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Regulate Payment Systems, But Let In More Players

Medianama has a great post on what the new RBI Governor should do about Mobile Payments.

India has been a graveyard of mobile payment companies (MChek, Paymate and Obopay’s B2C initiatives come to mind), and even those who have survived, had to change their business models and become vendors for banks, because when it came to choosing who to allow to do Mobile Money in India, the Reserve Bank of India went with the banks. Entities that were not banks were only allowed semi-closed wallets (which means consumers can’t withdraw the money deposited in these), licenses take very long to issue, and Airtel Money is the only telecom-related entity to have been allowed a Prepaid payments wallet. Even then, Airtel money users can only withdraw money if their account is linked with a bank. For someone like Beam Money, this didn’t really work out.

One of the key reasons that the RBI does this “semi-closed” wallet licensing and regulates what non-banks can offer is that they are afraid of two things: Money Laundering and an unregulated “float”. Let me explain.

Let’s say there is an instrument that you can pay for, hold as a card or as paper, and then withdraw money from it in cash. This has implications for money laundering, where people who have “black” money can place it in such instruments and then, if there is an income tax raid, they will not find anything (such paper or cards can easily be hidden away). You might think that it’s easy to simply tell all such card instruments that you should have proper KYC – but that will reduce usage; imagine trying to get every prepaid card buyer to give full KYC for each “recharge” or whatever.

And then, there is the float. The concept of the float is that someone holds all the money that is supposed to be held in “lieu” of all the cardholders. This is okay if done within a “closed” system like  gift certificate for a particular shop – you can’t use that gift certificate beyond that shop, and you can’t convert it back to cash. This float makes more sense to regulate if it can be used across multiple areas – for instance buy a card and use that card for buying clothes, paying for tickets and withdrawing cash from an ATM. (“Semi closed” or “open”)

This float can be mismanaged, if not regulated. I could gather all this money and then use 80% of it to buy real estate. At a later point, if enough people ask for money back, I’m screwed because I have no liquidity.

The regulatory framework for any kind of float lies currently within a few regulatory organizations – SEBI (for mutual funds, PMS and brokers), IRDA (for insurance), RBI (Banks and NBFCs). Notable exceptions are things like Post office deposits, chit funds etc. (though they are quasi regulated).

RBI wants to regulate float because, in cases like Sahara or Saradha, float has been horribly mismanaged without much of an idea where the money lies. Therefore, RBI has to have a payment regulatory framework to ensure that the “float” remains in an escrow system within the banking system.

However, what it should do, is remove the onus of this regulation from the banks themselves and instead, place payment organizations directly into RBI regulation. Which means, all reporting of non-closed payment instruments should be the responsibility of the payment organization – the details of “account holders” of all the money, the amounts of each person, where the float lies, how it is invested (it should be investible in, for instance, government bonds) and how much cash inflow and outflow is there (to calculate how much, on average, is the floating cash requirement).

This can be done through an API based system, where all data is both submitted regularly in an electronic fashion to the RBI (in a pre-defined format), and there is also the next step- the ability for RBI to query a payment system’s database for any transaction or detail through a predefined API. Think this is fancy? Banks already have an ADF framework in place for reporting this way, and RBI is well aware of how to extend this system.

Furthermore, pattern recognition of potential money laundering operations should be part of the payment organization, and like banks, they should adhere to a global standard plus locally understood patterns. This is not rocket science.

Remember, no payment system can give out “credit”, so there isn’t that much of a fear of a multiplier effect. (Chit funds on the other hand, do give out credit, and require more attention).

KYC is a pain – and I have often said it is of little use (Don’t Know Your Customer), and that we should do pattern recognition of transactions and user registration instead of an onerous entry gate. But just the presence of an Aadhaar card should be enough to validate any customer, and Dr. Rajan has stated that this could be the level used to allow payment systems to be more open.

If we solve the concerns of float management and money laundering, I believe RBI will be a lot more open to allowing more entities into the payment framework.

And then, given that all banks are now linked through a common technology (the NPCI back-end), we could plug in prepaid cards into the exact same system. All payment systems will maintain every individual customer account with NPCI and therefore the cash is them is known across the system – this way, all payment systems become “Rupay” enabled, and can be used as a debit card anywhere in the country, and even for ATM cash withdrawals!

This requires effort from both RBI and payment system players; both have been loath to engage in further conversation and nail down what would make the whole thing work. RBI has seemed to be “high handed” and wanted to speak only to banks, a position it must change. Payment system builders need to be more accomodative of an extremely paranoid RBI to build trust, and ensure they have proper checks and balances.

India needs payment systems, largely because banks have failed. We need more banks, largely because banks have failed. We need more players to solve individual pieces of the puzzle, and each piece needn’t be solved only by a full fledged bank.

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