Encryption Payment Channel: The Rise of New Financial Infrastructure

In the past few years, blockchain technology has gradually built a new financial ecosystem that runs parallel to the traditional financial system. The encryption payment channels have carried a stablecoin volume of $200 billion, as well as a stablecoin transaction volume of $5.62 trillion in 2024. This data is close to Mastercard's annual transaction volume. According to statistics, the annualized transaction volume of stablecoins in 2024 reaches $15.6 trillion, which is approximately 119% and 200% of the transaction volumes of Visa and Mastercard, respectively.

The popularization and large-scale adoption of encryption payments has become an undeniable fact. Taking Stripe's acquisition of the stablecoin service provider Bridge for $1.1 billion as an example, encryption payment channels are becoming superconductors in the payment field. They lay the foundation for parallel financial systems, providing faster settlement times, lower fees, and the ability for seamless cross-border operations. This concept has matured over the past decade, and now hundreds of companies are dedicated to turning it into reality. In the next decade, encryption channels are expected to become the core of financial innovation, driving global economic growth.

Nonetheless, there are still many challenges that need to be addressed, including:

• 16 trillion dollar trading market
• 890 trillion USD in trade finance
• 400 billion US dollars in remittance prepayment funds
• The average fee rate for international transfers is close to 7%.
• 3-5 working days for the funds to arrive
• 1.4 billion people have no bank accounts

This article will comprehensively explore how blockchain-based encryption payment channels can bring utility to traditional payment systems from the perspective of traditional payments, and provide multiple real-world application scenarios and future predictions.

1. Existing Payment Channels

To understand the importance of encryption channels, one must first grasp the key concepts of existing payment channels and the complex market structure and system architecture in which they operate.

1.1 Card Organization Network

Despite the complex topology of credit card organization networks, the main participants in credit card transactions have remained largely unchanged over the past 70 years. Credit card payments mainly involve four parties:

1. Merchant
2. Cardholder
3. Issuing Bank
4. Acquiring Bank

The issuing bank or issuing institution provides credit or debit cards to customers and authorizes transactions. The acquiring institution collects payments on behalf of the merchant and ensures that the funds reach the merchant's account.

The card organization network provides channels and rules for credit card payments, connecting acquiring institutions with issuing banks, offering settlement functions, formulating participation rules, and determining transaction fees. ISO 8583 remains the major international standard, defining the construction and exchange of credit card payment information among network participants.

Card organization networks are divided into two types: "open-loop" and "closed-loop". Open-loop networks, such as Visa and Mastercard, involve multiple parties, while closed-loop networks, like American Express, handle all transaction processes through a single company.

The economics of payment is very complex, with multiple layers of fees existing in the network. The main ones include:

• Exchange fee: The fee charged by the issuing bank, usually accounting for a large portion of the total payment cost.
• Deck fee: Fees charged by the card organization network
• Settlement Fee: The fee paid to the acquiring institution

The actual market structure is more complex than this, involving multiple participants such as payment gateways, payment processors, payment service providers, and orchestration platforms.

1.2 Automatic Clearing House ( ACH )

ACH is one of the largest payment networks in the United States, owned by the banks that use it. It is mainly used for payroll, bill payments, and B2B transactions.

ACH transactions are divided into two types: remittances and withdrawals, involving multiple participants, including the initiator, the initiating depository financial institution ( ODFI ), the receiving depository financial institution ( RDFI ), and the ACH operator.

The ACH system has been working to adapt to modern demands. The "Same Day ACH" launched in 2015 can process payments faster but still relies on batch processing rather than real-time transfers, and there are limitations such as restrictions on the amount for individual transactions.

1.3 Wire Transfer

Wire transfers are at the core of high-value payment processing, with the two main systems in the United States being Fedwire and CHIPS. These systems handle urgent, guaranteed payments that require immediate settlement, such as securities transactions, major commercial transactions, and real estate purchases.

The wire transfer uses a real-time gross settlement system ( RTGS ), with each transaction settled individually as it occurs. Fedwire is a type of RTGS system, while CHIPS uses a net settlement system.

SWIFT, as a global financial information network, supports cross-border payments. In complex cross-border payment scenarios, transactions often need to be executed through a network of correspondent banks, using SWIFT to coordinate the payments.

2. Real-World Use Cases

Encryption payment channels are most effective in situations where the use of traditional US dollars is restricted but the demand for dollars is strong. They are particularly suitable for countries with unstable economies, high inflation, currency controls, or underdeveloped banking systems.

The advantages of encryption payment channels are most evident in the context of globalized payments, as blockchain networks are not limited by national borders. They can act as a glue between different RTGS systems or extend to countries without these systems.

Encryption payments are particularly suitable for payments with high urgency or time preferences, such as cross-border vendor payments and foreign aid payments. They are also very helpful in scenarios where the agent bank network is particularly inefficient.

2.1 Merchant Acquiring

Merchant acquiring can be divided into two use cases: front-end integration and back-end integration.

