May 21, 2007

Tap and Grow? The Case for Contactless Payments

David Evans and Richard Schmalensee have been writing about the economics of interchange fees for a number of years. When I ran into their blog I was curious to see their ideas on other topics. A recent blog post links to a presentation by Evans titled, “Tap and Grow? The Case for Contactless Payments in the US”.

Evans shows that contactless is not growing fast enough to produce enough value for sustainable market adoption. He points out that between 2004 and 2006, analyst firm Jupiter Research had to severely cut their forecast for contactless cards. In their most recent report (US Contactless Payments, 2006) Jupiter foresees 37 million contactless bank cards in the US in 2007 and 72 million in 2008. Their earlier report (Proximity Payments, 2004) predicted 6 times as many cards this year.

The main problem is that contactless does not provide enough of an incentive for merchants. Evans presents this formula:

[little benefit for purchases > $25]
+ [not enough consumers with contactless cards]
+ [a very long timeline until enough consumers have cards]
= Not enough incentive to install contactless readers

UNLESS … there’s a killer app that drives consumer and merchant adoption.

He then talks about several potential killer apps, such as closed loop transport cards like Hong Kong's Octopus and mobile wallet phones like Japan's NTT DoCoMo. I don’t totally agree with his analysis on the relevance of these projects to most other markets, but the thought process is certainly useful and thought provoking.

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