April 1995
`
`Volume 1 Number 1
`
`John Wenninger and David Laster
`
`The electronic purse, a new payments instrument offering advantages to both consumers and
`merchants, may soon replace currency in many routine transactions. Widespread use of the
`electronic purse could, however, raise concerns about consumer protection and the safety
`and soundness of the instrument.
`
`Today a U.S. consumer making a purchase can choose
`from as many as five principal means of payment:
`check, cash, credit card, debit card, or automated clear-
`ing house (ACH) debit. In recent months, several major
`financial institutions have announced plans to develop
`yet another payments instrument—the electronic purse,
`or stored value card. The electronic purse is a multi-
`purpose prepaid card the size of a credit card. If suc-
`cessful, it might fundamentally alter the way in which
`people spend money, much as automated teller
`machines (ATMs) have changed the way that individu-
`als conduct business with banks.
`
`This edition of Current Issues explores how an elec-
`tronic purse system might work, why such a system
`should prove attractive to consumers, merchants, and
`issuers, and what difficulties it might present. The arti-
`cle also reviews several interesting policy issues raised
`by the introduction of the electronic purse in the mar-
`ketplace.
`
`For more than a decade, prepaid cards have been used
`in the United States in a variety of single-purpose and
`limited-purpose applications. The mass transit systems
`of New York, San Francisco, and Washington all use
`prepaid cards. Prepaid cards are common on college
`campuses, where students use them for copying
`machines and at cafeteria checkout lines. Many
`
`regional telephone companies have begun selling pre-
`paid calling cards. Applications such as these, which
`offer only one or a few possible uses, are known as
`“closed systems.” An “open system,” by contrast,
`allows consumers to use a single card in a variety of
`locations for a broad range of purchases. When used in
`an open system, a prepaid card is commonly known as
`either an electronic purse or a stored value card.
`
`An electronic purse system might work as follows.
`A bank issues stored value cards to its customers, who
`then transfer value from their accounts to the cards at
`an ATM, a personal computer, or a specially equipped
`telephone. The electronic purse card might also func-
`tion as an ATM card or a credit card. When making
`purchases, customers pass their cards through a ven-
`dor’s point of sale terminal. No credit check or signa-
`ture is needed; validation, when required, is by per-
`sonal identification number. Funds are deducted
`directly from the cards and transferred to the vendor’s
`terminal. Merchants can transfer the value of accumu-
`lated transactions to their bank accounts by telephone
`as frequently as they choose. When the value on a card
`is spent, consumers can load additional funds from
`their accounts to the card.
`
`Although no electronic purse system currently exists
`in the United States, several such programs are under
`way in other countries. Denmark’s DANMONT card is
`now used in vending machines, phones, trains, buses,
`
`Samsung Ex. 1015, Page 1 of 6
`Samsung Electronics America, Inc. v. RFCyber Corp.
`IPR2021-00981
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`6DA-A?JHE?2KHIA
`0M=-A?JHE?2KHIA9HI
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`C U R R E N T I S S U E S I N E C O N O M I C S A N D F I N A N C E
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`and parking meters. Finland’s Avant card, in operation
`in some cities for two years, is being phased in to cover
`the entire country.
`
`Because of their modest data processing require-
`ments, closed systems can generally operate using a
`magnetic stripe card such as those now used for credit
`cards and ATM cards. An open system is different. To
`provide sufficient flexibility and protection against
`fraud, open systems will probably need to employ
`
`To succeed, an electronic purse system will
`need to offer enough features of value to its
`three constituencies —consumers, merchants,
`and issuers— to induce them to bear its costs.
`
`smart card technology. A smart card is a plastic card,
`with or without magnetic stripe coding, that has one or
`more computer chips embedded in it. Capable of stor-
`ing, retrieving, and manipulating data, smart cards are
`used in a variety of applications such as health care and
`security systems.
