Payments are broken, but nobody wants to talk about why

The payments industry is evolving. But evolving in a way that reveals some fundamental flaws. 

For all the talk of innovation—digital wallets, instant transfers, blockchain-based solutions—something remains deeply wrong at the core. Payments are riddled with friction, inefficiencies, and confusion. 

What should be seamless and invisible has instead become a web of bureaucracy and limitations. And yet, these issues are often brushed under the rug, dismissed as minor growing pains in the grand march toward technological progress.

Businesses, consumers, and financial institutions are all affected. Small merchants find themselves burdened by fees and delays that eat into already-thin margins. Consumers want fast and secure payments but are left dealing with a fragmented system that can feel anything but reliable. 

And financial institutions—supposedly the backbone of trust in transactions—are often themselves clinging to outdated infrastructure that can’t keep up with modern demands.

Why are payments broken?

Payments are a mess because they rely on legacy systems built for another time. These systems are aging. Despite the introduction of new technologies, we are still constrained by their limitations. Real-time payments are the goal, but most banks are playing catch-up.

The ACH network is one of the most glaring examples of these issues. Originally built to handle low-priority transfers, instant ACH transfers are now demanded for everything from payroll to high-value transactions. The infrastructure simply can't keep up. Outdated protocols and compatibility issues between banks mean that what should be simple often becomes overly complex. Consumers and businesses alike feel the strain as they wait hours or even days for their money.

The rolling reserve adds yet another layer of complexity to merchant relationships. In theory, it is a safety mechanism for processors and banks. In reality, it creates cash flow uncertainty for businesses. Small merchants often struggle to navigate this process, which is unnecessarily convoluted and can even push them out of business. 

These reserves are often held with little transparency, and merchants have to endure the uncertainty, which is compounded by inconsistent terms across payment processors. The process feels like an arbitrary roadblock rather than a legitimate risk management tool.

The failure of instant payments

Instant payments should be the ultimate convenience. But they’re not as simple as they seem. The survey by Payments Dive tells us that, even though instant payments are growing in popularity, the infrastructure isn't there yet. Too many hurdles prevent smooth adoption. The hurdles include technology, costs, and a lack of alignment among financial institutions.

Not all institutions are equally motivated to adopt instant payments. Legacy players often lack the incentive to overhaul infrastructure, particularly when short-term costs are high and the benefits are diffused across the industry rather than accruing solely to them. 

This creates a fragmented environment where some banks are ready for real-time transactions while others are not, leaving consumers and businesses with an inconsistent experience. Moreover, SWIFT continues to struggle with moving towards faster, real-time options globally, meaning international transactions often remain cumbersome and slow.

Bank failures and risk management

Recent bank failures highlight the fragility of the financial sector. When a bank fails, its customers suffer. Funds might be frozen, payment processes delayed, and confidence in the banking system shaken. The payments industry is tied directly to these institutions and inherits their vulnerabilities.

Rolling reserves have emerged as one of the tools to manage this risk. But this "solution" burdens merchants. It’s another example of how systemic issues trickle down to businesses, often without clear communication or adequate support.

Furthermore, the consequences extend far beyond the immediate freeze of assets. When banks fail, the entire ecosystem reacts, creating a domino effect. Small businesses that depend on timely payments may struggle to meet their financial obligations, leading to more widespread economic instability. In the aftermath, financial institutions may become even more risk-averse, implementing stricter controls like heightened rolling reserves or limiting access to funding for smaller players altogether.

The merchant's perspective

Merchants are caught in the middle. They’re dealing with rolling reserves, high processing fees, and archaic systems that limit their ability to provide modern customer experiences. High processing fees cut into margins and make it challenging for smaller players to compete. Merchants also face the challenge of fraudulent transactions and chargebacks, and dealing with chargebacks is both costly and time-consuming.

The cost of managing these chargebacks extends beyond the direct fees imposed by card networks. There is also the emotional toll on merchants who must navigate bureaucratic processes just to prove their case. 

Often, a successful chargeback hinges on details so granular that it’s nearly impossible for merchants to win without specialized help. Many small merchants simply can’t afford the time or resources to consistently fight these battles, and they are the ones who end up absorbing the cost.

The current system prioritizes large institutions over small businesses. The needs of independent merchants are often ignored, particularly by the big banks that dominate the payment infrastructure. Small merchants end up paying disproportionately, both in fees and in the complexity they have to deal with. This dynamic has led to calls for a more equitable payment infrastructure, one where smaller players aren’t punished for simply existing in the ecosystem.

A slow path to innovation

What makes this particularly frustrating is that payment technology is advancing, but these advancements aren't being used where they’re most needed. Banks and institutions are focusing on their own innovation at a pace that suits them, not at the speed businesses or consumers require. HighRadius explains how direct payment solutions are designed to be more efficient, yet adoption rates are sluggish.

For example, innovations such as tokenization offer enhanced security and could reduce fraud rates significantly. Yet, adoption lags due to the inertia inherent in large financial institutions. They may pay lip service to advancements but are hesitant to disrupt their existing cash cows. This is especially true when innovation necessitates collaboration across different parts of the ecosystem—from payment processors to financial technology startups.

