How to Ruin a Fintech
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Well, you would have heard that RBI (Reserve Bank of India) bans PPBL (Paytm Payments Bank Ltd.) from accepting deposits or top-ups in any customer account. The ban includes prepaid instruments, wallets, and FASTags, among others, after February 29, 2024.
And Paytm isn't the only one feeling the RBI's wrath; the whole fintech industry is. The RBI's been keeping a close eye on fintech for a while now.
Other Instances When RBI Did Surgical Strike
This is not just the instance when the RBI clamped down the wings of fintech. In the past, the RBI kept a tight vigil on fintech.
- The RBI increased its risk weight on unsecured lending, resulting in higher capital requirements for a given exposure. This forced lending institution to increase their scrutiny of their fintech partners for bad leads, leading to lower approval rates for the fintech platform
- The DLG guidelines limit the FLDG to 5% of outstanding loan portfolio on FLDG arrangements between NBFCs and fintech entities, which led to lending institutions partnering with a smaller number of fintech players
- RBI banned multiple PGs in 2022 like Razorpay, Cashfree, Paytm, and PayU, to onboard new merchants till these players submit additional documents for the license of Payment Aggregator
- RBI instructed card networks on Feb 15, 2024, to stop card-based business payments through intermediaries to entities not accepting card payments
- RBI Bans Loading of Prepaid Payment Instruments From Credit Lines in 2022
- 28% GST on winnings in the gaming industry
Back to our story of PPBL, this is not the first time RBI has acted against PPBL. Back in 2018 and 2022, RBI banned PPBL from onboarding new customers because PPBL wasn't following the KYC norms properly.
Now, let's talk about HDFC, ICICI Bank, and Axis Bank. When the RBI cracked down on them, they didn't get the ban hammer like PPBL did. Instead, the RBI just gave them a stern warning.
RBI Sought Only an Explanation from HDFC, ICICI Bank and Axis Bank
The RBI summoned the bigwigs from these banks for slacking on KYC norms and other rules. It turns out they weren't doing enough to check on customers, didn't file the right reports when they should've, and mixed up their marketing with their regular banking.
The RBI instructed banks to ensure:
- There are no direct incentives from third-party providers.
- Establish board-approved policies against misselling and conflicts of interest.
- Extension of KYC, AML, and CFT norms to third-party product sales
- Requirement for banks to maintain detailed transaction records.
The RBI handled the banks and the fintech folks differently. Banks got a scolding, but Fintech got the boot. Not fair, right?
What Exactly Happened With Paytm Payments Bank?
The RBI governor, Shaktikanta Das, stated on Monday that the central bank won't reconsider its actions against Paytm Payments Bank. He mentioned that the decision was made after thoroughly evaluating the bank's operations. "Right now, I want to make it clear that there will be no reconsideration of this decision regarding PPBL," he said during a press conference after the Reserve Bank of India's Central Board of Directors meeting.
Regulatory Actions Impacting the Fintech Industry
There is a large hue and cry among fintech players regarding the Paytm Payments Bank fiasco. The players are speculating a larger impact on the sector rather than just being limited to users of Paytm Payments Bank.
The RBI is directly handing bans for violations to the fintech companies but for banks, there always is a period for corrective measures. The banks will be debarred from taking deposits, limit will be put on the remittances till they fall in line with the guidelines.
A group of startup founders has joined forces to support Sharma and his company, Paytm Payments Bank, in their battle against regulatory measures imposed by the Reserve Bank of India (RBI).
The Potential Ramification of PPBL Ban by the RBI
PhonePe backed by Walmart and Google Pay of Google is now commanding 83% of India's rapidly expanding digital payments market.
The recent directive from the Reserve Bank of India (RBI) essentially pushes Paytm towards halting its Paytm Payments Bank operations, a crucial hub for the company's financial transactions. This disruption is likely to erode Paytm's market share further in the UPI (Unified Payments Interface) space, potentially benefiting PhonePe and Google Pay, according to industry insiders, and creating a duopoly.
As per the Parliamentary Committee on Communications and IT, PhonePe held 46.91% of the UPI market share by transaction volume between October and November 2023, while Google Pay captured 36.39% during the same period.
The industry suspects that the RBI’s tightening grip may frighten the investors who are already looking for an exit from the fintech players with a handsome profits but are currently not in sight.
Who Wins from Paytm’s Loss?
