Trump-proofing Canada means ditching MasterCard and Visa

We're all busy doing our best to boycott U.S. products. I can't buy Special K cereal anymore, because it's made in the U.S. by Kellogg's. But I'm still buying Shreddies, which is made in Niagara Falls, Ontario. Even that's a grey area, since Shreddies is owned by Post, a big American company. Should I be boycotting it? Probably. However, the disturbing thing is that I'm paying for my carefully-curated basket of Canadian groceries with my MasterCard.

If we really want to avoid U.S. products, we can't just vet the things we are buying. We also need to be careful about how we are doing our buying. Our Canadian credit cards are basically made-in-U.S. goods. They rely on the U.S-based Visa or MasterCard networks for processing. Each credit card transaction you make generates a few cents in revenue for these two American mega-corporations. It doesn't sound like much, but when multiplied by millions of Canadians using their cards every day, it adds up. Vigilant Canadians shouldn't be using them.

Canadians who want to boycott American card networks have two options. Go back to paying with cash, which is 100% Canadian. Or transact with your debit card. Debit card transactions are routed via the made-in-Canada Interac debit network.*

We're lucky to have a domestic debit card option. Our European friends are in a worse position, since many European countries (Poland, Sweden, the Netherlands, Finland, and Austria) are entirely reliant on MasterCard and Visa for both debit and credit card transactions. 

Unfortunately, going back to debit cards means doing without all of the consumer protection that credit cards offer in an online environment. Worse, you're giving up your credit card rewards or cash back. If you don't pay with your 2% cash back credit card, for instance, and use your debit card instead, which doesn't offer a reward, you're effectively losing out on $2 for every $100 you spend. This should illustrate to you, I hope, the golden shackles imposed on us by our U.S.-based credit cards. It's fairly easy to replace your American-grown tomatoes with Mexican ones or your U.S.-made car with a Japanese car. But networks, which tend towards monopolization, are not so easy to bypass.

Which gets us into the meatier issue of national sovereignty. The difficulty we all face boycotting the MasterCard and Visa networks reveals how Canada has let itself become over-reliant on these critical pieces of U.S financial infrastructure. My fear is that our neighbour's political leadership is only going to fall further into authoritarianism and belligerence, eventually making a play to slowly annex Canada—not by invasion, but by "Canshluss". If so, this will involve using our dependencies on U.S. systems, including the card networks, to extract concessions from us. "Canada, if you don't do x for me," says Trump in 2026, "we're TURNING OFF all your credit cards!" 

In anticipation, we need to remove this particular financial dependency, quick. We're already safe when it comes to debit cards; we've got Interac. But we need the same independence for our credit cards. More specifically, we need to pursue an end-goal in which all Canadian credit cards are "co-badged". That means our credit cards would be able to use both the Visa/Mastercard card networks and Interac (or, if Interac can't be repurposed for credit cards, some other yet-to-be-built domestic credit card network). With co-badging, if your credit card payment can't be executed by Visa because of a Trump freeze order, at least the Canadian network will still process it.

This is how the French card system works. While much of Europe suffers from a massive dependency on MasterCard and Visa, France is unique in having built a 100% French card solution. The local Carte Bancaire (CB) network can process both French debit card transactions, like Interac can, but goes one step further by also handling French credit card purchases. Before paying for their groceries with a card, French card holders get to choose which network to use, the local one or the international one.

THIS IS WHAT CANADA NEEDS: This French credit card, issued by Credite Agricole, is co-badged with the domestic Carte Bancaire (CB) network and the international MasterCard network. When incidents occur on one route (CB, for instance), traffic is automatically routed to the back-up route, MasterCard, and vice versa. I think that a Canadian solution to the Trump problem would look something like this French CB card.

The incoming Carney government should move to co-sponsor a CB-style domestic credit card network along with the big banks (perhaps a simple upgrade to Interac will do?). All Canadian financial institutions that issue credit cards would be required to co-badge them so that Canadians can connect to this new network as well as Visa or MasterCard. Even if annexation never actually occurs, at least we've got a more robust card system in place to deal with outages arising from hacking or natural disasters.

Along with France, we can take inspiration from India, which introduced their Visa/MasterCard alternative, Rupay, in 2012. Thirteen years later, RuPay is now a genuine competitor with the American card networks. I can't believe I'm saying this, but we can also use Russia as a model, which was entirely dependent on Visa and MasterCard for card payments until it deployed its Mir card network in 2016—in the nick of time before Visa and MasterCard cut ties in 2022.

Europe will have to push harder, too. The EU has been trying to rid itself of its Visa and MasterCard addiction for over a decade now, without much luck. Its first attempt, the Euro Alliance of Payment Schemes, was abandoned in 2013.  (In fact, one of the reasons the European Central Bank is exploring its own digital currency is to provide an alternative to the American card networks.) As Canada builds out its own domestic credit card workaround, we can learn from the European mistakes.

The U.S. is no longer a clear friend. Boycotting U.S. products is one thing. But if we truly want to reduce the external threat, we need to build our own card infrastructure—before it's too late.

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* In-person debit payments are processed by the Interac network. However, online debit card transactions default to the Visa or MasterCard networks. While Interac does allow for online purchases, many retailers don't offer the option, and when they do, the checkout process requires the user to log into their online banking, which is more of a hassle than using a card.

