16 Minutes on the News #5: Fed Real-time Payments, Death of Retail

0:00:05 Hi, everyone. Welcome to the A6&Z podcast. I’m Sonal, and this is our fifth episode
0:00:11 of 16 Minutes, our new news show, where we cover recent headlines of the week, the A6&Z
0:00:15 way, why they’re in the news, why they matter from our vantage point in tech, and share
0:00:19 our experts’ views on the trends involved as well. You can catch up on past episodes
0:00:25 at a6&z.com/16minutes or subscribe to it as a separate feed in your favorite podcast
0:00:30 player app. This week, we have two episodes, since we’ll be skipping next week. This episode
0:00:34 covers these two topics that came up in the news, a quick take on Barney’s filing for
0:00:40 bankruptcy and what that means in the context of the death of retail. But first, we go deeper
0:00:45 into the Federal Reserve announcing FedNow, which is a much bigger deal than it seems.
0:00:46 What, why, and how?
0:00:52 Okay, so the first segment this week covers some news that came out of the Federal Reserve,
0:00:56 which is that just this week, they announced that they are going to create something called
0:01:03 FedNow, a real-time payment service, so it would be open 24/7 days a week, that would
0:01:08 allow people to get access to their checks faster. And even though it was announced this
0:01:13 week, it actually is not out there in the wild yet. It aims to launch in a few years.
0:01:17 And just to give you some more context, this is really targeted for over half the population
0:01:21 who live paycheck to paycheck and need access to their money sooner. And right now, they’re
0:01:26 forced to pay a lot of late fees and overdraft fees. I mean, overdraft fees alone were $34
0:01:32 billion in just the last year alone. And of course, many big banks are lobbying to stop
0:01:37 this, and some of them have an alternative that they’ve proposed. Citibank, US Bank Corp,
0:01:43 and JP Morgan Chase have their own instant payment system, which was launched in 2017
0:01:47 and operated by Clearinghouse Payments. Now, let me introduce our expert, A-60s General
0:01:52 Partner, Angela Strange, who is on the Fintech team. Welcome, Angela.
0:01:54 Thank you. Happy to be here.
0:01:57 So let’s first talk about this news. Like, first of all, is it really news?
0:02:01 This is actually a very important announcement. So for the, you know, call it top half of
0:02:05 the population, like, from a personal day-to-day use, like, you probably don’t care. Like,
0:02:09 you use your credit card most of the time, you never hit zero in your bank balance. If
0:02:12 someone gives you a check and you’re waiting for it to clear, like, you probably don’t
0:02:17 notice if it clears in two days or four days. Like, that doesn’t matter. But for the other
0:02:22 half of the population, like, there’s more than 40% of Americans that don’t have $400
0:02:28 in savings. You’re living paycheck to paycheck. You care very, very much when funds hit your
0:02:33 bank account. And right now there are these totally unpredictable, untransparent delays.
0:02:38 Like, just for instance, your company decides to pay you and they send the notification
0:02:42 to the Federal Reserve. And if you’re a contractor and you’re getting paid by check, that check
0:02:46 could take two days to clear. If you’ve had a bunch of overdrafts in your account, it
0:02:50 could take seven days to clear. So everyone that lives like this is in their head doing
0:02:54 this juggling act of, okay, my paycheck is going to land in two days. I just put out
0:02:58 my rent check, but I posted for a few days. So maybe I can afford to pay my cell phone
0:03:02 bill. This check that I deposited, maybe that’s going to land. And oh, by the way, every time
0:03:07 you screw it up, it’s a $30 overdraft fee. Do you have this whole unpredictable juggling
0:03:11 act that every time you screw it up, it costs you money? And so I think we should very much
0:03:18 care because while this does sound like a nuanced regulatory issue, it’s probably the
0:03:21 biggest financial regressive tax that we have in the US.
0:03:25 Just for broader context, how does this compare to the rest of the world?
0:03:28 The UK’s had faster payments for the last 10 years. I heard somebody compare it to these
0:03:33 like, I’ve had 10 versions of the iPhone since faster payments came out in the UK and we
0:03:37 still don’t have in the US. It’s in Singapore and Canada and Mexico and so many, many, many
0:03:42 countries are just leap years ahead of the US. Now, if you look at what do the rails
0:03:46 look like in the US, obviously you’ve got Visa and MasterCard and they take a percentage
0:03:50 of transactions. Luckily, you’ve got all the peer-to-peer networks that have come out,
0:03:55 Venmo and SquareCache, and the likes and those actually operate fairly instantly, but they’re
0:03:57 using ACH.
