The Rise of Digital Wallets: Benefits and Challenges

Earlier this month, two of the UK’s biggest financial regulators – the Payments Systems Regulator and the Financial Conduct Authority – launched a review into the use of digital wallets. These have exploded in popularity in recent years and transformed how many consumers and businesses execute day-to-day transactions. The authorities are now keen to learn more about these solutions, with the FCA’s CEO calling their use part of a “seismic shift” in how payments are made in the UK.

With digital wallets now clearly on the regulators’ radar, what has led to this meteoric rise and where next?

The benefits

Digital wallets are nothing new. The first digital wallet was created in Helsinki in the late nineties, when Coca-Cola designed a vending machine where customers could pay for soft drinks with a text message.

Things really progressed in the following years with the launch of PayPal, Google and then Apple Pay. The last one helped incorporate this technology into everyday mobile device use, something the entire smartphone industry soon seized upon. This was accelerated during the pandemic when people were forced to adopt this technology to make simple purchases.

The convenience of digital wallets has rapidly led to mass adoption. The digital wallet business is booming and forecast to grow at over 9% a year until 2028. This translates to the industry growing in size from $251.5bn to $395.9bn in just four years.

Convenience isn’t the only advantage to digital wallets.

Despite coming from giants such as Google and Apple, the most popular digital wallets have helped disrupt current payment models. This means many have small or zero transaction fees, making them a more attractive money transfer method.

Digital wallets are also secure to use. Similar to the rising trend of tokenisation, digital wallets do not require card data or bank account information to be disclosed when making transactions. This means a much cleaner and simpler proposition with less personal data at risk. Many digital wallets also incorporate other steps, such as biometric authentication.

Challenges

Of course, there are challenges with any payment method.

For one, many digital wallets are closely interlinked with mobile devices. This is a large part of their convenience with consumers making digital payment solutions in the palm of their hand, but there are limitations. Technology dependence can be a vulnerability if the hardware is compromised. OS issues, poor connectivity or even a low battery can undermine how digital wallets are used.

This can extend to security concerns. If a person’s phone were stolen, this could potentially give a thief access to their digital wallet. This technology also means more frequent transactions as people are able to make payments as they wish with little to no friction. While this is great, it could potentially leave consumers at greater risk of making payments via unscrupulous or unverified merchants. If someone were to become increasingly reliant on a digital wallet, and maybe make dozens of transactions a day, they may gradually become less diligent about who they are transacting with. And once a payment is made, it can be difficult to reverse.

Digital wallets are also not immune to the challenges holding back more traditional payment solutions, specifically regional complications. Despite their impressive growth, digital wallets are fragmented which means one may work in a specific jurisdiction but be limited from working in others.

What’s next?

This is an exciting area of payments at the edge of digital innovation. Digital wallets are increasing in adoption and there are now signs they are getting greater support and engagement from the authorities.

Not only are UK regulators attempting to better understand this technology, but the European Commission is preparing the EU Digital Identity. This will be available to EU citizens, residents and businesses to help them better identify themselves and strengthen security around cross-border payments. EU countries are expected to issue the first such wallets by the end of 2026.

These developments, combined with a comfort with the technology that strengthens each day, mean digital wallets are a very exciting area in payments to keep an eye on.

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