Zelle vs Interac e-Transfer, or why it's so difficult to kickstart a payments network in the U.S.

It's difficult to grow a payments product to universality in the United States, and that's partly due to the fact that the U.S. has a stunning 4,127 banks, 4,760 federal credit unions, and 579 savings & thrifts institutions, for a total of 9,466 depository institutions.*

Let's compare that to Canada. The rule of ten applies to most Canadian/U.S. comparisons. That is, the U.S. has around 10 times the population, so to get Canadian equivalents just divide by ten. (For example, there are 13,515 McDonald's restaurants in the U.S. Meanwhile, Canada has 1,363. That's almost perfectly in-line with the rule of ten's prediction.)

The rule of ten suggests that if the U.S. has 9,466 depository institutions, then Canada should have 946. But that isn't the case. Canada has 81 regulated banks and around 208 credit unions, for a total of just 289 depositories. (I am counting the 213 credit unions belonging to the Desjardins co-operative federation as one entity.)**

The rule of ten particularly fails with respect to banks. Canada has just 81 banks, not 412 as suggested by the rule. Banks are more influential than credit unions because they tend to be much larger.

So why is this data relevant to payments? A payments network is really only useful if it has a lot of participants on it, but a lot of participants aren't going to be on it in the first place if it isn't useful. That's the chicken-and-egg problem of payments networks.

To solve the chicken-and-egg problem, it helps to have a few large actors – a vanguard – commit to using the network at the outset, which kickstarts its usefulness, and then everyone else gets dragged into joining up. Voila, universal payments.

When you've got 9,466 depository institutions, it's hard to build a strong vanguard group in order to drive quick adoption of a new payments network.

Take The Clearing House's Real-Time Payments (RTP) network, for instance, a U.S. payments network which was launched in 2017. Out of the U.S.'s 9,466 depositories, RTP has attracted just 285 participating institutions, effectively limiting RTP's reach to 65% of all U.S. checking accounts. (The 65% number is from RTP's website.)*** That's not bad, but it's not great.

Another example is Zelle, a U.S. bank-owned person-to-person payments network that was introduced in 2017. By 2021, Zelle boasted 1,700 banks and credit unions on its bank-to-bank payments network. That's better than RTP, but according to Zelle, this still only represented 74%, or 577 million of all U.S. checking accounts, in 2021. (As of early 2023, Zelle reports having 1,900 financial institutions on its network, so it probably now connects 75-80% of all U.S. checking accounts.)

In Canada's case, with just 81 banks and 208 credit unions, it's much easier to build a vanguard group to drive a payments network forward.

For instance, Interac e-Transfer is the Canadian equivalent to Zelle, providing instant person-to-person transfers via bank and credit unions. As of 2023, Interac e-Transfer has 250 participating banks and credit unions. (It lists Desjardin Group, a federation of 213 credit unions, as a single entity). That's almost all of Canada's 289 depositories, and effectively 100% of all Canadian chequing accounts. That's ubiquity for you.

Admittedly, Interac e-Transfer has been around a lot longer than Zelle and RTP, having debuted in 2003, and so it has had more time to spread into all the cracks. (I wrote about Canada's big head start in instant payments a few years ago.) But even at the outset of the adoption process, e-Transfer enjoyed buy-in from Canada's five biggest banks (Royal, TD, Scotiabank, CIBC, and Bank of Montreal), which together owned 86% of all Canadian banking assets at year-end 2003. That's a huge vanguard group. The chart below, which uses 2022 data, gives a good feel for how significant this is.

I made this chart to show how diffuse the U.S. banking system is compared to the Canadian one.

The assets of the top-6 🇺🇸 banks represent a much smaller proportion of total banking assets than the top-6 🇨🇦 banks. pic.twitter.com/87sd1p0kqd

— John Paul Koning (@jp_koning) April 24, 2023

The above chart also illustrates how small any U.S.-equivalent vanguard group will ever be. Zelle's 2017 group of 30 first-adopters may have seemed large on the face of it. After all, it included America's largest banks: JP Morgan Chase, Bank of America, Wells Fargo, Citibank, US Bank, PNC, and Capital One. Yet this vanguard still only constituted 52% of total U.S. banking assets, much less than the 86% committed to Interac e-Transfer on day one.

The diffuse nature of U.S. banking (and the concentrated nature of Canadian banking) will play into the upcoming launches of FedNow and Real-Time Rail (RTR), two instant retail payments system belonging to the Federal Reserve and Bank of Canada, respectively. I'd expect RTR usage to amp up quickly, given that Canada's big-5 banks will likely help sponsor it. FedNow adoption will lag. It's just not that easy to get 9,466 institutions on the same page.

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* Number of US banks and savings/thrifts is from FDIC. Data on credit unions is from the NCUA
** Number of Canadian banks is from OSFI. Number of credit unions is from CCUA
*** A tweet where I list my data source for RTP data

The vandalization of "bitcoin accepted" signs

[Here's an article I wrote for CoinDesk's recent Payments Week series.]

Why We Need Crypto Payments to Work

Crypto has always held out the promise of a payments revolution. But that revolution never happened.

We're 13 years into the Bitcoin age, and there’s only one store in my neighborhood in downtown Montreal that advertises that it accepts bitcoin. I was passing by that store the other day and noticed that a vandal had crossed out the bright orange ₿ written on the storefront, adding a "non" in protest.