0:03:58 What’s ACH again?
0:04:03 The Automated Clearing House. That’s basically what we have. And the best comparison I think
0:04:11 is comparing like ACH is snail mail to faster payments is email. And it’s literally almost
0:04:17 analogous. ACH batches all of the payments and this is great for banks because tiny payments,
0:04:21 small payments, it’s all sent off usually once per day. And the big innovation there
0:04:26 is, oh, sometimes we’ll batch them twice per day, which is a far cry from real-time payments.
0:04:31 Your point is that we might dismiss real-time as like a minor feature improvement if you
0:04:34 don’t really understand the scope of the problem, but actually if you do understand the scope
0:04:38 of the problem, this is extremely significant that you can actually go faster and current
0:04:39 technology is not serving it.
0:04:44 What’s interesting here, and you mentioned this, is that we actually do have a real-time
0:04:50 payment network of sorts in the US. So the 26 largest member banks own or are part of
0:04:55 an association called the Clearing House. And they launched real-time payments in 2017.
0:04:56 And why is that not working?
0:05:02 For it really to work, you need all 10,000 financial institutions on this network.
0:05:04 And that includes smaller banks?
0:05:09 Smaller banks, regional banks. If you think like who needs this most, it’s probably not
0:05:13 the people that are banking at the major parts of major banks. And this network does cover
0:05:21 50% of direct deposit accounts, but not broad enough. So then you ask, okay, so what’s stopping
0:05:25 all of the smaller banks from just joining the network? Because like definitely the Clearing
0:05:31 House wants everybody to get on board. And it’s two things. One, the Fed for a very
0:05:35 long time has been making noises that they are going to get into the real-time clearing
0:05:36 business.
0:05:37 Which they clearly just made a louder noise.
0:05:41 Which they clearly just did. And there’s a precedent. Like 40 plus years ago, they
0:05:46 got into the ACH business. So there’s actually two ACH networks. And the people that support
0:05:50 this say it’s good to have competition, and that this is such a critical service to the
0:05:55 nation that you would want not just a private network, you actually want the government involved.
0:06:00 So then if you’re a small bank, you’re like, okay, do I spend the expense to get involved
0:06:04 in this network? Well, I’m just going to wait to see what the Fed is going to do. And then
0:06:10 the other piece is just a lack of trust of joining a network operated by larger banks.
0:06:14 You’re like, well, am I going to get priced out of being able to do these real-time payments?
0:06:20 But the big policy debate is right now the Fed provides both a operational rule and a
0:06:25 regulatory rule. There are people arguing that just do the regulatory rule, and why don’t
0:06:30 you regulate that this technology run by the Clearinghouse that already exists can’t charge
0:06:35 exorbitant fees. You should regulate that everybody has to join. Like this technology
0:06:42 is already here. And so that could, if it was done, get this real-time network going
0:06:47 much faster than Fed now, which is now being called Fed five years from now because it’s
0:06:50 going to launch since 2023 and 2024.
0:06:54 When I hear that kind of conundrum of do you have them regulated or wait for it?
0:06:58 I’m sort of wondering, why would we do either? Why aren’t there other alternative technologies
0:07:01 that can solve this problem? I want to know where tech comes in in this.
0:07:05 You need both the technology, but the harder piece to do is you need to get everybody to
0:07:11 participate in this network. They should figure out a regulatory framework to get more people
0:07:15 on the technology that already exists and get this problem that we’re talking about
0:07:22 that penalizes half of our population fixed faster while also building their network. Could
0:07:29 a new startup come in and create a new real-time rail? Not in the same way because what the
0:07:33 real-time rail is saying they’re going to do is interconnect the 10,000 financial Fed
0:07:38 reserve institutions together. So we do have things like peer-to-peer networks, and this
0:07:42 is where PayPal and Venmo and those come in, but that’s very different from, I bank at
0:07:47 Community Bank in Kansas, and I need to have my checks clear immediately.
0:07:52 And so what FinTechs are doing is they’re figuring out how to solve point problems that
0:07:58 are very, very valuable to consumers. So for instance, if you’re living paycheck to paycheck,
0:08:03 you are watching by the hour when your paycheck lands. And what most people don’t know is
0:08:08 that banks are holding on to their paychecks or not delivering them as fast as possible.
