A very simple primer on Payments
In today’s economy, most of the payments we make and receive are in fiat currency. But what does that actually mean, and how does it all work? Let’s break it down in simple terms.
What is Fiat Currency?
Fiat currency refers to government-issued money that has value because the government says so, and people trust it. Think of dollars, euros, yen, and pounds. Unlike gold or cryptocurrencies, fiat money has no intrinsic value—it’s valuable simply because we agree to use it as a medium of exchange.
How Do Fiat Payments Work?
When you buy something with fiat currency, whether it’s a cup of coffee or an online subscription, your payment goes through a series of steps:
The Payment Request: You swipe your card, tap your phone, or click ‘Pay’ online. This action starts the payment process.
Authorization: The payment information (your card or account details) is sent to the payment processor, like Visa, MasterCard, or PayPal. The processor checks with your bank to see if you have enough funds.
Approval or Decline: Your bank checks your balance. If there are enough funds, the payment is approved. If not, it’s declined.
Settlement: Once approved, the funds don’t move right away. Instead, there’s a process called settlement where banks exchange information, and the merchant’s account is credited with the payment. This usually happens within 1-2 business days.
Common Types of Fiat Payments
Cash Payments: The oldest form of fiat payments. You hand over physical bills or coins to pay for goods and services.
Card Payments: This includes credit, debit, and prepaid cards. When you use a card, your bank temporarily covers the cost until the settlement is complete.
Bank Transfers: Also known as wire transfers or ACH payments, these are direct transfers from one bank account to another. They are commonly used for big transactions like rent or salaries.
Digital Wallets: Apps like Apple Pay, Google Pay, and Venmo store your fiat money digitally. You can pay with a tap of your phone, but the underlying transaction still involves your bank.
Why Do People Use Fiat Payments?
Stability: Fiat currencies are backed by governments, so they tend to be stable (as long as the economy is healthy).
Convenience: Everyone accepts fiat money. You can easily use it for almost any transaction, from groceries to online shopping.
Trust: People trust fiat currency because of regulations and legal protections.
The Downsides of Fiat Payments
Inflation: Governments can print more fiat money, which can reduce its value over time (inflation).
Fees: Using credit cards or international transfers often comes with transaction fees.
Dependence on Banks: Fiat payments rely on banks and financial institutions. If the system goes down, your ability to pay might be affected.
Conclusion
Fiat payments are the backbone of our current financial system. They offer convenience and stability but come with some trade-offs, like inflation risk and bank fees. Understanding how they work helps us appreciate both the advantages and the potential limitations of using government-issued money.