`
`It is not yet clear what standards fledgling electronic
`purse systems will adopt. System designers must
`choose, for example, between two distinct types of
`smart card representing incompatible technologies:
`contact cards, which touch a card reader when register-
`ing a transaction, and contactless cards, which need
`only come in proximity to a card reader. Another issue
`under discussion is whether electronic purse transac-
`tions should be traceable. Keeping a record of each
`transaction would help law enforcement officials track
`down fraudulent or black market uses of electronic
`purses. Some maintain, however, that the record keep-
`ing would be unduly burdensome and expensive, and
`could represent an invasion of privacy. They argue that
`for an electronic purse to be an attractive alternative to
`currency, it must mimic currency’s main attributes—
`ease of use and anonymity.
`
`To succeed, an electronic purse system will need to
`offer enough features of value to its three constituen-
`cies—consumers, merchants, and issuers—to induce
`them to bear its costs.
`
`In several market studies, consumers have expressed
`enthusiasm for the electronic purse concept and a gen-
`eral willingness to pay either a per transaction fee of 2
`to 5 cents or annual user fees. The major attraction for
`consumers is convenience: using the card for small-
`ticket purchases such as newspapers, coffee, and vari-
`ous vending machine items would reduce the need to
`carry loose change and would speed transactions
`
`FRBNY
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`2
`
`because consumers would always have “exact change.”
`The electronic purse would also be more convenient
`than checks or debit cards for smaller transactions.
`Because it functions independently of a bank account,
`the electronic purse would afford users both greater
`privacy and freedom from the need to record expendi-
`tures in a checkbook. The electronic purse could even
`promote budgeting because a user can spend only the
`amount on the card.
`
`Electronic purses also offer advantages to recipients
`of government benefits. Several local government
`agencies have begun using electronic transfers (direct
`deposit) to issue benefits, and many others are explor-
`ing the possibility. To assist recipients without bank
`accounts, an agency could set up a master account at a
`bank with subaccounts for its beneficiaries. Smart
`cards issued to the beneficiaries would serve as both
`account access devices and electronic purses. Rather
`than cash a check for the full amount of their benefits
`once a month at a check cashing establishment, often
`for a high fee, beneficiaries could use their cards to
`withdraw funds as needed. This would reduce their
`exposure to loss or theft of benefits. In providing a safe
`and convenient store of value and medium of
`exchange, electronic purses could also help benefit
`recipients in other ways. Specially programmed ATMs
`could eventually offer these cardholders new payment
`options, such as low-cost money orders and the pay-
`ment of routine bills by ACH.
`
`The electronic purse should also prove attractive to
`merchants. It saves time and money in the handling of
`cash. Prepaid cards will likely have lower transaction
`fees than on-line debit cards and, unlike checks, offer
`assured payment. In addition, the electronic purse can
`reduce theft, open new markets (for example, pay-per-
`view television or vending machines selling $4.98
`items), facilitate the collection of market data, and
`serve as the backbone of customer affinity programs
`such as frequent flier miles.
`
`Issuers of electronic purses can reduce cash han-
`dling costs and combat fraud, save on-line network
`charges, and gain new sources of fee income from mer-
`chants and consumers. Of potentially greater signifi-
`cance, issuers can collect “float,” the right to invest and
`earn interest on the balances their customers hold on
`electronic purses. As the uses for electronic purses and
`the number of cards issued multiply, so too will the
`aggregate balances that consumers carry on the card.
`The income from float could therefore be substantial.
`
`Float is effectively paid by consumers and the U.S.
`government. To the extent that the balance on an elec-
`tronic purse substitutes for demand deposits, cardhold-
`ers forgo interest on their checking accounts. To the
`
`Samsung Ex. 1015, Page 2 of 6
`Samsung Electronics America, Inc. v. RFCyber Corp.
`IPR2021-00981
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`9D=JJDA-A?JHE?2KHIABBAHI
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`

`(demand deposits) by an equal amount. Because the
`reduction in vault cash constitutes a dollar-for-dollar
`reduction in reserves, and the lower level of demand
`deposits reduces required reserves by just 10 percent
`(the current reserve ratio), the bank will need to acquire
`additional reserves. A withdrawal of funds into an elec-
`tronic purse, by contrast, merely substitutes one liabil-
`ity for another—an electronic purse liability for a
`demand deposit liability. Thus, the transaction will
`have no effect on the bank’s reserve management oper-
`ations provided that both liabilities are subject to the
`same reserve requirements.