0:08:13 So for instance, your bank will get the notification that your employer has told the Federal Reserve
0:08:18 that they’re going to pay you X dollars. Those X dollars won’t land in your bank account
0:08:23 for another two days usually. So there’s a startup that can see that is your bank and
0:08:29 they can see that your employer has said, “Hey, pay Sonal $500 and they’ll give you $500
0:08:33 immediately. You don’t have to wait two days.” Even beyond that, you could argue that if
0:08:39 you’re working eight hours a day at Panera Bread, for instance, it is somewhat anachronistic
0:08:43 that you can only get paid on the first of the month and the 15th of the month, even though
0:08:46 you’re earning eight hours times your hourly wage every single day.
0:08:49 If I’ve worked four days of that week and therefore I should be able to get paid at
0:08:50 least those four days.
0:08:52 Or if there was no cost in payments, like why aren’t you just getting paid at the end
0:08:53 of every day?
0:08:54 That’s a good question.
0:08:59 Exactly. So the reason that’s not the case is infrastructure. So startups like Ernin
0:09:04 are enabling people to get access to money that they’ve already earned in a much more
0:09:05 frequent manner.
0:09:08 So that was super helpful for understanding the nature of the problem. Tell me a little
0:09:11 bit more about why the Fed is even involved with checks in the first place, because every
0:09:15 time we talk about the Federal Reserve and checks, I’m so confused at why this cannot
0:09:18 just be handled at whoever holds the money is where the money comes. Why is there even
0:09:22 this player involved? I don’t know how a check is cashed.
0:09:27 So the Fed is involved in regulating most aspects of payments. Let’s say I write you
0:09:33 a check and I have $0 in my bank account. If your bank gave you that money, then they
0:09:37 would then pull it back from you and the whole system would just be a mess. So someone needs
0:09:42 to make sure it’s called good funds are actually available on both sides. And so it is for the
0:09:48 protection of both consumers across the side. The problem is that this system was invented
0:09:53 literally back in the days when people wrote checks and you would have to mail them to like
0:09:56 a previous instance to the institution where they were coming from to make sure that you
0:10:00 could actually check that the funds existed and then send it back. And so just the infrastructure
0:10:04 has not progressed to where it should today technology is today, like the big innovation
0:10:07 on checks is, you know, that bar at the bottom where now they can be electronically led and
0:10:11 you can, you can send it back and forth, at least the checks electronically, but we’ve
0:10:13 got a long, like we can progress a long way from there.
0:10:18 Okay. So that’s great, Angela, super helpful context. So bottom line it for me. How should
0:10:22 we think about this recent news announcement about Fed now? Or as you said, Fed five years
0:10:24 from now, how should we think about it?
0:10:33 I think we should be excited and push towards our industry making a much faster move towards
0:10:37 real time payments. And I think if the broader population really understood who this was
0:10:42 affecting most, which is the more than half the population that live paycheck to paycheck,
0:10:48 there would be more pressure on either banks to join the existing network and the existing
0:10:53 network to behave well and treat everybody fairly. And for the Fed, if they decide to
0:10:58 go their direction to move as quickly as possible, while also maybe regulating faster participation
0:11:02 in the existing network such that we can, to be honest, catch up with the rest of the
0:11:03 world who’s been here for over a decade.
0:11:06 Thank you, Angela, for joining this segment.
0:11:07 Thank you for having me.
0:11:12 Okay. Our next segment on 16 minutes on the news is about the death of retail, given the
0:11:19 news that iconic retailer Barney’s filed for Chapter 11 bankruptcy this past week. So just
0:11:23 to give the specifics and quickly summarize what the news is, Barney’s plans to close
0:11:28 15 of its 22 locations, which means it then only has seven remaining stores, including
0:11:32 its flagship on Madison Avenue. Barney’s, and this is what makes it even sadder, is
0:11:37 that it’s been around since the Great Depression and they were pioneers for trends such as
0:11:43 relaxed suits and menswear. So by bringing Armani to the U.S., putting perfumes in the
0:11:47 back of the store instead of in the front of the store and most iconic of all, building
0:11:51 windows instead of covering walls with extra racks. So these are some of the things that
0:11:55 Barney’s has done. And Barney’s has actually filed for Chapter 11 bankruptcy before in
0:12:00 1996, when they fell out with some of their investors. But this year’s filing is due to
0:12:06 higher rent, obviously, more online retail shopping and direct-to-consumer marketing,
0:12:12 all of which are connected to tech. So now, let me introduce our A6NZ expert, Jeff Jordan,
0:12:16 general partner, managing partner, and a deep expert on all of this. Welcome, Jeff.
0:12:20 Thanks. It was great to be here. So you’re the person I want to tell me how to think
0:12:23 about this news. Like, is this more of the same? Is it something new?
