Yi-An (Ann) Lai
Alipay is a third-party online and mobile payment platform, founded in Hangzhou, China in 2004. Its rise in popularity in relation to the existing banking system is closely associated with disintermediation. The proliferation of smartphone and mobile payments has transformed Alipay from the original intention of simply facilitating e-commerce for individuals, to wider financial investment financial use. In China, financial institutions acting as intermediaries have gradually lost their significance in the payment cycle of monetary transaction. Traditional banks are now faced with the challenges of capital and technical disintermediation.
Capital disintermediation is when the consumer accesses the capital market directly to carry out investments. This leads to a ‘financial transactional bypass scenario’ where state-owned commercial banks are leaning towards a position of reduced risks involved with wealth management service and mutual fund business. As a result, state-owned banks are forced to innovate due to the unprecedented challenges posed by e-payment systems.
Alipay removes intermediaries and reduces financial transaction costs. Alipay uses the full-scale financial services offered by the Ant Financial Services Group, such as money market (Yu’e Bao), insurance (Zhong An), credit rating (Sesame Credit, also known as Zhima Credit), and personal credit limits (Ant Micro Loan).As a direct consequence of Ant Financial’s involvement, more Chinese consumers are choosing Yu’e Bao as a virtual wallet for their savings, rather than hold money in bank accounts. Sesame Credit enrols users into its new National Credit System through consumer transactional data. In China, Sesame Credit has now grown into a political and social scoring system. As a result, even more consumers, companies and institutions are part of this credit system.
The functions of a financial intermediary, such as China UnionPay, are becoming obsolete. Before the rise of Alipay, all inter-bank transactions, either online or offline, would have had to go through UnionPay, which is an association of China’s bank card sector. The traditional cash flow was that funds charged from a consumer’s issuing bank account would be directed to UnionPay, then UnionPay would handle further settlement and clearing with the procuring bank. UnionPay charges different processing fees for each transaction on its platform depending on sector.
UnionPay’s monopoly of facilitating inter-bank transactions is being challenged. By opening bank accounts with several banks, Alipay can perform inter-bank clearing and settlement all by itself. Cash flow under this scheme would be the movement of funds between a consumer’s bank account and Alipay’s bank account. With Alipay’s wide banking network, inter-bank transactions has been cut to a single transaction, eliminating UnionPay’s role in the entire process.
WITH ITS GIANT CAPITAL POOL FOR INVESTMENTS, COULD ALIPAY BE CONSIDERED A BANK AND THEREFORE BE SUBJECT TO REGULATION?
According to the Law on Commercial Banks, ‘no entity or individual may engage in absorbing public deposits or other businesses of a commercial bank.’’ It could therefore be considered as a denial to the legality of Alipay’s position to take in public deposits and run such banking services transaction settlements. On the contrary, such scope should fall under commercial banks and other professional institutions. However, if online transactions are carried out by financial institutions, they will undoubtedly add to the workload and cause delays. The banks cannot promise to match Alipay’s efficiency.
To address the above concerns, the central bank, People’s Bank of China (PBOC), has issued a series of notices on the separation of customer funds, and created a new clearing organisation for online transactions routed by third-party payment institutions such as Alipay. The NetsUnion Clearing Corporation (NUCC) was established by the Payment and Clearing Association of China and is in charge of clearing online transactions routed from third-party payment institutions nationwide.
As third-party payment institutions bypassed UnionPay as the clearing house by setting up deposit accounts with various banks, with the establishment of the NUCC, each transaction from these third-party payment institution needs to be sent to the NUCC for clearing, which, in turn has direct connections with different banks. Once funds arrive from the banks, the NUCC settles with the payment institutions accordingly.
Transactions are settled without a centralised clearing system such as UnionPay. Relying on the sophisticated existing network with various banks, third-party payment institutions are not only able to take on the role of technical payment gateway, but also the roles of clearing and settlement. By eliminating an intermediary, this has reduced the cost of the whole process. However, with this model, third-party payment institutions have mixed up their roles as ‘participant’ and ‘moderator’ which has created serious challenges in terms of regulatory oversight, financial stability and fair competition.
CHALLENGES TO REGULATORY OVERSIGHT
Under the electronic transaction process of payment structure in China, payment providers such as Alipay have established an extensive network of channels to serve its clients globally. Electronic payment providers are in the position to have full control on the flow of the funds, while transactions may be completed without disclosing any details of the nature of the transaction or the details of the transacting parties. This lack of transparency would undoubtedly incentivise criminal activity such as money laundering and tax evasion. Although self-regulation is always an option, considering the cost and potential adverse impact to business, the adequacy of self-regulation could be questionable. Since payment institutions are collecting consumer data, while executing transactions without regulatory oversight, data protection is also a serious concern.
