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Credit card fraud solution coming to America...finally

Aaron Task
Editor in Chief

The list of U.S. retailers hit by hackers in recent years is too long to list here but includes Neiman Marcus, UPS, P.F. Chang's, Michaels Stores and, most infamously, Home Depot and Target. The attacks on just those latter two retailers exposed more than 90 million credit card accounts combined and helped finally push the U.S. to adopt card-chip technology.

Long used in Europe and the standard in myriad countries around the world, card-chip technology creates a unique code for each transaction. Because the codes change with each transaction, criminals can't use them to create a counterfeit card, a major improvement from magnetic strip where all the account information is permanently stored -- and thus vulnerable to theft.

The U.S. reliance on magnetic strips is a key reason why roughly 50% of credit card fraud happens in America even though only about 25% of all global credit card transactions occur here, The AP reports, citing Barclays.

Widespread use of card-chip technology has been shown to reduce fraud by over 70% two years after adaptation, Stephanie Ericksen, vice president of risk products at Visa, tells me in the accompanying video.

The move to card-chip technology in American is accelerating because, starting in October, retailers that haven't upgraded to use them and banks that haven't issued them will be liable for any fraud that occurs as a result of theft. The American Bankers Association estimates fraud cost the industry over $1.7 billion in 2012, so the financial services industry is highly motivated to get chip-enabled cards to its customers. Ericksen estimates over 60% of American credit cards will have the embedded chips by the end of this year. (Often referred to as chip-and-PIN, the chip cards often require a PIN but can also be authorized with a signature or even just a swipe, depending on the transaction, Ericksen says.)

But what of the retailers? Upgrading to card-chip machines will cost the industry between $25 billion and $30 billion, according to the National Retail Federation, and conventional wisdom holds that retailers' unwillingness to incur that cost is a big reason why America lags the rest of the world when it comes to credit card security.

Ericksen offers another, more generous, explanation: The Europeans adopted chip-card technology because a lack of reliable telecomm connectivity prompted them to store transactions and send them in batches, often overnight for authorization the next day, and the chip-card terminals provided a better vehicle for that. American retailers, meanwhile, had access to better telecom and thus invested in terminals that sent each transaction individually for real-time authorization.  

"Now we're seeing a convergence of the two technologies," she says. "Internet is widely available so terminals all around the world can do real-time authorization so they're investing in back-end systems in conjunction with chip. And we're adding that one-time code with the chip to better secure the infrastructure we have here."

As for the cost of converting, Ericksen says small businesses can get a "plug and play" card-chip reader "relatively inexpensively" -- citing one unit at Costco that goes for $99 -- while Square has offered them free to merchants in its network. The cost will naturally be larger for big retailers but card-chip technology is "a bridge to mobile payments," she says, noting it's the same technology Visa is using for Apple Pay and other mobile transactions.

And mobile payments are a bridge to an even more secure system: One based on biometrics, i.e. fingerprint of facial recognition.  Ericksen says the industry will "probably leapfrog rather quickly" to mobile payments and biometrics, which she calls "an even better way of authenticating the card holder."

But the longest journey begins with a single step and, while late getting started, America is taking a big one with this year's move to card-chip technology.

Aaron Task is Editor-at-Large of Yahoo Finance. You can follow him on Twitter at @aarontask or email him at atask@yahoo-inc.com.