Why? The vandal didn't provide us with more information. But if I had to guess it probably had to do with their opinions on the environmental implications of bitcoin's security method, proof-of-work. Proof-of-work requires huge amounts of electricity, and in an age of global warming there's no place for such an awesome display of energy consumption.

This small example is illustrative of the crypto payments challenge. It's tough enough for crypto to gain acceptance as a payments network. The medium’s inherent volatility and novelty are huge hurdles. Add to that concerns about crypto’s effect on the environment, and getting the payments ball rolling becomes even more of a challenge.

But even normies who don't care about crypto should want it to succeed as a payments medium.

Cash is rapidly disappearing as a payment medium. The big winners are the Visa and MasterCard card oligopolies. Every time someone deserts cash, the card networks get a little more powerful. As consumers we don't often notice the few cents that the card networks extract from us when we pay with our debit or credit cards, but it leads to fantastic profits for them. Visa and MasterCard's returns on equity – 40% and 120% respectively – give testament to their wide oligopolistic moats. (The average company's return is a meager 10-15%).

There are a number of solutions to oligopolies, one of them being competition. If there are more payment networks fighting for market share, we consumers (and the retailers we frequent) can at least choose the cheapest one.

And that's why it would be nice if crypto worked for payments.

Alas, crypto usage has been mostly confined to the relatively small confines of the speculative crypto economy, only leaking out once in a while to serve as a normie payments medium. These leaks may be slowly plugging up, too. Over the last year or so, activists have been trying to push the small advance that crypto has achieved in the payments realm into retreat.

My neighborhood store is just one example. The storekeeper's internal dialogue might have gone after seeing their store window vandalized: "Why bother accepting the odd bitcoin payment when it attracts such negative attention?"

Last month, hundreds of long-time Wikipedia editors asked the Wikimedia Foundation to stop accepting cryptocurrency, the most popular reason put forth being its environmental sustainability. A few months before, Discord – a popular messaging platform – quashed rumors of a cryptocurrency integration after pushback from users concerned over energy use.

The Wikipedia editors' vehemence stands in contrast to the tiny amount of crypto that Wikimedia has collected. According to Wikimedia, just 0.08% of its donations have been in crypto, mostly bitcoin. The Wikimedia Foundation has little reason to say no to the activists. At 0.08%, crypto isn't proving to be very useful for accepting payments. Why bother pushing back?

Had the activists campaigned for Wikimedia to stop accepting Visa, for instance, it'd be a complete non-starter. Visa has an advantage over crypto. It’s already big, likely accounting for a decisive percentage of Wikimedia donations.

That you can’t say no to Visa, but you can say no to crypto, illustrates the crypto payments dilemma. Retail payments networks are notoriously difficult to bootstrap. It's the classic chicken-and-egg problem. For an individual to adopt it, a new payment option needs to be already useful (by being widely available and spendable at shops), but it can't be already useful if no one wants to try it in the first place.

Making this paradox worse is that the card networks already have firm footholds. People have grown used to their plastic, and the incumbents use dirty tricks to enforce lock-in, like card reward points and no-surcharge policies. The nut is made even harder to break by crypto's incredible volatility. Risk-averse new users are reluctant to try it.

But the crypto world has evolved a response to volatility. Stablecoins are a type of cryptocurrency that is pegged to traditional fiat money, which makes them less intimidating for people to use. And so where regular crypto comes short, stablecoins at least stand a fighting chance against the MasterCard and Visa oligopolies.

Unfortunately, stablecoins are built on energy-intensive proof-of-work blockchains, which opens them up to the growing environmental critique. Given the already difficult chicken-egg payments problem being faced by stablecoin issuers, the last thing they need is for card users to come up with one more excuse not to give stablecoins a try.

Mozilla's recent reappraisal of its crypto acceptance policy provides a good example of how I hope the debate evolves. In January, Mozilla – the nonprofit organization that makes the Firefox web browser – decided to temporarily pause cryptocurrency donations to see how crypto "fits with our climate goals."

This month Mozilla announced its new policy. Rather than closing the door on crypto, it came up with a more nuanced solution. Mozilla won’t accept proof-of-work coins, but it'll accept proof-of-stake cryptocurrencies it sees as "less energy intensive."

If Mozilla's more welcoming policy is emulated, and one hopes it is, it offers stablecoin issuers a window. But this window comes at a price. If stablecoins are ever going to compete in a meaningful way with the card networks, they need to dissociate themselves from proof-of-work. That may mean avoiding expansion to proof-of-work blockchains. At the worst, it means helplessly waiting while the proof-of-work chains on which they already exist, like Ethereum, switch over to less energy intensive security methods.

Removing as much ammunition as possible from critics will make the already difficult chicken-and-egg payments problem a little easier for stablecoins to solve. We need them to win, though. Visa and MasterCard aren't getting any less dominant.

A CBDC, eh?

David Andolfatto recently wrote a helpful article about whether Canada needs a central bank digital currency, or CBDC. I agree with David that a CBDC is "not an essential initiative at this point in time."

The way I see it, there are two big elephants in the room when it comes to introducing a central bank digital currency. Both of them suggest we should slow down any effort to issue CBDC.

