Smart and Smarter - Industry Trend or Event

Industry Standard, The, Feb, 2001 by Deborah Branscum

Credit card companies are rolling out so-called smart cards that link directly to the Internet. But the hoopla is more about marketing than technology.

It's noon at Penn State University, and 21-year-old Amanda Gormley rushes to the Hetzel Union Building for a bite to eat. She pays for her burrito and soda with her ID , an unusual student ID that also serves as a stored-value card (her parents deposited cash into an account for her at the beginning of the semester). After lunch, she stops off at the library to make some photocopies. The Xerox machine deducts the charges from her card. Later, she returns to her dorm, where she swipes the ID through a card reader to gain access to the building. In her room, she gathers her dirty clothes and heads to the laundry room, where the washing machine deducts yet more money from her ID .

Until recently, smart cards -- cards with an embedded chip that stores information -- were programmed with a single application. Stored-value cards, such as those used by Metro riders in Washington, D.C., allow commuters to get home on the subway, yet won't help them make a phone call. But a new generation of hybrid credit cards, which include a conventional magnetic strip as well as a microprocessor, contain 100 times more storage space than magnetic-strip cards. That's enough room to accommodate a huge range of applications: a security program to protect the data on the chip; an "electronic wallet" program that fills in credit card and shipping information when users buy something online; discount coupons for online shopping; a program that tracks frequent-flyer miles; a program that holds airline-ticket and boarding-pass information. And when the smart card is slipped into a card reader, a small device attached to a PC, the cardholder can install new applications and delete old ones -- a handy option, for instance, if your corporate travel office ditches the Hilton in favor of the Marriott.

In the past 18 months, four major credit card issuers, including American Express, First USA, Fleet and Providian, have introduced hybrid cards. A fifth, MasterCard, has announced that a British bank will roll out its first chip-enhanced card later this year. The banks' eagerness to make smart cards indispensable raises obvious questions. Why are they suddenly so keen to push a technology that's been kicking around for years? And are we ready for smart cards?

Scratch the surface a bit and -- surprise -- you'll find self-interest. Carter Warren, chief marketing officer at First USA, admits that the banks need to attract new, more profitable customers. "The greatest challenge we have as an industry," Warren says, "is to move beyond price." Many customers choose a card issuer based on interest rate alone. Smart cards, Warren says, are one way to change that. "Banks are losing money with low-rate offers to get your business," says David Robertson, president of the Nilson Report, a credit card industry newsletter. "So I might choose to give you something that looks like sizzle, although it doesn't sizzle, and that's the chip card."

The credit card industry has other reasons for choreographing the switch to smart-card technology. "The whole fear in the financial services industry is of disintermediation," says Robertson. What if E-Trade or Schwab or even Microsoft seized the role of "trusted agent" currently held by consumer banks and credit card issuers? To prevent that from happening, credit card companies are building the online infrastructure to maintain their status as intermediaries. Though really, for an Amazon.com purchase, chip-based security is "overkill," Robertson says. It's perfectly suited for online banking, since customers regularly transfer funds among many accounts. Smart cards "will allow your bank to operate in a variety of ways that are secure," he says.

But since consumers and brick-and-mortar retailers have no reason to want chip-based security at the moment, card issuers have had to look elsewhere for possible allies. They may have found them among e-tailers. "We're going to drive into the market through the Internet," explains James McCarthy, a senior VP for eVisa, Visa's Internet division. Web retailers, who are losing a fortune on credit card fraud, need a hedge against these losses. According to Meridien Research, fraud is expected to cost Net merchants $9 billion in 2001. Amazon, for one, eats the cost each time a thief goes onto its site and pretends to be a legitimate customer ordering the collected works of William Gibson. The thinking goes that once you equip online shoppers with smart cards, online merchants -- who need better protection from fraud -- are sure to follow. And, eventually, so will conventional retailers. Today, Gap.com; tomorrow, The Gap.

Despite the perception that smart cards are new, the technology has been around even longer than the personal computer. The first smart card was patented in France in 1974, and over the years the technology has become successful abroad, where exorbitant telecommunications costs make the cards cost-effective for offline validation of purchases. Meanwhile, AT&T'S breakup in the early 1980s led to cheap U.S. phone service, allowing U.S. merchants to continue to depend on real-time phone verification of mag-stripe cards.