0:12:28 I mean, I should point out that Barney is also a dinosaur. And unfortunately, the offline
0:12:32 retail, a lot of them are dinosaurs. I mean, actually, I first started blogging about this
0:12:39 and I went back and looked today, 2012, about e-commerce, taking chair and being advantaged
0:12:46 over offline commerce. And so there’s just been a steady drumbeat of bankruptcies, restructuring,
0:12:49 closings. And unfortunately, I don’t think it’s going to stop.
0:12:50 Really?
0:12:51 I think it’s long.
0:12:54 I thought Barney’s had a chance because in this world of e-commerce, a lot of these
0:12:59 physical stores would have a really special role to play, especially in showrooming and
0:13:04 being able to really have a customer experience. And the trend is more now towards experiences.
0:13:05 So why Barney?
0:13:11 What retail chains, physical retail chains are really highly leveraged. They take enormous
0:13:17 amounts of capital and they have enormous, basically fixed costs, rents of fixed costs,
0:13:23 inventory is a quasi-fixed cost. And if sales start declining, they can go from profitable
0:13:27 to unprofitable extraordinarily quickly. And I actually watched this happen at the Disney
0:13:32 stores. When I was there, Disney stores were minting money. And then they did a different
0:13:37 strategy. The top line went down 5, 10% and they started hemorrhaging money.
0:13:39 But it wasn’t because of online or it was just a different strategy?
0:13:43 That was a different strategy. That for me was self-inflicted. New management came in
0:13:49 and tried a different strategy that didn’t really work. Just the 5, 10% change in the
0:13:54 top line made the chain go from profitable to unprofitable. So as e-commerce nibbles
0:14:01 away at share, all the stores in aggregate lose a little bit of sales and at some point
0:14:03 they just become unviable.
0:14:07 The flexibility and opportunity that software-based companies have is that they don’t have the
0:14:11 legacy of fixed costs, which is the dinosaur around the neck, the albatross around the
0:14:12 neck.
0:14:17 Yeah. I mean, now e-commerce has other problems, which is largely showrooming also happens
0:14:24 off online. If you want to price shop, you can price shop. And then competition for the
0:14:31 same consumer and that window shopping caps the opportunity for online players to recharge
0:14:32 a lot.
0:14:38 So one of the most baffling things is that there are only a few true winners in e-commerce
0:14:42 in the United States, but no one’s making money. They’re just all competing for the
0:14:44 same consumer with essentially the same product.
0:14:47 So nothing works? Is there any place where it does work?
0:14:53 So grocery is the largest single category of U.S. retail, more than apparel, more than
0:14:59 personal care, things like that. And it had historically been completely immune to digitization.
0:15:05 So Webvan was the iconic failure of trying to do groceries electronically. The big difference
0:15:10 in groceries is the inventory is better served being close to the consumer. And so what
0:15:14 grocery chains are essentially are distributed warehouses.
0:15:21 Physical grocery is a way to combine kind of a hybrid, both offline and online, helping
0:15:27 the grocery chains around the world deliver to people in their area. Fred Smith famously
0:15:32 said when the internet came, he didn’t think groceries could be delivered through the internet
0:15:38 because you put your eggs in a truck and it bounces around all day and it comes 10 hours
0:15:41 later or whatever. That doesn’t work. It does work if it’s the grocery down the street.
0:15:45 Okay. So bottom line it for me. How should we be thinking about all of this news that
0:15:49 the retail people have been talking about it for years? On one hand, I see lots of lots
0:15:53 of cars in the parking lot and all the malls. On the other hand, I see news of bankruptcy
0:15:56 and I also see a lot of internet shopping going on.
0:16:01 What you’re seeing is the best malls and the best stores continue to thrive. Now all the
0:16:06 marginal chains and the marginal malls are closing. I did a blog post years ago about
0:16:11 the demalling of America because if all the stores dies, the malls end up dying. And my
0:16:15 favorite quote was a REIT owner who said we’re not real estate investment trust. Yeah, real
0:16:19 estate investment trust. He goes, we’re not over-building malls. We’re just under demolished.
0:16:23 Malls are being repurposed. They’re either being torn down or they’re being repurposed
0:16:28 into town centers, but yeah, that’s changing. In a previous episode, we talked about how
0:16:32 eSports are now taking over certain malls. So who knows what the future here is. Yeah,
0:16:37 it could be. Yeah, that’s Stanford eSports Center. Thank you for joining, Jeff. It’s
0:16:38 a pleasure. Thank you.
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