But before I get to that, what is a CBDC? In brief, a CBDC is a new payments option that would allow regular Canadians to interact digitally with our nation's central bank, the Bank of Canada. For example, instead of having to use your Royal Bank account or Visa card to buy stuff at the supermarket or on Amazon, you could pay with a central bank digital tool, perhaps a Bank of Canada app or card. The Bank of Canada has been exploring whether the idea of issuing a CBDC for several years now, but so far hasn't pulled the trigger.

Here are what I believe to be the two big risks to rolling out a Canadian CBDC.

The most important one is white elephant risk.

In mature democracies like Canada, the provision of retail non-cash payments is a mostly-solved problem. Decent access to payments is already provided by a panoply of bank accounts, financial  apps, and cards. These existing options for connecting to the payments system are very safe. The $1,000 we hold in a checking accounts to make payments, for instance, is protected by government deposit insurance.

So if the Bank of Canada were to issue a CBDC, it's not obvious to me that many of us would bother using it. It would be just one more safe payments account among a sea of safe options.

That leaves the central bank in the position of having spent large amounts of money building and maintaining a payments network that none of us really needed or wanted in the first place.

Getting rid of an expensive and lacklustre CBDC could be difficult. Central bankers may feel like their reputations are tied to their CBDC projects. This, combined with the fact that central bankers don't feel the sting of a bottom line, may allow these white elephants to limp on for a very long time.

At the moment, most Canadians don't interact with Bank of Canada products (apart from holding cash, usage of which is falling). We mostly view the central bank as a competent technocratic body that does complicated stuff with interest rates. A CBDC project would suddenly put the Bank of Canada in direct digital contact with Canadians. But if the CBDC were to become a white elephant, this proximity could backfire on the central bank. It'll be know as the agency that runs a bloated payment system that the public dislikes. We don't want the Bank's brand to be hurt. We want the Bank of Canada to be trusted and deemed competent.

The second risk is black elephant risk. A black elephant is an obvious risk that people avoid discussing ahead of time.

Most discussions about CBDC centre on the technological hurdles involved in building one. But they often ignore the pesky sociological difficulties of running payments systems.

Fickle customers want to be able to reverse payments when they aren't happy with the products they buy. Users are frequently swindled out of their money by fraudsters and will expect restitution. If Jack accidentally send $500 to Alice instead of the $50 that he intended to send, he will want $450 back. What if Alice disagrees?

This requires that central bank constantly arbitrate disputes.

That's not all. Criminals will try to use a CBDC to sell illegal products. The central bank will have to start policing what is illegal and what isn't. Controversial businesses, say white nationalist publishing houses or kinky porn sites, will line up to use it. That means getting embroiled in politics.  

These are the not the sorts of issues I want my central bankers to get bogged down in. The risk is that demanding CBDC users distract the Bank of Canada from the vital task of conducting monetary policy.

The Bank of Canada might try to outsource the governance of a CBDC to the private sector. But that begs the question: if the central bank doesn't want the burden of running a payments system, why is it trying to get in the game at all? Why not just stick with the status quo, which seems to be working?

In sum, if I had any suggestions for Canadian citizens on how they should appraise a Canadian CBDC, it would be this. Given the above white & black elephant risks, the Bank of Canada shouldn't lead, it should follow. Watch the first few trail-blazing central banks to see how their CBDC projects pan out. (The Swedes, who are aggressively purchasing a CBDC, are a good candidate). If the Swedish CBDC succeeds, copy it. If the Swedes fail, continue on as before. There's no advantage to being the first to market.

A dark world where bitcoin payments have gone mainstream

[This is an adaptation of an article I wrote last year for CoinDesk]

Satoshi Nakamoto's electronic cash system – Bitcoin – was originally intended for people to make online payments. But it never caught on as a mainstream payments option. Bitcoin's wild, and potentially lucrative, price changes have prevented it from developing into a popular substitute for Zelle, Visa, ACH, or PayPal. On top of that, the process used to run the bitcoin network, proof-of-work, is incredibly costly (by design).

What would cause bitcoin payments to go mainstream in America? That is, if ten years from now everyone was using volatile bitcoin tokens as their main medium of exchange, what major events would have gotten us to that point?

Unfortunately, the path to mainstream bitcoin payments is not an uplifting one. It requires that the U.S.'s reliable payments pipelines, the ones that have knitted Americans together for decades, stop doing their job. This unraveling of the payments system would be just one part of a broader decaying of American society. Only when these core payments systems are inoperational, and American society is on its knees, will a third-best payments rails like bitcoin be called into play.  

Here's a short story about how America's payments infrastructure slowly implodes and bitcoin payments go mainstream.

We all know that America is ideologically divided. This political storm has been spreading into commercial affairs with companies being required to take a stand on many polarizing issues. The payments industry in particular has become a major venue for conflict. (Think controversies over fundraising for Kyle Rittenhouse and card network censorship of sex workers.)

Imagine a world in which these divisions were to deepen.

In 2023, activists successfully pressure payment processors to make broad-based purges of businesses that are deemed too Republican. One casualty, the Wall Street Journal, is de-platformed by its acquiring bank. (An acquiring bank is the financial institution that hooks businesses into the Visa and Mastercard networks.) The Journal quickly gets a new Republican-friendly acquirer. Companies with Trump-supporting executives like Home Depot and Goya Foods are cut off by their acquiring banks, too.

