The Fed’s instant processing service promises paychecks “within seconds”

Starting next year, a new service from the Federal Reserve will allow businesses and consumers to transfer payments almost instantly.

The service, FedNow, is designed to be a widely available alternative to similar private services. The Fed will charge participating financial institutions a $25 monthly fee. Senders will be charged about 5 cents per payment.

“You’ll no longer have to wait for stuff to clear over the weekend, for example. And if it’s really done right, you will be able to pay anybody, anywhere,” said James J. Angel, an associate professor at Georgetown University’s McDonough School of Business, who is “cautiously optimistic” about the initiative.

The U.S. payments system is slow and expensive, Angel said, accounting for between 1% and 3% of the national gross domestic product. Although the Fed’s “real-time” payments mechanism could bring down that hefty contribution, he sees challenges ahead.

“In order for it to be useful, you have to get more people to use it. And so the first challenge is acceptance. The second challenge is interoperability. In other words, if people are in one system, can they connect with another system?” Angel said. “And this is where the United States fails, big time. We do have a lot of instant payment services, they just don’t talk to each other.” 

Who will this help?

The current cost of payments is “a tax on every transaction,” Angel said, from credit card fees paid by merchants to costs associated with moving money around and processing payments. 

Members of Congress have been pushing for the Federal Reserve to create a payments system like FedNow for years. In 2019, concerned by the amount of time it could take for paychecks to appear in workers’ bank accounts, Democratic politicians introduced legislation to make it a requirement for the Fed.

Lawmakers then said that, without access to this kind of service, Americans had to resort to “costly financial products” or face late fees or overdraft fees. 

“People living paycheck-to-paycheck shouldn’t have to wait up to five days for a check to clear so that they can pay their rent, cover child care, or pick up groceries,” Sen. Warren said. 

A competitor to the big banks 

FedNow will compete with existing payment systems like debit card companies and automated clearing house networks, Angel said.

How much financial institutions will promote the system’s use remains to be seen; when you use your debit card, banks take a fee. Angel said the big banks that have already launched their own versions of a real-time payment system likely view the Fed’s as competition. 

“One of the reasons payment modernization has been so slow in the United States is the financial institutions don’t see it as a place to make money,” he said. “As far as they’re concerned, the slow, inefficient system is good enough.”

There’s mounting evidence that it’s not good enough for everybody. Jack Liebersohn, an assistant professor of economics at the University of California, Irvine, pointed out that FedNow is launching at a time when public interest in cryptocurrency is growing steadily. 

“One promise of cryptocurrencies is to make money transfers between people easier. And so this might reduce the appeal of that, going forward,” he said.

Liebersohn’s hoping that a system like this will lead to more innovation in payments.