The frontend method allows merchants to directly accept encryption as a payment method from customers. The demand for this use case mainly comes from businesses selling products to consumers in countries/regions that are early adopters of encryption, as well as online gambling and retail stock brokerage firms.

Backend methods can provide merchants with faster settlement times and funding channels. Encryption payments can shorten the settlement time from the traditional 2-3 days to the same day.

2.2 Debit Card

Linking debit cards directly to non-custodial smart contract wallets has created a powerful bridge between blockchain and the real world. In emerging markets, these cards are becoming a primary consumer tool. Even in currency-stable countries, consumers are using these cards to gradually accumulate dollar savings.

2.3 remittance

Encryption payments can provide a faster and cheaper way to make overseas remittances. The process of remitting using encryption payments typically includes:

1. The sender enters the PSP system through various means.
2. PSP will convert stablecoins into the local currency of the payee.
3. PSP will pay fiat currency to the recipient's bank account or generate a non-custodial wallet.
4. The recipient usually needs to complete KYC in order to receive funds.

2.4 B2B payment

Cross-border B2B payments are one of the most promising applications of encryption payments. They can significantly reduce settlement times from weeks to hours and lower transaction costs.

Main use cases include:

• XB Supplier Payment: Solving the problem of importers paying suppliers
• XB Accounts Receivable: Helping businesses worldwide to collect funds faster.
• Financial Operations: Improve the company's financial operations and accelerate global expansion
• Foreign aid payment: Send funds faster to eligible individuals

2.5 payslip

Encryption payments are particularly suitable for paying wages to freelancers and contractors, especially in emerging markets. It allows more money to ultimately enter the pockets of the recipients instead of flowing to intermediaries.

2.6 Currency Acceptance for Deposits and Withdrawals

Currency acceptance for deposits and withdrawals is one of the most critical parts of the encryption payment process. Building currency acceptance for deposits and withdrawals typically involves obtaining the necessary licenses, ensuring local banking partners or PSPs, and connecting with market makers or OTC desks to gain liquidity.

P2P channels rely on a "broker" network, which is particularly common in regions like Africa. These brokers provide liquidity for fiat currencies and stablecoins, with their primary motivation being economic incentives.

3. Compliance Regulatory Approval

Obtaining regulatory approval is a necessary step to expand the application of encryption payments. Startups can choose to collaborate with licensed entities or obtain a license independently. Each method has its pros and cons.

Achieving global licensing coverage is extremely challenging, as each region has its own unique currency transfer regulations. In the United States alone, a project requires a money transfer license for each state, New York's BitLicense, and MSB registration.

Four, Challenges

The widespread adoption of encryption payments faces multiple challenges:

• Adoption dilemma: the need to drive adoption among both consumers and merchants.
• Currency acceptance issues for deposits and withdrawals: high failure rates, user experience barriers, high costs, inconsistent quality
• Privacy issues: As the scale of adoption increases, it may become an important consideration.
• Bank Relationship: Establishing a bank relationship is often the most difficult part.
• Compliance: still not up to the level of traditional payment companies

5. Future Prospects

Considering the current development trends, here are 20 predictions for the state of the industry over the next 5 years:

1. The annual payment volume conducted through encryption channels is between 200 billion and 500 billion US dollars.
2. More than 30 new banks have launched natively on encryption payment channels globally.
3. Dozens of encryption native companies have been acquired by fintech companies.
4. Some cryptocurrency companies will acquire distressed fintech firms and banks.
5. Three payment-designed encryption networks have emerged.
6. 80% of online merchants will accept encryption as a payment method.
7. The card organization network will expand to cover approximately 240 countries and regions.
8. The majority of remittance volume through the 15 major remittance corridors worldwide will be conducted via encryption payment channels.
9. On-chain privacy primitives will be adopted.
10. 10% of foreign aid expenditure will be sent through encryption payment channels.
11. The currency acceptance market structure for deposits and withdrawals will become rigid.
12. The number of P2P currency acceptance liquidity providers will significantly increase.
13. More than 10 million remote workers will receive service payments through encryption payment channels.
14. 99% of AI agent business will be conducted on-chain.
15. More than 25 well-known partner banks in the United States will support encryption payment channel companies.
16. Financial institutions will attempt to issue their own stablecoins.
17. Large messaging platforms will integrate encryption payment channels.
18. Loan and credit companies will begin to collect and make payments through encryption payment channels.
19. Several non-USD stablecoins will begin large-scale tokenization.
20. CBDC is still in the experimental stage and has not yet reached commercial scale.

6. Conclusion

Encryption channels are becoming the superconductors in the payment field, laying the foundation for parallel financial systems. They offer faster settlement times, lower fees, and the ability to operate seamlessly across borders. Although this concept has taken a decade to mature, hundreds of companies are now dedicated to making it a reality. In the next decade, encryption channels are expected to become the core of financial innovation, driving global economic growth.