`
`From the consumer’s perspective as well, the two
`types of withdrawal differ conceptually. In both cases,
`the value withdrawn leaves a government-insured
`demand deposit. With the currency withdrawal, how-
`ever, the consumer receives legal tender issued by the
`Federal Reserve and backed by its holdings of U.S.
`government securities. The value on an electronic
`purse, by contrast, is not legal tender for all transac-
`tions. It is backed not by securities, but by the promise
`of the issuer to honor its value. If balances held on
`bank-issued electronic purses were covered by deposit
`insurance, however, they would be more equivalent to
`cash because their value would ultimately be backed by
`the U.S. government.
`
`extent that the balance replaces currency, the float
`comes at the expense of the U.S. Treasury. The reason
`is that the Federal Reserve holds U.S. government
`securities corresponding to the dollar value of currency
`in circulation and returns the interest income to the
`Treasury (more on this later). Over time, however,
`competitive forces in the banking industry may reduce
`the value of float to banks as banks lower fees or
`expand service to attract consumers and merchants to
`their prepaid card programs.
`
`As with any new technology, potential pitfalls abound.
`The cards or the terminals could malfunction, inconve-
`niencing consumers and merchants. Customers might
`balk at having to tie up funds and pay fees in order to
`spend their own money. The treatment of lost and
`stolen cards could be another point of contention.
`Finally, the market might fragment, creating a hodge-
`podge of incompatible systems requiring consumers to
`carry several different cards.
`
`If required to pay transaction fees and to buy new
`card readers or retrofit existing ones, merchants could be
`reluctant to accept electronic purses as a mode of pay-
`ment unless their use generates enough new business to
`justify the costs. System malfunctions could pose addi-
`tional problems. A failure to process transactions as
`rapidly as promised would be especially troublesome for
`businesses such as fast food chains and gas stations.
`
`Issuers also face risks, of which fraud is the greatest.
`If criminals learn how to counterfeit electronic purses,
`the issuing banks might suffer heavy losses. Unlike
`debit and ATM cards, whose transactions are con-
`ducted on-line, electronic purse systems are off-line,
`making it difficult to detect or track stolen or forged
`cards. If this problem proves widespread, it could
`destroy the profitability of issuing electronic purses.
`Issuers are studying sophisticated cryptographic tech-
`niques as well as the periodic recall and replacement of
`cards as methods to prevent, detect, and contain fraud.
`
`The advent of the electronic purse raises the question
`of how bank regulators will view the instrument. Will
`the bank liabilities corresponding to the value held on
`the card be reservable? Will they be subject to deposit
`insurance? The accompanying figure clarifies these
`issues by examining the flows of value that occur when
`consumers withdraw funds from their bank accounts
`either as cash or as value added to an electronic purse.
`
`These two types of withdrawal affect a bank’s bal-
`ance sheet in different ways. A cash withdrawal
`reduces the bank’s assets (vault cash) and its liabilities
`
`3
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`Samsung Ex. 1015, Page 3 of 6
`Samsung Electronics America, Inc. v. RFCyber Corp.
`IPR2021-00981
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`5A,H=M>=?I
`+F=HEIB8=KA.MI
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`C U R R E N T I S S U E S I N E C O N O M I C S A N D F I N A N C E
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`Consider next the perspective of vendors. When
`accepting cash payment, a merchant must take reason-
`able care not to accept counterfeit currency, because
`the bank will refuse to accept counterfeit bills for
`deposit. In contrast, the value of payments made by
`electronic purse accumulates in a card reader provided
`to merchants by their banks. Once a bank’s card reader
`accepts a card as valid, the transferred value becomes
`the bank’s liability to the merchant, and the merchant
`need not worry whether the card was counterfeit.