The Reserve Demand Elasticity data paints a stark picture. This is not a system that's evolving with the needs of the economy. Rather, it’s an ecosystem that is resistant to change. Institutions prioritize stability for themselves, often at the cost of user experience and efficiency. This approach, while beneficial for the bottom line in the short term, undermines consumer and merchant confidence over time.

Innovation is also slowed by the legal and regulatory landscape. Regulatory uncertainty often discourages companies from investing heavily in new technology. Payment companies and banks fear that new regulations could suddenly shift, making their investments obsolete or forcing them into lengthy, costly compliance measures. As a result, the willingness to adopt new technology becomes conditional, limited to what can be executed without substantial risk of regulatory pushback.

Consumer trust and privacy

Consumers expect convenience. They want payments to be secure, fast, and invisible. They should not have to understand the intricate details of settlements, but when something goes wrong, they become painfully aware of the friction points in the payment system. Privacy concerns arise, too. As systems become more digital, the balance between convenience and privacy shifts. Most consumers aren't even aware of how their data gets used during each payment transaction.

Payments systems need to evolve not just to keep up with technological advances, but also to maintain consumer trust. Without transparency, consumers lose faith in how their payments are handled. For instance, when data breaches occur, consumers often don't get the full story. They're left wondering how secure their financial information really is and whether their payment data is being exploited for other purposes.

Payments and regulation

Payments regulation is often reactive rather than proactive. Governments and regulatory bodies respond to crises rather than lead. An example is the settlements with major tech companies that took too long to resolve. The implications for payment infrastructure were felt for months, if not years.

When things go wrong, merchants and consumers are usually left to deal with the fallout. Regulatory frameworks need to anticipate the needs of digital transactions and not merely react when failures happen. Consumer protections must be built into the system, not just added as an afterthought in times of crisis.

Regulatory bodies also struggle to keep up with technological advances. By the time legislation is enacted to address an issue, the technology has often already moved on, leaving laws that are ill-suited for modern applications. 

For example, faster payments initiatives have faced regulatory delays, while outdated laws have still imposed compliance requirements more suited to a cash-based economy. These inefficiencies leave room for financial institutions to exploit the ambiguities and delay adopting more efficient, consumer-friendly payment technologies.

The hidden complexities

There is also a lot of complexity that consumers never see. Consider something as basic as an online chargeback guide. While this might seem mundane, it highlights how convoluted the system is. Consumers are forced to navigate this when things go wrong, and this can be an overwhelming experience, especially for those who do not have a background in finance.

The complexity serves as a gatekeeper, effectively making it harder for laypeople to assert their rights when things go wrong. This reinforces a sense of powerlessness in consumers. The system is designed in such a way that resolving even simple disputes requires either financial expertise or the ability to hire one. Such barriers are detrimental to building a payment ecosystem that is accessible to all users.

What needs to change?

Payments are broken because of complexity, fragmentation, and inertia. Solutions are not being delivered where they’re most needed. The status quo benefits the biggest players and leaves small merchants and consumers in the dust. But modernizing payment infrastructure is not an insurmountable task. The technology is here; it's the will that’s missing.

We need fewer intermediaries and simpler processes. We need a payments system designed for the current economy—not one with stop-gap solutions to deal with a half-century-old framework. A modern infrastructure would remove the redundant layers that slow down payments and add unnecessary costs.

Direct payment services that reduce transaction layers and expedite cash flow must be adopted widely. Governments should step in and play a proactive role. Regulatory bodies must set clear, forward-looking frameworks that anticipate technological advancements and ensure equitable adoption. It’s time for these bodies to stop playing catch-up and start leading the change.

Merchant advocacy is also key. Merchants must collectively demand better terms, more transparency, and less red tape. Smaller merchants, especially, need to find a voice within the payments ecosystem. This could mean lobbying for regulatory changes that put their needs front and center, or leveraging technology to create a more equitable playing field.

It’s also worth mentioning that transparency is an essential part of building trust in the payments industry. Consumers and businesses must understand how payments work, why they are charged certain fees, and where the friction lies. Without transparency, it's impossible to have accountability.

Is there hope?

Yes, but only if there's a collective push from businesses, financial institutions, and regulators. Payment systems should work for everyone, not just for those with the most leverage or the deepest pockets. The good news is that there are signs of progress. Initiatives like tokenization aim to improve security. Faster payments are on the horizon, even if implementation has been slow.

The potential for innovation is real. Initiatives like direct pay solutions and the BNPL programs being integrated into existing payment systems show that there is room for improvement. However, it requires banks and other institutions to align their goals with consumer and merchant interests, rather than focusing solely on profit margins.

The onus is on financial institutions to think beyond their own profitability and to improve the infrastructure for everyone. Until then, we’re stuck with a payments system that’s clearly broken—and has been for far too long.

What can you do?

Stay informed. Be aware of the challenges and barriers that exist. If you're a business, keep pushing your payment providers for better service, lower fees, and greater transparency. As a consumer, ask questions. The more people demand better systems, the more likely we are to see change.

For now, though, we need to acknowledge a simple truth: payments are broken, and it’s about time we stopped pretending otherwise. Change is not only needed—it’s overdue. Let’s stop settling for the inadequate solutions that exist and push for a payment system that genuinely works for everyone.