Republican activists react by pressuring financial institutions to unplug Democrat-aligned businesses. In 2024, several large banks stop connecting abortion clinics to the Visa and MasterCard networks.

By the late 2020s a divided ecosystem of payments processors and acquirers has emerged. One half specializes in connecting businesses and nonprofits deemed Republican to the card networks. The other half specializes in connecting Democrat ones. Any bank or processor that tries to stay neutral is shunned – she who connects my enemy to Visa is my enemy.

Even at this level of divisiveness, Republicans and Democrats can still make payments with each other. That's because MasterCard and Visa remain neutral. The two networks allow both Republican- and Democrat-aligned acquiring banks, and the businesses that these banks serve, to connect to their networks. And thus dollars can flow across the ideological chasm.

But in 2029, Democrat activists succeed in pressuring Visa to end their neutrality and disconnect all Republican acquiring banks and processors. Suddenly, businesses that are deemed Republican can no longer accept Visa cards. The next year MasterCard is pressured to go Republican. All Democrat-leaning businesses are exiled from the MasterCard network.

America is now divided into two card fiefdoms. Apple (D) is Visa, Walmart (R) is MasterCard. Amazon (D) is Visa, Home Depot (R) is MasterCard.

But commerce can still occur across the divide. Any consumer who wants to shop at both Republican and Democrat stores need only make sure they have both a Visa and a MasterCard.

Getting both brands might not always be possible, however. Republican individuals may find it difficult to pass the increasingly politicized application process for a Visa card. Likewise, Democrat consumers find it challenging to make it through the application process for a MasterCard. 

That's when bitcoin might become a more useful payments mechanism. Since the Bitcoin network is censorship resistant –  anyone who want to use it can easily get access – it provides a means for Republicans to shop at Democrat stores and vice versa.

And so bitcoin finally becomes more popular for payments, but only because American society has moved backwards to a less civilized state. The easiest and most efficient option, cards, have degraded to the point that a back-up technology, Bitcoin, must be relied on. You can see that bitcoin isn't a progressive technology, it is a retrogressive one.

Up till this point in my story, the broad ideological upheaval between left and right has been reflected in a splitting-up of the card networks. Notice that the underlying payments plumbing on which America's entire private payments system runs, the Federal Reserve, has remained neutral throughout.

In 2031, that changes. The neutrality of the Federal Reserve, made up of 12 district Reserve banks, comes to an end. The CEO and directors of the Federal Reserve Bank of Kansas City, all staunch Republicans, decide to stop providing Democrat-leaning banks in their district with access to Fedwire. (The Kansas City district includes the states of Kansas, Wyoming, Nebraska, Colorado and Oklahoma.)

Fedwire, the Federal Reserve's real-time settlement system, is America's core payments utility. When anyone makes a payment from his or her bank to another bank, it'll eventually be settled by a movement of funds along Fedwire. By cutting off Democrat-leaning banks and their customers from this key utility, the Kansas City Fed effectively severs them from the U.S. payments system.

In retaliation, the Federal Reserve Banks of San Francisco and Boston disconnect Republican banks from Fedwire, in one swoop unbanking all Republican-leaning businesses located in their districts. The remaining ten district Reserve banks all pick sides, too.

If they haven't already done so, Republican leaning businesses rush to relocate to Republican districts. Otherwise they will not get banking services. Democrat businesses migrate to Democrat districts.

Those businesses brave enough to stick it out in a hostile district will need an alternative payments mechanism for connecting with their suppliers and customers. Cash will be one option. For non-face-to-face payments, however, bitcoin may be their only option. And so as America descends into partisanship and the Federal Reserve crumbles, an awkward bitcoin "cash system" becomes a way around an increasingly balkanized payments system.

Even in this hyper-factionalized America, inter-district trade between Democrat and Republican zones can still occur. A car mechanic in a Democrat district can buy tires from a part dealer in a Republican state. That's because Democrat-leaning Federal Reserve banks (such as the San Francisco Fed) remain connected to Republican-leaning Federal Reserve banks (such as the Kansas City Fed) through Fedwire. Fedwire continues to unite disparate parts of the country.

That stops in 2033. The San Francisco Fed halts all incoming payments from Republican Reserve banks including the Kansas City Fed, Atlanta Fed, and Dallas Fed. In reaction, Reserve banks in Republican enclaves such as Kansas City cut off Democrat districts. At that point there ceases to be a universal U.S. dollar. Money held in accounts in Georgia and Florida and Oklahoma can't move into accounts in California or Washington, and vice versa. The payment tissue that once connected all Americans has torn.

With the collapse of Fedwire, cross-border trade and remittances between hostile Democrat and Republican enclaves get very tricky to carry out. Society may have regressed far enough back that silver and gold once again become an international settlement medium, just like in the 1600s and 1700s. Or perhaps bitcoin would become America's preferred medium for making payments across enclaves. Unlike gold, bitcoin can be transferred remotely.

The collapse of America's payment infrastructure would be just one theatre in a much larger cleaving of American society along ideological lines. Other key bits of American infrastructure would also begin to fall apart: the courts, law enforcement, the education system. There would be large physical dislocations as Republican families flee Republican enclaves and Democrats to Democrat enclaves.