`
`When the merchant finally deposits cash proceeds
`in the bank, the bank experiences a simultaneous
`increase in assets (vault cash) and in demand deposit
`liabilities. Because the bank’s required reserves rise
`only by the amount of the reserve ratio multiplied by
`
`A May 1994 report by the Working Goup
`on European Payment Systems proposes
`that only banks be allowed to issue electronic
`purses. The report cautions that cards
`issued by nonbanks would not be subject to
`the banking regulations, supervision, and
`deposit insurance schemes that have
`traditionally protected consumers.
`
`the increase in deposits, the cash deposit creates excess
`reserves. When the merchant deposits electronic purse
`value, however, the bank merely substitutes one liabil-
`ity (demand deposit) for another (electronic purse),
`with no reserve management implications if both liabil-
`ities are reservable at the same rate.
`
`Clearing and settlement. From the perspective of the
`banking system, an additional issue must be resolved—
`the clearing and settlement of transactions. Cash with-
`drawals from ATMs require clearing and settlement
`because the machine from which funds are withdrawn
`often belongs to a bank different from the one at which
`the cardholder has an account. Thus, banks settle daily
`over networks for the net amounts they owe each other
`because of the ATM transactions of their customers.
`Electronic purse payments will create the same need
`for clearing and settlement since merchants and their
`customers often bank at different institutions.
`
`Issuance by nonbanks. Organizations other than
`banks might also want to issue electronic purses.
`Telephone companies and mass transit systems, for
`example, could expand the use of the single-purpose
`prepaid cards they now issue by arranging to have them
`
`accepted by other service providers. A more open sys-
`tem of this sort could arrange clearing and settlement
`through an affiliated bank.
`
`Nonbank issuance has been explored by policymak-
`ers in other countries. A May 1994 report by the
`Working Group on European Payment Systems proposes
`that only banks be allowed to issue electronic purses.
`The report cautions that cards issued by nonbanks would
`not be subject to the banking regulations, supervision,
`and deposit insurance schemes that have traditionally
`protected consumers. The absence of such safeguards is
`important because the failure of an electronic purse
`scheme could undermine public confidence in other
`electronic purse schemes, possibly causing a run on
`them. Another issue the report discusses is fairness:
`because banks are subject to regulations that do not bind
`other firms, banks might be unable to compete on an
`equal footing with nonbank issuers of electronic purses.
`
`Consumer protection. Electronic purses also raise
`the issue of consumer protection under Regulation E,
`which limits consumer liability resulting from the
`fraudulent use of ATM and debit cards. Would
`Regulation E be applied to electronic purses? Like
`ATM and debit cards, the electronic purse would serve
`as an account access device when downloading value
`from the checking account to the card. This use would
`appear to fall under Regulation E. Less clear is whether
`Regulation E would apply when routine transactions
`are made: it could be argued that the bank’s liability to
`the consumer has ended, leaving the consumer subject
`to the same risks posed by carrying cash.
`
`Issuers of electronic purses will also need to deal
`with state escheatment laws. These laws require that
`the funds in inactive bank accounts revert to the state
`after a period of time if the depositors or their heirs
`cannot be found. Hence, banks could be required to
`trace the ownership of the cards they issue and to pay
`state governments the value of the funds on those cards
`that are inactive for several years.
`
`Money laundering. Currency is used extensively in
`the underground economy and in illegal activities to
`evade taxes and the recording of transactions.
`Participants in these activities, however, face logistical
`challenges in moving bulky currency from one place to
`another and depositing the funds in the banking sys-
`tem, where the money is safer, earns interest, and can
`be used in check transactions. It was to make such
`operations even more difficult that the Treasury
`stopped printing currency in denominations over $100.
`
`Some fear that electronic purses would undercut such
`efforts and make it easier to launder money. Value on
`these cards would be easier to move from one place to
`
`4
`
`FRBNY
`
`Samsung Ex. 1015, Page 4 of 6
`Samsung Electronics America, Inc. v. RFCyber Corp.
`IPR2021-00981
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`JDAH1IIKAI
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`another because a card could be more easily concealed
`than a suitcase of currency. Nevertheless, it would still
`be difficult to deposit large sums undetected if federal
`laws requiring the reporting of large cash deposits could
`be extended to deposits of value from electronic purses.
