Economy and Business

The future of digital finance

India’s central bank has long had a reputation for trailing many other countries, including Bangladesh, when it comes to creating the right environment for digital finance to flourish. Bangladesh and other countries had moved ahead of India on inclusive digital finance.

Dec 22, 2015
By Kabir Kumar
India’s central bank has long had a reputation for trailing many other countries, including Bangladesh, when it comes to creating the right environment for digital finance to flourish. Bangladesh and other countries had moved ahead of India on inclusive digital finance.
That view, however, is changing, particularly after the Reserve Bank of India announced in August that 11 applicants had been approved to launch payments banks by early 2017. Nearly half of those approved to be payments banks -- five to be exact -- are sponsored by telecom operators. 
The payments bank is a new category of specialised bank that offers a variety of payment services as well as interest-bearing deposit accounts, a feature that extends beyond what a typical non-bank electronic-money issuer is often allowed to do. From a regulatory perspective, payments banks have as much muscle as one can wish to offer the full range of payments and deposit services available in the bank business, though payments banks are prohibited from extending any credit themselves and must place their assets in safe and liquid investments.
The sweeping announcement was a surprise to many in India who had anticipated that the RBI could only approve the Department of Post as a payments bank.
A key question is whether India provided licenses to the right mix of players. Our initial assessment is that RBI got a lot right by approving a strong cast of institutions and partnerships with enough financial muscle to take risks and experiment with different business models.
This is the first time RBI has awarded licenses or approvals to such a large number of applicants at one time. By doing so, they took a portfolio approach and stacked the batting order. Approvals were given to lead sponsors from one or more in each category: MNO (Airtel, Idea, Reliance, Vodafone, Uninor), prepaid issuer (Paytm, Tech Mahindra, and others), agent or business correspondent company (FINO), non-bank finance company (Cholamandalam), and government (Department of Post).
Commercial banks are also participants in a number of the newly licensed entities. For instance, Kotak Mahindra has a 20% stake in the entity that will be set-up by Airtel; State Bank of India will have up to a 30% stake in the entity set-up with Reliance; multiple banks, including ICICI Bank, have a stake in FINO; and multiple banks have a stake in National Securities Depository Limited (NSDL). Many expect that with banks involved, payments banks will quickly move to linking payment services with credit issued by these banks.
RBI also seems to have struck the appropriate balance between innovation, stability, and customer protection. The payments bank requirements have capital requirements, promote stake dilution roadmaps, and deposit protection measures with the intent of protecting public deposits. Moreover, included in the approvals were India’s largest corporate houses and high net worth individuals, not to mention Jack Ma, whose Alibaba has a 25% stake in Paytm, one of the awardees. By awarding the licenses to some of India’s strongest corporates, RBI is saying that it will back innovative models, but only if they have financial muscle behind them.
The RBI also recognised that a payments bank must be financially sound from the outset if it is to weather anticipated challenges during the growth phase and survive long enough to make a profit. Specifically, payments banks will need to develop massive agent networks, a large share of the cost of the business, which will require upfront investments with only long-term returns on investment.
Aside from the 11 payments banks, the RBI also recently approved two commercial banks and 10 small finance banks, increasing banking supply significantly for the first time in 15 years. RBI promises to issue more licenses “on tap” or with speedier approval processes. These bold moves by the RBI will be a game changer for India’s financial system overall. These latest steps by the RBI along with significant interventions by the Prime Minister’s Office and the Ministry of Finance provide an unprecedented opportunity to boost financial inclusion in India.
The approved payments banks have hit the ground running. Paytm has over 120 million wallets with average transaction amounts of Rs10. The payments bank license will allow Paytm to extend to smaller cities and rural areas with a model that is all digital. Reliance will combine the roll out of its low cost smartphones and data coverage with banking services. Telenor has partnered with a newly-minted commercial bank to focus on some of the most challenging Indian geographies in the north. Almost every new payment is hiring data scientists to develop models that will allow lending to take place by checking data from cell phone use.
It’s not all going to be smooth sailing. Some wonder if telecom operators setting up their own payments banks will behave in an anti-competitive way when it comes to communications access and data. One safety measure has been that the telecom regulator has already chosen to regulate USSD (Unstructured Supplementary Service Data, a communication protocol usable over any phone) with a pricing cap and also ensure that SMSes related to financial services are priced at the lowest tariff offered to any SMS.
The RBI will also need to prepare itself to supervise a new class of financial institution, even though payments banks do not issue credit and are considered less risky in some ways. RBI will need to create appropriate regulations that enable innovation and encourage a level playing field. At a workshop recently, one of the payments banks wondered if they would be forced to issue passbooks or other documentation, fearing those costs would undermine their ability to scale up.
The shake-up in India’s banking system could lead to a string of innovative products and services that we have not yet dreamed of. What happens in India ought to be of great interest to many countries. In Bangladesh, regulatory changes are also under consideration by Bangladesh Bank for mobile financial services and it will be interesting to see how the pathways of India and Bangladesh unfold in the months and years ahead. There is much to be learned by watching and learning from each other. 
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Dhaka Tribune, December 22, 2015

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