But if America's electrical and telecommunications infrastructure has crumbled, too, would it even be possible for people to use bitcoin, which is reliant on the internet?

It’s a stretch, but we can imagine distributed solar power solving the electricity problem. As for accessing the bitcoin network, tinkerers could try to connect old-fashioned ham radios to Blockstream's bitcoin satellite. If the remnants of AT&T and Verizon can only provide patchy internet service, so-called decentralized mesh networks might offer an alternative way to access the web.

This dystopian future probably isn’t going to happen. It's just a story. For now, bitcoin remains an unpopular payments system. Let’s all hope that it stays unpopular. No one wants to live in a country that has declined so far that bitcoin has become a vital way to make payments.

Embargoed by MasterCard/Visa, kratom vendors turn to crypto and eChecks

I spend a fair amount of time tracking real-world use cases for cryptocurrencies. I'm not talking about silly speculation, or millionaire crypto hobbyists using their bitcoins to buy Teslas, or illegal dark web markets that use Monero for payments. I'm talking about actual licit businesses that have turned to cryptocurrency payments -- not because they particularly care about crypto -- but because they need to.

To date, the retail kratom industry is one of the best examples I've been able to find of broad non-speculative licit cryptocurrency adoption. Kratom is a plant that grows in southeast Asia. The kratom leaf can be ground into a green powder that, when ingested, acts as a stimulant. In the U.S., online kratom stores are ubiquitous.

I'm not going to get into whether kratom is dangerous or has medicinal value, or whether it should be legal or not. (For that sort of discussion, I'd suggest visiting the FDA, WebMD, or the Mayo Clinic.) The main point I want to make in this post is that kratom is legal in the US (although several states have banned it).

Although kratom is legal, MasterCard and Visa have decided to prohibit kratom sales from their networks. This poses big problems for online kratom shops. Because the card networks dominate online payments, exile by these oligopolies causes serious financial damage to the unfortunate targets. To survive, the kratom industry has been forced to turn to backup payments systems.

MasterCard's Business Risk Assessment and Monitoring (BRAM) policy, for instance, lists a number of impermissible activities:

Source: Netpay

Most of the prohibited transactions listed by MasterCard are illegal, such as the sale of child pornography. But some are legal, including the sale of "certain types of drugs or chemicals." MasterCard specifically mentions salvia divinorum, a legal drug that has hallucinogenic properties. Although it isn't listed as an example, kratom is usually considered to fall into the same category as salvia.

Acquirers, the financial institutions that connect businesses to the card networks, face large penalties if Visa or MasterCard catch them facilitating prohibited card transactions. To reduce this risk, acquirers will often hire what are called Merchant Monitoring Service Providers, or MMSPs, to scan through retailer data and spot anything that looks dangerous. MMSPs such as LegitScripts are very aggressive about rooting out kratom sales.

Despite the card networks disallowing kratom sales, many of the 20 or so sites that I scanned through still offer card payments. According to my research, kratom sites have a number of ways of securing card availability, one of which is called transactions laundering. That is, a kratom site camouflages its prohibited product sales by routing them through a front store that sells legitimate goods. Eventually these prohibited transactions get caught by the card network or the acquirer, and the site's card network access is revoked. It then has to scramble to build another front.

One commenter on Reddit describes kratom transaction laundering thusly:

"...we can do manual credit cards (as I can) over the phone because we use standard processors that don’t know it’s kratom. We do this by creating Dba’s that have fake web presences selling other products and they don’t find out it’s kratom for a while. Usually we can get a processor to work for 3-12 months before it gets shut down."

(Note: Dba refers to "Doing Business As". A DBA is a business pseudonym or a “fictitious name filing.”)

Another route that kratom sites take to get access to the card networks is to use an overseas aggregator. Kratom Crazy, a website that has since closed for business, describes how and why:

"International is the only way to go because card schemes are less aggressive on banks in international communities. This doesn’t mean they can’t be fined or shut down – oh because they can and still do. No aggregate account we have ever seen has lasted over 6 months before being shut down. The major downside is these accounts are usually 9% fees and up plus 10% rolling reserve over 6 months. So the merchant takes 19%+ off the top immediately plus they have to wait for 2-3 weeks before seeing the first days processing payout. Its a bad deal all around and a massive risk for losing money. In addition, when these accounts get shut down, there is usually no payout to the merchants."

So the upshot is that the sort of card network access that many kratom sites have managed to secure is unreliable and spotty. Indeed, many sites don't accept cards at all, including (at the time of writing) OG Botanicals, Canada Kratom Express, Krypto Kratum, and Rhizohm. Rhizohm's payments page goes to some pains to explain how it would rather be honest than lie to get card access:

Source: rhizOhm

Which gets us to cryptocurrency. Almost all of the kratom sites, including those that haven't been able to sneak themselves into the card networks, accept cryptocurrencies including Bitcoin, Ethereum, Litecoin, XRP, Stellar Lumens, or some other one. Third-party crypto processors like CoinPayments or Coinbase Commerce are typically used for payments processing.

When they accept cards, kratom sites often offer discounts for cryptocurrency payments. For instance, Happy Hippo's checkout page offers a 20% discount:

It's easy to understand why kratom sites would offer such discounts. It's expensive to use overseas aggregators for card payments. By steering a customer to Bitcoin or Ethereum, a kratom vendor saves itself the pain of a 10-15% card processing fee.

