India’s financial ecosystem is undergoing disruptive changes as it extends channels for customer reach. Let us take a look at what are these changes and how they can help achieve India’s financial inclusion goals.
This is part two of a series covering disruptive banking, regulatory, technology-led and payments initiatives being taken by the government, regulatory, enterprises and private firms to achieve financial inclusion and a cashless (or a less-cash India) vision. The previous post covered the technological infrastructure emerging in India via the cashless layer riding on top of the India Stack platform and the JAM trio.
The goal of financial inclusion is not new in India. Over the past five decades, the Indian government and banking regulators led by the Reserve Bank of India have put several measures in place, starting with the nationalization of banks (1969), building up a robust bank branch network, and mandating priority sector lending targets.
Within the past decade, it has further focused on increasing customer access to financial services through simpler Know Your Customer (KYC) norms and "no-frills" basic accounts (2005), branchless banking (2006) – which we shall shortly delve into in further detail, and the liberalization of bank branches and ATMs (2009). On a parallel thread, digital banking and payments – through the internet and mobile – have been promoted and encouraged by the Reserve Bank to reduce dependence on paper-based payments such as check and cash.
Customer reach is critical to the vision of financial inclusion
Financial inclusion is the process of ensuring all sections of the country; the vulnerable and poor sections, in particular, have access to appropriate and affordable financial products and services.
The need to look beyond traditional banking
Up until now, the financial inclusion process has put the primary responsibility on banks for serving the ‘bottom of the pyramid’ customers. However, banks alone have been unable to bridge the last mile – the chasm between where the banks are and where the customer is, and have struggled to further extend their network through brick and mortar branches or to address the bottom of the pyramid in cost-effective ways.
A very different approach to traditional banking was introduced in India in 2006 through branchless banking that allowed banks for the first time to appoint business correspondents/business facilitators to act as agents of the banks. As they can function at places other than bank branches, this opened the market for various entities such as the "kirana" (corner grocery store), or the vegetable or fruit vendor at the local "mandai" (market), or the village panchayat office, etc., as they could all be customer service points for individuals to conduct financial transactions and avail of financial services. Until now, India’s business correspondent network has 400,000 agents but the numbers do not match the level of performance that was expected. Inactive agents, agent attritions, poor mobile connectivity, unreliable services and lack of trust among customers persist and the Reserve Bank is taking the lead and working with various stakeholders as these all need to be addressed. With the continuous availability of business correspondents at fixed locations, direct involvement of the bank branch officials in screening, supervising and remuneration of business correspondents, and training to customers, business correspondents and banks, there is potential to strengthen the business correspondent network substantially.
Miles to go
Bridging the last mile is no mean feat as despite more than five decades of work done in this area, between 40%–50% of Indian households today still do not have a bank account or have little or no access to financial services. Hence, that last mile – a target of 90% financial inclusion by 2021 – is actually a massive distance we need to cover if the entire country including the bottom of the pyramid needs to reap the benefits of financial inclusion. And that has necessitated exploring further disruptive approaches to banking.
The next wave of disruption in India’s banking and financial eco-system
Payment Banks: A game changer in the financial ecosystem
In August 2015, the Reserve Bank of India introduced a new type of banking entity known as "payment banks," and in October 2016, announced operating guidelines for them. By leveraging their underlying strength of vast customer reach, each of the final eight payment banks (most have already tied up with one or more traditional banks for financial expertise) will experiment with different products and services as they represent a diverse mix of organizations:
Airtel, previously Airtel MCommerce Services (has tied up with Kotak Mahindra Bank)
Reliance Industries (with State Bank of India)
Aditya Birla Nuvo-which also owns Idea Cellular
Prepaid Payment Instrument Issuer:
Paytm (in which Alibaba has a 25% stake)
FINO PayTech (tied up with ICICI Bank and possibly other banks too)
India Post Payments Bank launched by Government of India’s Department of Posts (is in discussions with several domestic and multinational banks, and the International Finance Corporation)
National Securities Depository (with IDBI Bank)
Payment banks have many competitive advantages over traditional banks that will not only disrupt the financial ecosystem but also strongly augment India’s financial inclusion process as they bring:
1. Focus: Their core task is to provide deposit and payment services to customers; they cannot advance loans. By taking away the lending function, the new banks will be better able to focus on customer reach. (Lending is a key function and revenue source for traditional banks which brings in the additional cost to banks from the risk of lending, and also detracts them from serving the bottom of the pyramid which is characterized by lower margins).
2. Market coverage and Customer Reach: Payment banks formed by India Post and telecoms will leverage their existing geographical reach which is massive. Newer players such as Paytm and Finotech have also demonstrated a strong ability to scale up rapidly in a short duration. They will also need to incorporate the business correspondent network into their market coverage strategy.
3. Digital-first approach: All the new banks are expected to build their products and services on top of the latest digital technology – with mobile as the primary channel, and analytics and automation – at the very start of their operations.
Airtel Payments Bank was the first to start operations in November 2016 with Rajasthan as its pilot market. Over the next couple of years, payment banks will need to overcome a range of challenges and operational hurdles as they develop their business models and experiment with financial products and services.Customer reach through mobile phone and digital adoption – Internet and mobile-based – has seen tremendous growth in India. Mobile phone adoption has surpassed all channels in India, making it the most powerful channel to reach customers:
1. For a population of almost 1.3 billion people, there are more than 1 billion mobile phone users in India today.
2. Mobile-based payments are integral to the vision of cashless India. They also have a huge potential to increase financial inclusion and the unbanked into the banking fold as they bring banks and customers together primarily because of the customer stickiness (increased chance to use products and services) that payments bring.
3. Smartphone penetration in India is around 30% and growing rapidly. However, this means that financial products will need to be offered on feature phones too.
Each of these is a revolutionary development and definitely going to be interesting to watch out for. For the longest time, the traditional banking system has languished for various reasons as it has not been able to extend its reach to bridge the last mile. With the initiatives to introduce payment banks, strengthen the business correspondent network, and use the mobile phone as a customer channel for banking access and payments, the banking network will come closer to where the customer is, thereby bridging the chasm substantially. This decade has us at the threshold of the convergence of two key visions: one is that of financial inclusion (through better customer reach as we saw in this post), and the other is that of a cashless, or a less-cash society (through the use of the India Stack technology platform and JAM, as we saw in the previous post). However, for the convergence to take effect, the implementation is at required at many levels, requiring an interplay of technology and coordination with various stakeholders.
That is when farmers across the country will be able to collect money for their produce directly into their account at their vegetable market directly – all through a few clicks on the mobile phone. We will take a look at how this convergence will happen in the next blog post.