AliPay’s ‘Closed System’ Is Biggest Reason for Regulatory Action; Too much money is moving around out of PBOC’s sight, economist says, and a problem would affect large number of people

03.26.2014 18:43

AliPay’s ‘Closed System’ Is Biggest Reason for Regulatory Action, Expert Says

Too much money is moving around out of PBOC’s sight, economist says, and a problem would affect large number of people

By staff reporters Zhang Yuzhe and Yang Lu
(Beijing) – The central bank’s recent moves to regulate third-party payment services including Alipay have been questioned by critics and run into a backlash from the public, but supporters say the regulator was only doing what is necessary to protect consumers and the market.

The bank is mainly concerned that the Alipay network has formed a closed system in which the flows of money largely fall outside its supervision, said Lin Caiyi, chief economist of brokerage firm Guotai & Junan Securities.

Money transfers between Alipay accounts, for example, only require updating account information with Alipay. The Industrial and Commercial Bank of China, where all the funds in Alipay accounts are kept, sees no changes, she said.

That means the banks and the regulator are blind to money transfers between Alipay accounts, she said. The problem is worse considering that many third-party payment accounts are not registered under a user’s real name, making it easier for money to be laundered and more difficult for regulators to trace capital flows, she said.

The central bank also worries about the opaqueness of transactions because the stakes are high, a bank executive said.

“A regular commercial enterprise goes bankrupt and that is the end of it,” he said. “But a payment company going bankrupt would affect thousands upon thousands of families.”

Innovation Vs. Rules

The central bank has approved more than 250 third-party payment companies since June 2011. Data shows that by the end of last year they had handled more than 19 billion transactions worth a total of 10.4 trillion yuan. More than 12 billion of those transactions – deals worth 3.5 trillion yuan – were made through Alipay, making it the No.1 third-party payment firm in both categories.

Tenpay, the payment service of social networking giant Tencent Holdings, is No. 2. It handled 2 billion transactions worth 1.5 trillion yuan. (Tencent Holdings holds a minority stake in Caixin.)

Alipay has also taken the lead in developing Internet investment services. It started offering Yu E Bao, a money market fund, in June. By March 19, Yu E Bao has received 547.7 billion yuan in investments from more than 81 million users, making the firm that manages the fund the biggest of its sort in the country. Tenpay introduced its own money market fund in December and received investments of nearly 40 billion yuan.

Most of those funds were taken from bank deposit accounts, which have much lower interest rates than the yields of investment funds. Banks have complained that the payment companies are skipping necessary risk precaution measures and making investment too tempting to those who may not have enough risk tolerance.

“The single biggest difference between banks and Internet companies is that the banks put security and rule compliance first,” an industry observer said. Net firms, on the other hand, will do whatever makes the user experience better.

A central banker agreed. Internet companies are naturally inclined to put efficiency and market share above rules and transaction security, he said, but added: “Innovation does not mean ignoring rules.”

Identity Crisis

In fact, the regulator became annoyed with Alipay when it learned last year that there were many unexplained large-sum transfers inside its system and that many accounts were registered under false names, a source close to the central bank said.

This threatens the central bank’s decade-long-efforts to push for the use of real names in financial activities and is the root cause for its recent moves tightening the regulation of all third-party payment companies, the source said.

It has told Alipay and WeChat, the Tencent messaging app that includes payment and investment functions, to delay issuing virtual credit cards, which the companies said can be issued by China Citic Bank to applicants within minutes, skipping the lengthy forms and waiting periods that conventional credit cards require.

This is dangerous because it is easy to fake an identity using a stolen ID card, which can be readily bought online, experts say. The country’s police are only beginning to grapple with the problem of identity theft. One major problem is that there is no way to tell whether an ID card is stolen.

That is why the central bank requires that all credit cards must be applied for in a bank, where the clerks can verify the applicant in person against the ID documents they present.

Many people apparently do not understand the risks involved and blame banks for making things more complicated than necessary, an executive of a third-party management company said.

But verifying a person’s identity and willingness and ability to repay is a crucial step in extending credit, an official with the central bank’s payment department said.

The way the virtual credit cards were designed weakened the links, he said. If other banks were to follow suit, it would be a race to the bottom with banks’ risk control standards falling quickly, he said.

The central bank did not mean to ban virtual credit cards for good, he added. With necessary improvements, they may still be able to hit the market, he said.

Thrown for a Loop

The bank has also required Alipay and WeChat to stop handling payments through QR codes – those blotches of black and white that can be scanned using a phone’s camera – due to security concerns. But critics say the rule favors China UnionPay, a state-backed company whose payment subsidiary directly competes with third-party payment companies both online and offline.

The restrictions the bank is mulling on the spending amounts a third-party payment account can handle and the amount that can be transferred between the accounts – 10,000 yuan every month for the former and 10,000 yuan a year for the latter – have also been very controversial, and some of the strongest opposing voices came from heavy Alipay users.

A central banker who participated in drafting the proposal defended the limits. He said that in Shanghai more than 60 percent of online shoppers spend less than 500 yuan on average a month, and 81 percent spent less than 12,000 yuan.

“We want a quota that suits the majority of online shoppers,” he said. “The monthly limit of 10,000 yuan did not just come off the top of my head.”

Third-party payment companies should focus on e-commerce and handle only small transactions, leaving the bigger ones to banks, the official said, but “Alipay does not want to stop at handling small payments.”

The draft also seeks to make capital flows between bank accounts and third-party payment accounts flow only one way – meaning that users cannot move the balance in their payment account back to the bank account the money came from.

This would discourage people from transferring more money to their payment account than needed for a transaction and thus reduce the amount of idle cash in Alipay accounts, analysts say.

The central bank wants to reduce the size of idle cash not only out of concerns regarding risk, but also because this pool of money tempts payment companies to go out of their ways to offer services before they can be proven safe, he said, citing virtual credit cards and the QR payment method as examples.

If the money in all payment companies’ accounts can be used one way or another inside the company’s own system, it would be circulating in a closed loop outside the market supervised by the central bank, the official said.

“This would have a significant impact on the monetary system,” he said. “The central bank has not encountered this problem before and it has to be cautious.”

But it does not mean the regulator is discriminating against any third-party payment company, the source close to the central bank said.

The bank just wants to separate payment with other services that should be left to banks with more rigorous risk control, he said. “If you want an all-in-one account, get a commercial bank license.”