But cryptocurrency isn't the only payments option that kratom sites fall back on. Even more popular than crypto is eChecks, a traditional "fiat" form of payment that gets processed via an automated clearing house, or ACH. A kratom buyer inputs their bank routing and account numbers into the payments page, the payment then gets routed to the ACH network and, once cleared & settled, the funds arrive in the kratom merchant's bank account.

In the same way that a business must work with a card acquirer to get access to Visa or MasterCard payments, they must work with an eCheck acquirer in order to accept eCheck payments. But onboarding standards seems to be much looser with eCheck acquirers than card acquirers. For instance, in the screen shot below an eCheck acquirer is actively soliciting all sorts of high-risk industries, including not only kratom but also CBD oil and MLM-based businesses.  

If there's an online retail payments option that's as badass as bitcoin, it's got to be eChecks.https://t.co/HJfEIeQER3 pic.twitter.com/sb4DnHW2X1

— John Paul Koning (@jp_koning) October 7, 2021

Many kratom sites also accept a bespoke payments method called GreenBean Pay. Users open an account with GreanBean Pay and submit their banking account information. The service then uses Plaid -- a piece of financial plumbing that allows apps to hook into banks -- to link to the buyer's bank account and process the kratom payment.

Lastly, a bunch of kratom sites accept person-to-person payments options such as Cash App, Venmo, Zelle, and Interac eTransfer. (This probably goes against these services' terms of service, which generally limit usage to person-to-person payments).

While these backup options have become vital for connecting kratom retailers to the public, they are not really a great substitute for a card network connection. Cryptocurrency is clunky, awkward, and risky. eCheck is slow. By not offering the convenience of card payments, kratom sites lose out on a steady stream of would-be buyers. And this is evident by how desperate they are to find hacks that get them back into the Visa and MasterCard walled gardens.

In closing, I want to touch on something I mentioned in my previous post on MasterCard and porn. A big reason that card networks refuse to process legal transactions for things like kratom (or, similarly, for salvia divinorum, which I wrote about here) is they don't want to damage their brand. These substances may be permitted by law but they are controversial, and so the networks refuse to touch them.

All businesses have the right to protect their brands. But the card networks are oligopolies, and thus necessary for online survival. And so in my view the card networks should be required to forfeit their right to protect their brands. That is, Visa and MasterCard (insofar as they retain their oligopolistic powers) should not be be allowed to police vendors for what they deem to be controversial but legal products.

Which is not to say that I'm a champion of kratom. I'm only suggesting that the appropriate way to control such a product is not by card network bans, but by the Drug Enforcement Agency declaring it to be a scheduled drug.

The good news is that these sorts of situations are very rare. The card companies allow almost every legal transaction under the sun on to their networks, save a few outliers like kratum. This means that the population of licit businesses that need to use a back-up system like cryptocurrency payments (or echecks) is not very big. But examples like this still warrant our attention. Even if we don't particularly care about kratom, one day a product that we regularly consume could get censored by Visa or MasterCard.

MasterCard as censor

Governments have incredible powers to dictate what people buy online.

By virtue of being oligopolies, the two payments networks -- MasterCard and Visa -- exercise the same powers as governments do. If MasterCard bars your business from its network, you effectively don't exist.  

We may not agree with how governments set rules about what things we can buy, but at least there is a somewhat transparent and democratic process -- however flawed -- behind the government's decisions. Visa and MasterCard's rulings, on the other hand, are opaque and driven by card executives, not voters. It is important to monitor these networks to see how they are exercising their powers of online censorship.

In this spirit, here are some thoughts on MasterCard's new rule change, AN 5196, which governs websites that provide adult content. Now, it could be that you don't particularly care about porn. But even then, it's worthwhile to pick through the rule change to see how the scope of online commerce is about to be narrowed. As I wrote in my recent article for the Sound Money Project, the sex industry exists at the edge of the payments universe and thus serves as a useful barometer for the general state of payments inclusion.

AN 5196: A short description

Issued earlier this year, AN 5196, or Revised Standards for New Specialty Merchant Registration Requirements for Adult Content Merchants, requires adult sites to obtain consent from all models who are depicted in a video or image. Sites must also verify the identity and age of all models. These systems must be in place by October 15, 2021. It is the job of acquirers, those companies that connect adult sites to the MasterCard network, to ensure that rules are being followed. Sites that don't comply will be disciplined or banned.

Here is how one site, JustForFans, is implementing the changes:

"We understand how scary this transition can be for our models..." JustForFans, a porn site, explains how MasterCard's new rules for adult content are being implemented: https://t.co/WV6QHoEmlx pic.twitter.com/gGxuJVroFJ

— John Paul Koning (@jp_koning) September 24, 2021

In addition to collecting information, MasterCard will now require that content be reviewed by sites prior to publication to ensure that it is not illegal and that it does not "otherwise violate the Standards." If the content is a real-time stream, the site must be able monitor it and take it down immediately.

AN 5196 will also require porn sites to provide their acquirer with monthly reports including a list of all content flagged as "potentially illegal or otherwise in violation of the Standards," as well as the actions taken to address these violations.

Although MasterCard's actions are designed to reduce the amount of illegal adult content, it will also result in less legal adult content being available online. I'll get into that later.

