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«July 2012 THE WORLD BANK Acknowledgements The preparation of this paper was led by the Financial Inclusion Practice of the World Bank. Lead author is ...»

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Consumer protection and financial literacy In a non-cash retail payment there are multiple consumer–provider relationships. A noncash retail payment transaction involves a payer and a payee, both of which are consuming the services offered by their payment service provider. In turn, such service providers might be availing themselves of services from other service providers. Hence, in the context of retail payments, the term consumer is used to mean all consumers in all these scenarios. For example, when discussing card payments, the cardholder and the merchant are both consumers and similarly if the issuer avails itself of services from a payment network then the latter is also a consumer.

In general, it has been observed that consumer protection, transparency and dispute resolution for service arrangements between institutional customers are typically handled adequately bilaterally as both the entities are sophisticated and have the necessary skills to protect their interests. This, however, is usually not the case for relationships where either one of the parties is an individual or small business, as imbalances of information, resources, and power are generally on the side of financial institutions or other service providers.

Consumer protection attempts to redress those imbalances by giving individuals clear and complete information on which to make informed decisions, by prohibiting financial institutions from engaging in unfair or deceptive practices, and by providing adequate mechanisms to resolve disputes between individuals and financial institutions. There are a variety of disputes that can arise in the provision of retail payment services; broadly

speaking they can be categorized into:

 Incorrect processing of payment instructions in terms of the amount or recipient or perhaps even when it was processed;

 Fraud liability – the liability of customer for fraudulent activities on his account resulting in a direct or indirect loss to the customer; and  Disputes on operational service standards.

Consumers who are empowered with information and basic rights—and who are aware of their rights and responsibilities—provide an important source of market discipline to the financial sector, encouraging financial institutions to compete by offering better products and services rather than by taking advantage of poorly informed consumers.

Financial literacy is a complement to consumer protection, because it helps consumers understand the information and make risk/return choices that optimize their financial wealth.

Consumer protection also improves governance of financial institutions. By strengthening transparency in the delivery of financial services and accountability of financial firms, consumer protection helps build demand for good governance of the sector and the strengthening of business standards. In addition, consumer protection and financial literacy help promote the deepening of the retail financial sector, attracting first-time consumers to access financial services and building public trust in financial institutions. Therefore, consumer protection and financial literacy promote efficiency, transparency, and deepening of retail financial markets.53According to PSDG experience, competition policy alone does not fully address consumer protection issues on its own.54 Issues specific to payment cards Payment cards are associated with a range of fees that are charged to the cardholder (payer) and to the merchant (payee). A card issuer may charge cardholders an annual fee, penalty fees and other transaction specific fees.55 In addition, the merchant is also subject to a range of fees by the acquiring bank such as merchant service fees (MSF), account maintenance fees, penalty fees and other transaction-specific fees.56 There are several issues with respect to transparency and consumer protection related to these

fees from a cardholder‘s perspective:

 Awareness about these fees;

 Having a good understanding about the scenarios in which these fees are charged;

 Having adequate assistance and support to avoid the specific scenarios in which the exceptional fees get charged;

 Receiving adequate notice of any changes to the fees; and  Changes having no retroactive effect (e.g. increase in revolving rate not being applicable to balances being carried forward from the past).

From a merchant‘s perspective, the transparency and consumer protection issues are more related to a clear understanding of when and how the merchant will get paid for the transaction, the schedule of fees, how the fees payable are calculated, and the specific procedures the merchants needs to follow and the records he needs to keep to have guaranteed settlement for a transaction.

World Bank Publication 2010 – ―Good Practices for Consumer Protection and Financial Literacy in Europe and Central Asia: A Diagnostic Tool‖.

For additional discussion on this specific issue see Armstrong, "Interactions between Competition and Consumer Policy", Competition Policy International, Volume 4, Number 1, 2008.

Annual fees are like a subscription fee to be paid to retain the privilege of using the card. Revolving fees are specific to credit cards and are paid on the balance carried over (revolved) by the cardholder from a billing cycle to another. This is typically a percentage rate and expressed as an Annual Percentage Rate (APR). There are a range of penalty fees associated with cardholders that are typically applied on occurrence of specific events such as late payment, short payment, etc. There is also a range of transactionspecific fees that are typically applied for specific transactions like cash withdrawals, requesting a duplicate copy of a statement, or in the case of prepaid cards, charges may be applied for transactions like loading money, closing the card account and so forth.

The MSF is the fee paid per transaction by the merchant to the acquiring bank, usually structured as a combination of a fixed fee and a percentage of the transaction amount. The MSF comprises the interchange fee, which therefore constitutes a floor to the level of the MSF.

In addition to the two interactions of cardholder-issuer and merchant-acquirer, there are other sets of interactions for payment cards. Transparency and adequate consumer protection is important for these interactions as well. The most relevant ones are: issueracquirer, issuer-payment network and acquirer-payment network. Given that these interactions are between institutions, the traditional transparency and consumer protection issues appear less relevant at a first glance. However, certain aspects of these interactions have been widely debated and are areas that have seen several regulatory interventions, primarily because these aspects have been widely believed to influence the fees for the cardholder-issuer interactions, and the acquirer-merchant interactions. These aspects are discussed in detail in the section on market structure.