CHALLENGES TO FINANCIAL STABILITY
Payments from card holders are processed in real time, but the settlement time between payment institutions and merchants is usually delayed. This means that payment institutions are able to keep large amounts of unused consumer funds in their own accounts. Fund reserves in transit are an important revenue source for many third-party payment institutions as the interest rate generated from consumer funds can be as high as four per cent. However, this leads to two potentials issues for financial stability:
• when third-party payment institutions are able to gather large amounts of funds, they would have greater bargaining power over banks, as the latter are competing to win business from these major players. In fact, there has been concerns that to retain those large accounts from third-party payment companies, banks might offer them preferential treatment and relaxed monitoring. Any breach or criminal activities into the system could be major and consequential; and
• since third-party payment institutions are able to earn significant amounts of profit from transactional funds through reinvestment, instead of focusing and improving their products and services, third party payment providers are incentivised to focus on advertising and marketing, to increase their portfolio leading to larger reserve transactional funds, therefore gaining additional profits.
On 4 August 2017 the PBOC issued its ‘Notice on Non-bank Payment Organisation Network Payment Operations Shifting from the Direct Model to China NetsUnion Platform Handling’. All third-party payment institutions had to complete migration and connection to the NUCC by 15 October 2017 and, starting from 30 June 2018, all transactions were to be processed and cleared via NUCC.
Apart from launching the NUCC, another PBOC policy initiative was to gradually lower the amount of unused consumer funds kept by third-party payment institutions. Institutions were first asked to keep at least 20 per cent of unused consumer funds in a special non-interest producing bank account. The required percentage increased to 50 per cent in 2018 and from January 2019, all unused funds must be kept in a separate account. This tightened regulatory environment gradually blocked a revenue channel for third-party payment companies.
CHALLENGES ALIPAY ANTICIPATES IN OVERSEAS EXPANSION
In China, Alipay does not have a separate acquirer. The key advantage of being an acquirer is that Alipay can have access to a large pool of capital to invest consumers’ money in money-market funds. Customers with Yu’E Bao have the ability to use and withdraw the money on demand – like current accounts – as well as earning returns on the monies deposited in the Yu’E Bao. It is precisely this feature which makes Alipay so attractive to Chinese consumers. This model allows Alipay to give consumers annualised returns of between four and seven per cent, with interest being paid to the consumer’s Alipay account on a daily basis.
What is unique about Alipay is that it operates somewhere between an ‘internet company, a bank and a payment platform’. Ant Financial has created a business model where regulators have to take real-time reactive measures.
In regards to new financial service developments. It is foreseeable not only that Alipay will be subjected to e-payment regulations overseas, it will also be subjected to investment fund regulations and potentially banking regulations as well.
Using Singapore as an example, foreign financial regulatory institutions deciding whether or not to authorise Alipay’s operations in Singapore would also have to take into account policy concerns. Currently, Alipay in Singapore does not provide the Yu’E Bao service nor does it invest its customers’ monies saved in e-wallets in the money markets. Alipay’s Yu’E Bao functions as a ‘collective investment scheme’ (CIS). A CIS is an arrangement where participants do not have day-to-day control over the management of their property, and the property is managed as a whole or on behalf of a manager and the contributions of their participants. Profits or income out of which payments are to be made to the participants is pooled.
Regulations under the Securities and Futures Act govern the establishment and operation of CIS. If a fund falls within a specific category of CIS it must comply with the requirements of that CIS Code. The Financial Advisers Act would also apply to Alipay for disposing such an instrument. The relevant regulatory body would be the foreign financial regulatory institutions. As Alipay is constituted in China, foreign financial regulatory institutions must recognise Alipay’s CIS. An application would need to be made to foreign financial regulatory institutions for such recognition. Alipay needs to ensure that the investment guidelines it adheres to in China are similar to that of the CIS Code, otherwise foreign financial regulatory institutions will not recognise the CIS. A prospectus that complies with the Securities and Futures Authority (SFA) must be issued and sent to foreign financial regulatory institutions for approval. Once foreign financial regulatory institutions have recognised the CIS it can be marketed freely to retail investors.
POLICY CONSIDERATIONS FOR FOREIGN AUTHORITIES
The objective of foreign financial regulatory authorities is to adapt e-payments as well as maintain public trust without disruption to the monetary, financial and retail investment markets. Given banks are defined as the ‘business of receiving money on current or deposit account, paying and collecting cheques drawn by or paid in by customers, the making of advances to customers.’ If Alipay maintains a substantive daily float and explicitly seeks users’ consent to invest this cash balance in instrument qualified as CIS, but without offering cash withdrawal and cash advancement services, then foreign financial regulatory institutions will not regulate Alipay as a full-fledged online virtual bank. Instead they will regard it as a major payment institution providing an ‘account issuance service’. There are therefore risk mitigation measures in place in anticipation of Yu’e Bao offering CIS via opt-in.
