Transferring money may not seem too complex. After all, it only takes a few seconds to set up an electronic bank transfer or swipe a debit card. Improvements in digital technology make all kinds of transactions faster and simpler. However, in reality, digitization has made it increasingly complicated to transfer funds. As more customers and businesses rely on virtual payments, banks need new ways to safely send non-physical assets.
To provide secure and seamless digital transfers, financial institutions now rely on networks called payment rails. Recent estimates suggest billions of yearly transactions occur, totaling trillions of dollars on popular payment rails such as an automated clearing house (ACH). So what are payment rails, and why are they so significant in today's financial system?
Payment rails are virtual networks that connect financial institutions. Banks, card issuers, and fintech companies use payment rails to transfer digital funds between multiple accounts. While every payment rail has unique regulations, most use a centralized system of checks and balances to verify each transaction. Once both banks receive info for deposit and credit requests on a payment rail, they issue the appropriate payments.
Although payment rails handle the literal transfer of funds, they also send vital information to relevant authorities. For instance, when you swipe a credit card at a grocery store, the payment instructions need to pass through the card issuer’s bank and the merchant’s bank address. The credit card processor records these transactions in its ledger once they’ve cleared the network.
All payment rails are designed to transfer money from point A to point B. However, not every payment rail follows the same protocols. There are dozens of payment rails to choose from, each of which has different pros and cons.
Each payment rail is optimized for a different set of circumstances. Some of these networks are built with international laws in mind, while others focus on offering the fastest transaction speeds. Businesses, governments, and customers need to review a few key factors when choosing the right payment rail for their transfer.
There’s debate over whether physical cash should be considered a payment rail. Since today’s rail networks are closely associated with digital transfers, cash doesn’t fit the standard image of a payment rail. However, exchanging physical cash has the same function as a payment rail (i.e., to transfer money from point A to point B). In fact, since cash is the most liquid asset, using physical cash as a payment rail offers the fastest transaction finality.
On the contrary, unlike the payment rails mentioned above, physical cash transfers aren’t recorded on a centralized bank ledger. Once cash leaves the bank, it’s virtually untraceable. For this reason, cash remains the preferred method in money laundering, totaling roughly $800 billion to $2 trillion annually.
Cryptocurrencies like Bitcoin (BTC) and Ethereum (ETH) use blockchain technology as their payment rails. Unlike all other rail networks, blockchain doesn’t rely on a central authority. Instead, cryptocurrencies use a decentralized network of “nodes” that validate and post transactions on a publicly viewable ledger.
Each blockchain uses unique algorithms to make this possible, but the two primary methods are proof-of-work (PoW) and proof-of-stake (PoS).
A benefit of using crypto payment rails versus other methods is that the former is open 24/7 for peer-to-peer trading. Many cryptocurrencies also offer fast finality and relatively low fees. Plus, since no centralized organizations control cryptos, they’re naturally censorship-resistant.
However, there are potential drawbacks to using crypto payment rails. For instance, using crypto wallets requires a higher learning curve than sending cash through networks such as SWIFT or ACH. Crypto is prone to volatile price swings, hacks, and scams. Also, some nations like China have banned crypto transfers.
Without the infrastructure that payment rails provide, it would be impossible to safely transfer digital funds. Whether a domestic ACH deposit or a long-distance SWIFT transfer, these rail networks make it simple to transfer funds electronically. Plus, thanks to the innovations in blockchain technology, cryptocurrencies offer a decentralized payment rail alternative.
At Worldcoin, we believe blockchain will become a dominant payment rail in the future economy. To ensure everyone can access the crypto revolution, we’re airdropping DAI stablecoins to anyone who downloads our app. Subscribe to our YouTube channel to learn more.