The working mechanism of a QR code payment system

How QR codes are driving consumption in China

China’s mobile payments boom has been powered by its QR code technology, which Alipay and WeChat popularized five years ago. How does a QR code work and how does it integrate into the banking system?

Date

2 Oct 2018

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China’s mobile payments boom has been powered by its QR code technology, which Alipay and WeChat  popularized five years ago. How does a QR code work and how does it integrate into the banking system?

QR codes are a common sight in China nowadays – even street food vendor carts have them. Customers take out their smart phones from their pockets, scan the QR code and make payments within seconds. The QR scanner immediately informs the vendors of the payment. The transaction is cashless.

QR codes or quick response codes are the trademark for a type of matrix barcode (or two-dimensional barcode) that was first designed in 1994 for the Japanese automotive industry. Its usage reached the digital payment space a few years later. China was among markets that embraced the technology.

The widely acknowledged benefits of QR code payment, as opposed to traditional payments such as bank card and cash include speed, security and transparency.

The typical type of QR code payment, which is often used in small amount transactions, works like an online money transfer. Customers scan the QR code sticker from the vendors and directly send the corresponding cash amount via a mobile payment application. 

As a transaction takes place between virtual accounts over platforms of either Alipay or WeChat Pay, banks become involved once retail users make a “request” to their banks to withdraw cash from their digital wallets. This recalibrates the funds in the digital wallet system with the banking system.

In 2006, Alipay appointed ICBC as its first cash management bank. TenPay, which runs WeChat, appointed China Merchants Bank and Bank of China. The cash is ring-fenced and monitored by the People’s Bank of China (PBoC), the country’s central bank. PBoC will be able to access the data of each payment or transfer.

A report from PBoC showed that there were 7.3 billion QR code transactions by non-bank financial institutions, amounting to 910 billion yuan in 2017. About 99.93% of the transactions were in the consumption space.

Since June 2018, a centralized clearing procedure has been put in place, where a third party clearing house Wang’lian will act as the sole intermediary clearing entity to handle all transactions between payments companies and banks. In the past, each payment company connects directly to the banks and each transaction is cleared by themselves.

With regards to security, according to Alipay’s website, every transaction on Alipay is encoded and monitored. Once the system detects a risk, it will automatically block the transaction. A group of experts then investigates the suspicious transaction to ensure the security of the accounts. TenPay also employs a similar security mechanism.

As third party payment companies accumulate large amount of cash, interest from bank deposits and cash loans lent out to retail customers become a major source of revenue for them. The robust business model of the payment companies had posed a threat to commercial banks. However, a circular issued by PBoC in July requires payment companies to deposit 100% of their customers’ pre-payment deposit to PBoC from January next year. This will restrict payment companies’ use of the cash. The new rule may also weigh on their profitability. 

Date

2 Oct 2018

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