For now, let's start by going through the justification for MasterCard's censoring of illegal content. This decision isn't entirely up to MasterCard, as I'm going to show.

The fight against illegal online content

Many nations have laws that prohibit various types of adult content. Child pornography is universally illegal. Revenge porn, or the posting of pornographic images of a partner without permission, is also prohibited in many jurisdictions, either explicitly via anti-revenge porn laws or through anti-privacy and/or anti-cyberharassment laws. Sex trafficking, which includes cases such as Girls Do Porn, (a company that used fraud and intimidation to recruit non-professionals to pose in porn videos) is also illegal. Obscenity is prohibited in many jurisdictions, too.

Society has generally gone one step further than punishing the people who are responsible for committing crime. To help further reduce crime, we also punish the financial institutions that facilitate these illegal transactions. If a bank knowingly provides services to a child pornography site, for instance, that bank may be held criminally liable for laundering money.

To avoid being punished for accepting the proceeds of crime, financial institutions make an effort to filter out illegal payments, say by implementing customer due diligence, or know-your-customer (KYC), requirements. By demonstrating to law enforcement that they have filters in place, bankers can avoid prosecution for money laundering.

It is courtesy of this filters that financial institutions like MasterCard help project society's laws about content, however imperfect, onto online commerce. MasterCard performs this role of censor because we (i.e. voters and politicians) have delegated it that role.

Which gets us back to AN 5196.

A 2020 exposé by the New York Times revealed that one of the world' biggest porn sites, PornHub, had allowed child sexual abuse material and other non-consensual videos to appear on its site. (I wrote about this event here.) Because card acquirers must ensure that the businesses they connect to the MasterCard network are not selling illegal content, Pornhub should never have been allowed to host this content in the first place.

MasterCard's response was AN 5196. Prior to the Pornhub incident, acquirers were obligated to stop illegal porn from being transacted on the MasterCard network, but they were allowed to devise their own methods for doing so. The new rules impose explicit and uniform procedures across all acquirers. (I've already described what they are in the first section, including collecting identification.)

Legal content caught in the blast radius

AN 5196 will almost certainly reduce the amount of illegal content being transacted along the MasterCard network, and thus the amount of illegal content available on the internet. And that's a good thing. Some illegal content will inevitably flow to alternative adult sites that use cryptocurrencies or eChecks for payments. But without the ease of card transactions, this content won't attract the same number of eyeballs as before.  

Unfortunately, AN 5196 has a blast radius. It will also reduce the amount of legal adult content available on the internet. Because adult sites will now have to collect the personal data of all people appearing in videos and other images, content makers who worry about being doxxed by insiders at porn site, or who fear losing their data to hackers who compromise sites, will stop providing content. (To be fair, some adult sites were already requiring identification prior to MasterCard's rule change.)

It might be possible to design systems to reduce the amount of law-abiding models who self-censor themselves out of fear of losing personal data. But this would require a different, more privacy friendly, approach to managing identity. That's a whole other conversation.

MasterCard's ban will also reduce the amount of legal but risqué/controversial material that is available online. 

You'll notice that AN 5196 requires adult sites to preview all content not only for potentially illegality but also for violations of "the Standards." 

What are MasterCard's standards?

In addition to prohibiting illegal material, MasterCard has long prohibited any transactions that may hurt its brand or "damage the goodwill of the Corporation." It provides a bit more clarity on this in 5.12.7 (2) of its rule book, where it declares the following activities to be in violation of its rules:

"The sale of a product or service, including an image, which is patently offensive and lacks serious artistic value (such as, by way of example and not limitation, images of nonconsensual sexual behavior, sexual exploitation of a minor, nonconsensual mutilation of a person or body part, and bestiality), or any other material that the Corporation deems unacceptable to sell in connection with a Mark."

I'm not entirely sure how MasterCard or its acquirers determine what is "unacceptable" or lacking "serious artistic value." Whatever the case, AN 5196 is likely to lead to an increase in brand-related censorship. The new set of rules requires that adult sites peruse each individual bit of content prior to publication. With sites applying more attention to content than ever before, this increases the likelihood of legal material being removed out of concern over MasterCard's reputation.

In addition, sites must now file monthly reports with their acquirers in which they list all content flagged as illegal or in violation of the Standards. The pressure to demonstrate that they are protecting MasterCard's brand will probably lead adult sites to apply harsher censoring standards than before.

Should monopolies be allowed to censor legal material?

If I may editorialize a bit, all businesses have the right to protect their brands. But MasterCard is an oligopoly, and thus necessary for online survival. And so it should be required to forfeit that right. That is, MasterCard shouldn't be allowed to police content for what it deems to be controversial material that could hurt its reputation. Governments have to provide services to every citizen, even ones who look funny or do strange things. The same should apply to MasterCard. 

So to sum up, the scope of online commerce is about to be narrowed. AN 5196 will reduce the amount of content available online by: 1) reducing illegal adult content; 2) reducing legal adult content being produced by those preferring anonymity, and; 3) reducing legal content that is deemed to be brand-damaging.

As far as I know, this is the first time that a card network has forced a set of content providers to adopt a know-your-customer requirement. For now, MasterCard has limited this requirement to adult sites. But who knows, one day it may require other types of content providers (i.e. social media?) to adopt the same standards as porn. While there may be benefits to this sort of policy, let's not forget the costs.