will reject those messages.
Payment System / Payment Rail
A Payment System, Payment Rail, or Payment Market Infrastructure is commonly referred to as a Clearing and Settlement Mechanism (CSM) in many domestic payment schemes.
These are software infrastructures that process payments within the interbank payment network based on the guidelines defined by the payment scheme.
These systems are designed to validate every payment message against the rules and regulations defined by the payment scheme.
If a bank sends a payment message that deviates from those guidelines, the payment system identifies the issue and rejects the message.
More rejected payments mean more loss for the bank in terms of reputation and business.
How?
Think about this for a moment.
Would you like to continue using a bank if many of your payments keep failing?
The role of a CSM is much broader than what I have described here, and it varies from one payment scheme to another.
However, in this blog, the goal is simply to understand the difference between a Payment Scheme and a Payment System (Payment Rail).
Think of it this way:
A Payment Scheme is like the traffic rules created by the government.
A Payment System is like the road infrastructure and traffic signals that enforce those rules.
Without traffic rules, roads become chaotic.
Without roads, no use for the traffic rules.
Both are essential for smooth transportation, just like payment processing.
Common Payment Schemes Around the World
Almost every country has four major payment schemes to cater to different payment requirements.
- Real Time Gross Settlement (RTGS)
- Instant Payments
- ACH Payments
- Cross Border Payments
Each of these payment schemes has its own characteristics.
If you are entering the Payments domain, it is important to understand these characteristics because you may be asked to work on the payment scheme of any country. Fortunately, the core characteristics remain almost the same across most countries.
- Real Time Gross Settlement (RTGS)
- High-value payment system
- Settlement happens in gross mode
- Individual transaction processing
- Beneficiary receives money almost immediately
- High liquidity requirement
- Higher transaction fee
- Instant Payments
- Low-value payment system
- Settlement happens in gross mode or deferred net settlement
- Individual transaction processing
- Beneficiary receives money almost immediately
- Lower liquidity requirement
- Low or no transaction fee, depending on the bank
- ACH Payments
- Low-value payment system
- Settlement happens in net mode
- Batch or file-based processing
- Beneficiary receives money anywhere between 30 minutes and 3 days
- Lower liquidity requirement
- Low or no transaction fee, depending on the bank
- Cross Border Payments
- Generally used for high-value payments involving different countries and currencies
- Settlement happens through correspondent banking relationships
- Individual transaction processing
- Beneficiary receives money anywhere from a few hours to a few days
- Foreign currency is involved
- Higher transaction fee along with foreign exchange charges
In the upcoming blogs, we will explore each of these payment schemes in much more detail.
