Cryptocurrencies offer an opportunity to reduce the friction and costs of online payments thanks to a host of features, including peer-to-peer transactions, fast settlement, and blockchain security.
Prior to the launch of Bitcoin, researchers had been attempting to launch a reliable, standalone form of digital cash that didn’t depend on any trusted central intermediary for several decades. In 2008, Satoshi Nakamoto published the Bitcoin whitepaper which describes a “peer-to-peer version of electronic cash,” marking the first successful real-world implementation of cryptocurrency as a form of payment.
Since the launch of Bitcoin, blockchain technology has developed for a wider range of use cases thanks to the emergence of smart contracts platforms such as Ethereum. However, payments still remain a core functionality, with Ethereum being heavily used to facilitate stablecoin payments which highlights the value and demand for decentralized forms of payment.
The growing popularity of cryptocurrency over recent years and the opportunities to modernize and streamline existing fiat payment systems have sparked worldwide interest in digital money. This interest extends to the development of several central bank digital currency (CBDC) projects designed to deliver forms of digital cash for governments that can serve as an alternative to physical money. However, it’s worth noting that not all these endeavors are based on blockchain or distributed ledger technology.
Advantages and Disadvantages of Cryptocurrency Payments
The main benefit of cryptocurrency payments is that they are peer-to-peer and don’t rely on an intermediary, which helps reduce transaction costs. Whereas a credit card provider can charge as much as 3.5% in fees, transacting via blockchain can be done for a fraction of that amount.
By removing intermediaries, it’s possible to settle payments via a blockchain in minutes or even seconds, whereas many traditional retail fiat payments can take days or weeks to reach an account.
Further, the lack of intermediaries enables users to not need to maintain accounts with financial institutions. According to the FDIC, many unbanked people in the US alone choose to not have a bank account due to the general lack of trust in banks, high fees, privacy concerns, or because they might not have enough money to meet account minimums.
Cryptocurrency transactions are also highly secure, witnessed by a global network of computers (nodes), and recorded immutably on the blockchain’s ledger. The decentralized node network also helps protect against hacks and malicious attacks where transactions or personal data could be compromised.
On the other hand, with the exception of stablecoins, cryptocurrencies are notoriously volatile, making them undesirable for many merchants seeking a stable form of income. Volatility may also reduce the effectiveness of cryptocurrencies as a store of value, and it makes crypto generally difficult for pricing goods and services.
Scalability is another challenge. Although the last few years have seen increasing adoption of high-speed blockchains such as Solana, or Layer 2 solutions like Polygon, or Bitcoin’s Lightning Network (LN), the lack of scalability of legacy platforms such as Bitcoin or Ethereum has proven to be a factor limiting adoption and results in volatile and high fees during periods of peak demand. Bitcoin, for example, could only handle around seven transactions per second prior to the LN integration, compared to 24,000 on the Visa network.
Crypto Payment Gateways and Processors
Merchants choosing to accept cryptocurrencies have one of two options.
First, they can set up a wallet for handling payments manually, which is the cheapest way to accept crypto, but comes with some complexity and level of know-how. The merchant may end up being responsible for custody of their own crypto, possibly requiring multiple wallets and maintaining appropriate private key security. This approach also means they need to use an exchange or other third-party to convert their crypto into fiat if desired.
Payment gateways have emerged as a solution that enables merchants to accept crypto while overcoming some of the challenges of handling payments directly. For a fee, a payment gateway such as BitPay, Coingate, or Coinbase Commerce will provide the merchant with a crypto address for their payment portal, can handle conversions into fiat, and may also be able to custody crypto for merchants who prefer to accept digital currency payments.
Payment gateways also often offer additional support with administrative matters such as invoicing or tax reporting.
The main drawback of using a payment gateway is that it costs significantly more than handling manual payments and loses some of the decentralization benefits of cryptocurrencies. This is because payment gateways are typically based at least partly on centralized infrastructure, introducing potential risks such as hacks or downtime.
How Cryptocurrency Payments are Changing the E-commerce Landscape
The drawbacks of payment gateways are usually seen as minor compared to the time and effort it takes to maintain manual wallets, making them popular among merchants wanting to accept crypto. As such, cryptocurrencies are demonstrating their potential for improving payment systems – both in the e-commerce sector and beyond.
The benefits of making payments using crypto are so far-reaching that the International Monetary Fund has recognized the efforts of the private sector in this regard and has urged the public sector to leverage the technology in order to upgrade payments infrastructure to be more interoperable, safe, and efficient.
Integration of Cryptocurrency Payments with Traditional Payment Systems
While the integration of cryptocurrencies and blockchain into traditional payment systems may appear to be slow, there has been considerable progress over recent years.
First, the advent of stablecoins was one of the first major steps towards integrating crypto within traditional finance and financial payment systems.
For example, PayPal’s initial move into cryptocurrency in 2020 was partly credited with triggering the subsequent bull market. PayPal has since expanded its crypto offering several times, incorporating merchant integration and trading services.
Other payment giants have also made moves to integrate crypto into their legacy infrastructure, most notably Visa and Mastercard. Visa was the first to partner with a crypto-native firm for a prepaid credit card and has since gone on to enable acceptance of payments in the USDC stablecoin and has become a crypto advisory service for financial institutions.
Mastercard has also integrated USDC payments, participated in the testing of central bank digital currencies, and partnered with Bakkt to enable its customers to offer crypto-related services.
Crypto and online payments essentials
- The first use case for Bitcoin, as the first cryptocurrency, was peer-to-peer payments.
- Advantages of crypto payments include fast settlement, lower fees, and high security, but crypto’s volatility and lack of scalability on legacy platforms can be barriers.
- The increasing availability of crypto payment processors has made it easier for merchants to accept crypto, demonstrating the potential for broader adoption.