storytime 1: The magic behind waving a phone for coffee

Welcome to storytime. In this series, I will explain technical financial concepts through easy-to-understand stories (that sound a lot like the ones read to kids). In storytime 1, we will learn about what happens when a credit card is tapped for payment.

At 8:15am daily, Avery heads out to grab his morning coffee after a brisk five-minute walk to the hipster cafe near his abode. After exchanging pleasantries with the barista at the cashier, he stops for two seconds to think about whether he really wants an iced long black, before he ultimately orders it for the 2,048th time. He then whips his phone out and double clicks to activate Apple Pay, waving his phone in front of the payment terminal soon after.

**TRANSACTION SUCCESSFUL**

A few moments later, while sipping his coffee on the walk back, he wonders, like one obviously does – ‘It’s kinda crazy that I can just wave my phone like a magic wand at a box in exchange for a coffee, when just 8,000 years ago I probably had to uproot some carrots from my backyard, clean it(?), then bring it to the cafe hoping the barista would accept carrots for my coffee.’

Hunched over at his desk, Avery gets to work scouring the internet, hoping to find an ELI5 covering the journey that goes from his iPhone tapping on a payment terminal that looks like a kid’s ‘pretend to work at a grocer’ toy and ends with his bank alerting him that he’s cumulatively $300 poorer this month from his socially-acceptable addiction.

Hunched over his desk (he’s spent too much on coffee to afford a standing desk), Avery scours the internet to quench his curiosities. He finds a simulation that will explain how it all works.

**SIMULATION LOADING**

Avery finds himself in front of a lake. Across it, he catches a glimpse of his cup of coffee.

To cross over and get his coffee, Avery has to either swim or walk. Avery can either pay in cash (swim) or with a card (walk).

The lake is not particularly wide, but Avery doesn’t want to get wet swimming. While it’s not hard to carry cash, it’s cumbersome.

Avery needs shoes to walk. These shoes are the ‘EMV’ chip in payment cards. Most EMV chips today include near-field communication (NFC) tech that allows the cards to be tapped vis-à-vis inserted. Modern phones have ‘secure element’ chips that essentially act as an EMV chip and works with the NFC chip to connect to terminals.

‘EMV’ stands for ‘Europay Mastercard Visa’, which were the three companies that founded the payment method. Europay merged with Mastercard in 2002. Today, EMVCo manages the technology and is collectively owned by Amex, Visa, Mastercard, JCB and UnionPay.

Like getting a shoes from a shoemaker, you usually get a credit or debit card from a bank. This bank is known as the ‘issuer’. The shoemaker is the issuer.

To cross the bridge, Avery needs to pass one of the village trolls. ‘Acquirers’ (aka village trolls), are financial companies that provide businesses with terminals to accept card payments.

‘Acquirers’ include banks like Commonwealth Bank & Wells Fargo, and Fintechs like Square and Stripe (which are technically payment service providers, not acquirers per se, see here).

To get a terminal, a business will sign up for a ‘merchant account’ with an acquirer. This account is not directly accessible by the business. Think of it as a place ‘pending’ funds sit, until they are ‘settled’. Once settled, the acquirer will transfer the monies into the business’s nominated bank account.

The troll will not admit fake shoes, so it takes a picture of Avery to send to the shoemaker to verify its authenticity. The interaction between the EMV chip and the terminal is essentially this, but a tad more complicated because it’s not just two parties and one system. It’s multiple parties and multiple systems that work together to execute the payment, and when the transaction is large enough or out-of-the-ordinary, Avery needs to prove he has the right to use the card via pin or signature.

When the terminal reads the EMV chip on the card, the chip creates and sends a unique, encrypted version of the card’s details to the terminal (this process is called tokenisation).

The troll sends the picture via WhatsApp to the shoemaker. Once the terminal receives the details, it uses the payments network – think WhatsApp for payments; a blazing-fast automatic messaging system – to submit requests to the issuers to charge the card (‘authorisation request’).

Payment networks include VisaNet by Visa, Banknet by Mastercard and UnionPay Network.

The shoemaker checks his customer archives and then replies with 👍 or 👎. The issuer conducts checks to prevent potential fraud or unauthorised transactions before responding, then approves or declines through the same network, with its response going to the acquirer.

Once the troll receives the shoemaker’s 👍, it lets Avery pass, uniting him with his 2,049th iced long black. The transaction is approved, sating Avery’s coffee addiction once again.

**SIMULATION ENDS**

There’s more to discuss about settlements and transaction fees, but we’ll leave that to next time.

Thanks for reading,

Arthur

Disclaimer: This article may contain inaccuracies and is for entertainment purposes only. Please do your own research. Feedback and corrections are welcome.