`In that case, those involved in these activities would
`only escape notice if they laundered the value through
`businesses that could justify large deposits of electronic
`purse value. The situation might be different, however,
`for card systems that would allow person-to-person
`transfer of value and transfers over specially equipped
`phone lines. These features would allow holders of pre-
`paid card value to move funds rapidly to remote loca-
`tions where they could make several smaller, undetected
`deposits. Under these circumstances, electronic purses
`could facilitate money laundering.
`
`Displacing currency. Electronic purses could even-
`tually affect the amount of currency and coin outstand-
`ing (see table), particularly the smaller denominations
`used in routine transactions. Consider an extreme case:
`Were electronic purses to displace all coins and cur-
`rency denominations $10 and under, they would substi-
`tute for more than half of physical currency outstand-
`ing but less than 13 percent of its dollar value, or
`roughly $50 billion. As the currency was retired, the
`Federal Reserve would have to sell $50 billion of gov-
`ernment securities, thereby losing the interest income
`on the securities that it normally turns over to the
`Treasury. At a 7 percent rate of interest, the sale of
`securities would cost the Treasury about $3.5 billion of
`in-terest income each year. This loss would be offset, in
`small part, by a reduction in the costs of maintaining
`the stock of currency. In practice, this $3.5 billion can
`best be viewed as an upper limit because electronic
`purses are only likely to displace a fraction of the
`smaller denomination currency and coins used in rou-
`tine transactions, at least for the foreseeable future.
`Hence, the impact of the electronic purse on currency
`
`Number
`Percentage of
`of Units
`(In Billions) Total Number
`N.A.
`N.A.
`5.8
`36.8
`0.5
`3.1
`1.4
`8.7
`1.3
`8.3
`3.8
`24.2
`0.8
`5.3
`2.2
`13.7
`15.8
`100.0
`
`Dollar Value Percentage of
`(In Billions) Total Value
`21.8
`5.4
`5.8
`1.5
`1.0
`0.2
`6.8
`1.8
`13.1
`3.4
`76.3
`19.9
`41.9
`10.9
`215.7
`56.8
`$382.5
`100.0
`
`Coin
`$1
`$2
`$5
`$10
`$20
`$50
`$100
`Total
`
`Note: Taken together, all coins and currency in denominations of $10
`and under account for more than half of units but only about 13 per-
`cent of the total dollar value.
`
`is more likely to take the form of somewhat slower
`growth than an outright reduction.
`
`Rapidly advancing technology is stimulating the
`growth of electronic forms of payment. Observers of
`retail banking refer to credit card transactions as “elec-
`tronic loans” and to debit card transactions as “elec-
`tronic checks.” The next year or two will likely wit-
`ness the introduction of a complementary instrument,
`an electronic analogue to cash known as the electronic
`purse. This newsletter has described how an electronic
`purse system might work, examined its advantages and
`drawbacks, and explored the issues that it will raise for
`policymakers. Although we cannot predict how rapidly
`and widely this new technology will be accepted and
`just what forms it will assume, dramatic changes are
`clearly possible over the next several years in the ways
`that consumers make payments.
`
`John Wenninger is an assistant vice president and David Laster an economist in Payments System Studies,
`Research and Market Analysis Group, Federal Reserve Bank of New York.
`
`The views expressed in this article are those of the author and do not necessarily reflect the position of the
`Federal Reserve Bank of New York or the Federal Reserve System.
`
`5
`
`FRBNY
`
`Samsung Ex. 1015, Page 5 of 6
`Samsung Electronics America, Inc. v. RFCyber Corp.
`IPR2021-00981
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`+?KIE
`)>KJJDA)KJDH
`+FIEJEB75+KHHA?OKJIJ=@EC
`)IB,A?A>AH!''"
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`C U R R E N T I S S U E S I N E C O N O M I C S A N D F I N A N C E
`
`Current Issues in Economics and Finance is published by the Research and Market Analysis Group of the Federal
`Reserve Bank of New York. Dorothy Meadow Sobol is the editor of the publication.
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`
`Samsung Ex. 1015, Page 6 of 6
`Samsung Electronics America, Inc. v. RFCyber Corp.
`IPR2021-00981
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`