Issues specific to EFT-based products EFT credit payments by nature are deferred payments; the payer needs to receive a confirmation about receipt of the payment request, as well as successful processing of the payment. The payer would clearly be in need of information pertaining to: when the payee would be paid, the exact amount that will get paid to the payee, and finally the process for addressing any delays in the processing of this payment request.

Increasingly, in many systems the payer has a choice of receiving the confirmations through various channels. In the absence of a confirmation being received, the payer would have to use other means such as contacting the payee to confirm receipt of payments.

EFT debit payments are again deferred payments. The payer should receive both a confirmation that an attempt would be made to collect the payment from his/her account on a specified date and also the status of the debit. Erroneous execution, inadequate balance in account due to some other unexpected payout from account and other operational issues could result in the payment being unsuccessful. The impact of such an unsuccessful payment could be beyond the underlying transaction.

EFT debit payments are often used for recurring payments. A payer should be able to cancel the general mandate he has given to the payee to charge his account. Moreover, whenever there is a discrepancy on the amount actually debited from the payer‘s account, he should be able to reverse the transaction and get reimbursed even before an investigation is initiated. Ability to easily cancel a recurring payment instruction from a designated future date is also an important consumer protection feature.

A payee needs adequate protection for his interest, as well, for unsuccessful payments.

In many countries, bouncing of a cheque is deemed an offense and there are stipulated penalties for the payer. Absence of similar protection for ACH debit payments could make them unsuitable for a broad range of payment needs.

Issues specific to innovative payment mechanisms Prepaid mechanisms, including prepaid cards, have a range of costs associated with them: initial sign-up fee, account maintenance fee, cash load fee, cash withdrawal fee, balance inquiry fee, and other transaction and event-specific fees, particularly for redemption. The sign-up process for innovative schemes is often handled remotely or at locations of an agent of the entity operating the scheme. Ensuring all the details about these fees are communicated clearly to the subscriber in this remote channel is critical.

Extensive use of agents also brings in the challenge of ensuring uniform quality, transparency and reliability of service.

The dispute resolution and consumer protection measures for many innovative mechanisms might not be formally specified. Traditional payment mechanisms are typically managed by banks, and are in general closely associated with their banking business. Given this, the consumer protection measures available for typical banking services get extended to such traditional mechanisms. However, in the case of innovative payment mechanisms, the payment mechanisms are often offered by nonbanking entities, or when offered by banks they are typically kept separate from their traditional banking business. These make the consumer protections mechanisms applicable to traditional payment mechanisms unlikely to apply for the innovative mechanisms.

Possible Actions Creating minimum standards related to transparency and consumer protection: These should be applicable to all providers of retail payment services. These standards could be explicitly enforced in the form of a law, regulation or guideline or where appropriate through an implicit enforcement through self-regulatory mechanisms. In some cases, the usage of a service mark to identify those organizations that are compliant with the standards defined in this area has been an effective strategy to inform consumers in a very practical way.

Developing simplified procedures for dispute resolution: Ombudsman57 services are becoming increasingly common for industries like insurance and general banking services. Extending these services to payment services regardless of whether or not the service provider is a bank could provide the consumers an easy, reliable, and costeffective mechanism to resolve disputes that could not be resolved bilaterally with the service provider. Figures 4 and 5 capture statistics on the types of disputes related to retail payment products and prevalent mode of disputes resolution for financial services.

For a detailed discussion on banking ombudsman see Thomas and Frizon 2012.), Resolving disputes between consumers and financial businesses: Fundamentals for a financial ombudsman, January 2012 Source: Financial Access CGAP and World Bank 2010.

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Encourage creation of databases to enable easy comparison of costs: Having access to reliable, comparable, and consumer-friendly information about the various payment products enables the payers and payees to choose the one that meets their needs most effectively. As previously discussed, there are many different pricing elements for a payment product, which could make comparing payment products difficult. However it is possible to create some indicators based on standard concepts that could enable

making some preliminary comparisons. Some of the key indicators include:

 Account opening fees;

 Account maintenance fees/monthly fees;

 Per transaction fee paid by payer/payee;

 Account inquiry fees;

 Account closing fees; and  Interest rate charged and method of computation, where credit is provided.

The World Bank has developed a price database for international remittances (see Box 6). Some of the key concepts underlying this price database may be used for other retail payments as well.59 Some central banks have already developed price databases for domestic retail payment services. See for example Banco de Mexico‘s database on maximum fees and surcharges for payment services as determined by service providers, and the calculator for current account fees, available at www.banxico.org.mx/sistemas-de-pago/sistemas-pago-servicios.html.

Box 7: The World Bank Remittances Price Database

The World Bank Group's Financial Sector Strategy of March 2007 set as a goal the reduction of remittance costs, and called for the creation of a Remittance Prices Database. The World Bank launched the remittance prices database in March 2008 – remittanceprices.worldbank.org. It has been continually upgraded, and is updated every six months; the most recent update was done in October 2011. Currently, the database covers 213 "country corridors" worldwide. The corridors studied comprise 31 major remittance sending countries to 91 receiving countries, representing more than 60 percent of total remittances to developing countries. In most cases, data was captured from the main sending location/area to the capital city or most populous city in the receiving market.

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