According to data from Appfigures, which keeps track of downloads on Google Play for Android phones:
- Paytm saw a decrease in downloads from 10.14 lakh between January 22nd to 31st to 8.67 lahks in the first ten days of February after RBI's ban on its banking and wallet services.
- PhonePe's app downloads surged from 21.95 lakhs in late January to 34.80 lakhs in early February.
- Similarly, Google Pay's downloads increased from 8.44 lakhs to 9.85 lakhs during the same period.
- The Bharat Interface for Money (BHIM) app, operated by the National Payments Corporation of India (NPCI), experienced a significant boost in downloads, more than doubling from 10.26 lakhs to 25.51 lakhs following the RBI's action against Paytm Payments Bank.
Why RBI Treats a Bank Different Than a Fintech Player
There can be several factors why Banks are treated more favorably than fintech but a few important ones are:
- Fintech is seen as riskier than banks. Banks have to keep a capital conservation buffer with the RBI, which can be used in worst-case scenarios like a bank run
- e.g.,The history of fintech players is not so good e.g. some players have connections with China. Hence, RBI is always on the lookout for any lapse
- Sometimes the innovation in the fintech industry can outpace the regulatory framework and later hurt the users financially
But here's the thing—there's a lot of gray area in the rules. And that's causing a lot of head-scratching in the fintech world, leading to mistakes by fintechs.
Cloud of Doubts
The situation in the fintech industry is confusing right now. People who started fintech companies thought that getting a license from the RBI would protect them from any problems. But recent events, like what happened with Paytm Payments Bank, show that having a license doesn't guarantee safety.
The RBI has rules, but they can be understood in different ways by two different players in the same line of business. This makes it hard for fintech companies to know if they're doing things right or not
Guidelines and the Gray Areas
Due to multiple guidelines governing the fintech industry, it has become hard for the fintech players, especially those who are small and those in multiple lines of business, to follow the regulatory compliances.
So if we ask what fintech players in digital lending can do to avoid the bans? Follow the guidelines but which one? There are multiple guidelines, and each one gets interpreted differently by digital lending players. Some of the major guidelines are:
- Storage of Payment System Data
- Digital Lending Guidelines (DLG)
- PA/PG Guidelines
- Privacy Policy
- Master Direction on Digital Payment Security Controls
Storage of payment system data requires all system providers shall ensure that the entire data relating to payment systems operated by digital lending apps are stored in a system only in India. But how does the RBI make sure that all the digital lending apps are following the guidelines? Regular inspections and new monitoring will add an overhead cost.
There are two main guidelines in play in digital lending: the Digital Lending Guidelines (DLG) and the PA/PG Guidelines from the RBI. The DLG states that funds should either be directed to the end borrower or, in special use cases like consumption finance, to the marketplace's account, and there should be no nodal account in between.
On the other hand, the PA/PG guidelines consider e-commerce marketplaces as merchants if they use PA services and suggest that funds should go into a nodal settlement account for settlement with the end seller and marketplace.
This creates a grey area for lenders and the marketplaces as there is no clear sight of the fund flow.
Why Fintechs Are at Whims of the RBI
In India, financial innovations are dominated by the RBI and the Government of India. A few of the major groundbreaking innovations are:
- Unified Payments Interface (UPI)
- RuPay card payment network
- Aadhaar-based e-KYC
- Aadhaar-enabled payment system
- Open Credit Enablement Network (OCEN)
- Bharat Bill Payment System (BBPS)
Government agencies are leading the charge in financial innovations to create a unified financial experience throughout India. Their goal is to ensure that everyone, especially those who have been underserved financially, has access to essential financial services.
With this noble objective in mind, government agencies are spearheading innovations and shaping the direction of fintech companies according to their vision.
What Can Be Done to Make Things Better?
As fintech is poised to grow in India, mostly due to demand-led growth and a huge number of financially underserved populations, the RBI and government can take steps like:
- Setting up a process and committee for regular monitoring of KYC, Anti-money laundering (AML), fund flow and giving time to rectify any lapse
- The RBI should address the gray area of fund flow created because of the DLG and PA/PG guidelines and confusion in the guidelines
- The RBI and government should adopt a mandatory approval process before apps are listed on app stores. The process should involve the registration of the app on a government portal and ongoing monitoring by app stores to identify any violations
- Establishing an industry body to serve as a central point of contact for guidance to fintech firm
- The RBI could empower the industry body to review and approve fintech products and services, ensuring compliance with regulatory standards
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