Bills of Exchange
and Internet Payments
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The following article places the introduction of
eCommerce, P2P and authenticated payments in a historical context. This is achieved through a comparison
with the introduction of Bills of Exchange in the 16th century.
During
the 16th century a new method of payment was required to facilitate the
growth of international trade. Up until this stage international transactions
were paid for using metal currencies. However, the rise of capitalism needed a
way to overcome the obstacles associated with using cumbersome metal currencies
for international business. The solution was the invention of Bills of Exchange.
Over 400 years later a new method of payment would
be required to facilitate the growth of a new form of global trade which would
be known as eCommerce. Up until this stage international transactions were
generally paid for using pieces of paper signed with a handwritten signature
(e.g order forms which required a credit card number and handwritten signature,
signed negotiable instruments such as cheques, International money orders or
direct debit which involved wire transfers through proprietary inter-banking
payment networks.) Capitalism now needed a way to overcome the obstacles
associated with the shuffling of paper required to make global payments. The
solution was the use of credit card numbers which could be directly entered into
a website to effect payment without a handwritten signature.
In the 16th Century Bills of exchange had a
practical function for the purposes of international trade in that they were
more easily transportable than metal-based currency. Bills of exchange aided in
foreign transactions where the importance of having the right currency payable
in the right place was paramount. In this way they satisfied the merchants' need
to convey purchasing power across international borders. However, the most
important function of bills of exchange was as a form of credit. This credit
need, central to trade, was recognized in England by the 1560s and bills of
exchange were the perfect mechanism to fulfill this need.
At the close of the 20th Century credit card
numbers had a practical function for eCommerce. These credit card numbers could
be entered into a website located anywhere in the world in order to effect
immediate payment without the need for any paper shuffling. The global credit
card networks handled the foreign currency exchange transparently, which allowed
the purchaser to convey purchasing power across cyberspace. Despite the merchant
taking the risk of not being paid, the credit card numbers were intrinsically
designed as a method of drawing upon credit, which met the requirements for
efficient trade. The humble credit card number had become the new payment method
for global eCommerce.
The most interesting thing about Bills of Exchange
was that they were introduced through 'common practice' without any legal
foundation. They were unenforceable at English common law but, in spite of fraud
occurring, bills of exchange generally provided the certainty of payment
fulfilling the needs of the merchant class.
Secure Sockets Layer (SSL), developed by a company
called Netscape, was the equivalent of a 'common practice' solution acting like
a 'telephone scrambler' to protect the transmission of a credit card number over
the Internet. SSL did not provide any authentication (i.e. equivalent of a
handwritten signature in an offline transaction) but in spite of fraud
occurring, SSL provided a certainty of payment, which satisfied the bulk of
online merchants racing to gain market share. Due to the fact that credit card
transactions actually generate income for banks it was in the banks� best
interest to promote their use through Internet channels.
The ingenuity of the 16th century merchants
continued to develop alternative uses for bills of exchange to the extent that
by the 16th century they were used as de facto promissory notes, documents of
insurance, vehicles for speculation and limited risk sharing, negotiable
instruments, vehicles for discounting, a kind of primitive traveler�s check, and
even as a means of gambling. The introduction of bills of exchange as negotiable
instruments meant that they could take on an integral value of their own and act
as substitutes for currency.
This same ingenuity would again rise up during the
latter part of the Internet boom developing an alternative use for Internet
credit card payments. Credit cards had originally been designed to allow
consumers make payments to merchants. There were strict rules enforced by credit
card associations as to what constituted, and who was permitted to be a credit
card merchant. Online auctions, introduced by a company called eBay, created a
new market need - the ability for an auction buyer to pay an auction seller. The
credit card association rules precluded these auction sellers, who were usually
just individuals, from becoming credit card "merchants". This meant the buyers
couldn't use their credit card to pay the sellers and buyers had to resort to
offline payments such as sending cheques through the mail. The solution was the
introduction of Person-to-Person (P2P) payments by a company called PayPal.
P2P payment companies were intermediaries that
pretended to be a credit card merchant on behalf of the online auction sellers
who couldn't be credit card merchants themselves. They would receive the funds
sent by the buyers, and hold them on behalf of, or distribute the funds to the
sellers. These P2P payments companies broke the regulations of the credit card
associations and did not hold banking licenses, which meant they had no
quasi-legal or legal foundation. Despite these shortcomings, P2P payment
companies provided certainty of payment sufficient for the needs of the online
auction class and effectively became an online substitute for
currency.
The attitude of 16th Century common law judges to
the 'common practice' developments, which introduced Bills of Exchange, was
initially one of rejection. The merchant class found the inconsistency between
common and civil law to be an impediment to commerce and the merchants were
finally able to convince Parliament to pass a statute in 1698 which regulated
the legal position of bills of exchange.
At the turn of the millennium it was primarily the
regulations of the global credit card associations that governed the use of
credit cards for payment transactions rather than common law judges. The
inconsistency between offline credit card transactions, where liability for
fraud could be shifted to the consumer, and online credit card transactions
where the merchants were required to accept full liability for fraud, would
prove to be an impediment to eCommerce. Once again the merchants would rise up
applying pressure to the card associations to give them relief from the
liability they faced for an increasing number of fraudulent Internet
transactions. As a result, the card companies passed new rules that would allow
online merchants to shift liability to online consumers if they authenticated
online credit card transactions using new methods called 3-D secure or Secure
Payment Application (SPA).
The introduction of statutes regulating Bills of
Exchange in the 17th Century did not end the legal debate. The next issue that
arose was whether promissory notes could be considered a form of Bill of
Exchange, which would therefore make them subject to the same regulation. The
early judges retarded the needs of the market in this respect but this position
radically altered under the great Chief Justice Mansfield who allowed promissory
notes the same standing. Lord Mansfield conversed with merchants in order to
gain a comprehensive understanding of commercial customs where fully negotiable
instruments had been accepted for over a century.
As history repeated itself the merchants would go
to the credit card associations ruling bodies and ask for greater certainty for
these new authenticated Internet transactions. They would ask the credit card
associations to widen the scope of the 3-D Secure and SPA "rulings" to provide
greater interoperability between the two different protocols and therefore
greater certainty moving forward. This resulted in a convergence of online
authentication methods for eCommerce transactions.
Copyright (c) 2002 Brent
Clark
