No 126. Interoperability and Network Externalities in Electronic Payments

by Gabriela Guibourg

Abstract: The causes of and extent of network externalities in payment systems such as the ATM and the ACH-market have been analysed and tested in earlier studies. In this paper a similar study is made for the market for electronic card payments, i.e. the EFTPOS-market. A panel data set of variables relevant to the evolution of the EFTPOS market in the G-10 countries, Australia and the Nordic countries for the period 1988-1999 is gathered and used in a statistical description of the evolution of the market. Also the hypothesis regarding the positive effects of standardisation for the evolution of the market is  tested. The results are highly significant and the coefficients have the expected signs. A model that describes the banks' adoption decision of EFTPOS technology is developed. It is assumed that if  network externalities are present, the larger the use of common standards, the larger will be the transaction demand for this particular instrument. Within the specific context of the EFTPOS market, the model illustrates the trade obetween network effects and competition effects often described in the literature. Existence of pure strategy equilibria requires that banks are not exceedingly asymmetric in terms of their relative sizes in the acquiring market. The full adoption with common standards outcome is more likely to result the smaller benefits banks derive from differentiation.