CHALLENGES TO FAIR COMPETITION
Foreign financial regulatory institutions are likely to take a cautious and calculated approach to Alipay. By not trying to become an international bank, Alipay is creating all the enabling infrastructure to power payment service provider companies worldwide. This avoids Alipay being overly regulated as a fully-fledged commercial bank.
ALIPAY: A LITTLE ANT TAKING ON THE MIGHTY BANKS
While it may appear that foreign financial regulatory institutions seemingly only react to overreaching behaviour in the financial markets after it occurs, this may in fact be the correct way for regulators to act. The market should be allowed to operate freely and self-regulate as much as possible. Regulators should then only step in if the market falls, and is subsequently unable to adjust for solutions and remedies. Regulators have to act in a temperate way, always looking closely at empirical evidence and challenging contemporary views.
 For a definition of ‘financial intermediary’, see Investopedia, https://www.investopedia.com/terms/f/financialintermediary.asp.
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 ‘Ant Financial Consumer Lending Reaches $95 Billion’, Bloomberg News, 12 March 2018, available at: https://www.bloomberg.com/news/articles/2018-03-12/ant-financial-consumer-lending-is-said-to-reach-95-billion, last accessed 6 January 2020.
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 UnionPay, also known as China UnionPay or by its abbreviation, CUP or UPI, is a Chinese financial services corporation based in Shanghai, China. It provides bank card services and a major card scheme in mainland China.
 中國商业银行法, Law of the People’s Republic of China on Commercial Banks, (2015 Amendment).
 Article 11 states that the establishment of a commercial bank shall be subject to the examination and approval of the banking regulatory organ of the State Council. 第十一条:设立商业银行，应当经国务 院银行业监督管理机构审查批准。 No entity or individual may engage in absorbing public deposits or other businesses of a commercial bank, nor shall any entity use the word ‘bank’ in its name without the approval of the banking regulatory organ of the State Council.
 The NetsUnion Clearing Corporation (NUCC) (网联清算有限公司) is the operator of China’s nationwide centralised platform for the processing of online transactions undertaken by third-party payment providers involving bank accounts.
 China Fund News, ‘The central bank urgently notified the payment giant to lie down and make money, the days are gone’ Sina News (4 December 2018), http://news.sina.com.cn/c/2018-12-04/doc-ihprknvs9152815.shtml.
 The People’s Bank of China is the central bank of the People’s Republic of China responsible for carrying out monetary policy and regulation of financial institutions in mainland China, as determined by People’s Bank Law and Commercial Bank Law.
 Notice of the Payment and Settlement Department of the People’s Bank of China on Migration of Non-bank Payment Institutions’ Online Payment Services from Direct Connect Mode to the Network Link Platform for Processing
 Notice on the Relevant Work on the Cancellation of RMB Reserve Accounts by Payment Institutions
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 Singapore Securities and Futures Act (Cap 289), Revised Edition 2006, section 2(1).
 Ibid, section 287(1),
 Singapore Statutes Office, Securities and Futures (Offers of Investments) (Collective Investment Schemes) Regulations 2005, regulation 10B.
 Ibid, regulation 11.
 Singapore Banking Act (Cap 19), Revised Edition 2008, section 2.
 Mobile wallets such as GrabPay, Singtel Dash, and Alipay cannot hold more than $5,000 at any point in time, and their users cannot transfer more than $30,000 per year to accounts other than the user’s designated bank accounts.
 ‘Monetary Authority of Singapore Issues Second Consultation on Payments Regulatory Framework, Introduces New Payment Services Bill’, Sidley, 11 December 2017, available at https://www.sidley.com/en/insights/newsupdates/2017/12/proposed-singapore-payment-services-bill, last accessed 6 January 2020.
 Foreign financial regulatory institutions conduct annual stress tests of all major financial institutions in Singapore to assess the resilience of individual institutions and the financial system as a whole to adverse macroeconomic and financial shocks (Monetary Authority of Singapore, ‘Financial Stability Review: (Box D) Top-Down Stress Test 2018: Leveraging on Granular Housing Loan Data’, at pp35-37, November 2018.). The 2018 stress test results underlined the banking system’s ability to withstand severe shocks. All banks remained solvent, with their Capital Adequacy Requirements (CARs) well above Basel regulatory requirements for stress scenarios. Singapore’s banks also had sufficient liquidity buffers to meet anticipated cash outflows under the prescribed stress conditions. The introduction of an e-wallet operator Alipay is unlikely to have systemic shock in Singapore.
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