RBI recently released a draft policy paper on Indian payment system. The highlight, off-course, is the retail payment segment. NPCI plays a very leading role here, processing nearly 48% of the retail electronic payment transactions (excluding paper) in volume and 15% by value. It manages multiple payment systems, which includes UPI, IMPS, Aadhar enabled payment and the bridge systems, Bharat Bill payment system, Instant Money Transfer. The real time payment has been revolutionized by these innovative set of products. RBI wonders whether this raises the concentration risk in the system and stifle innovation. Since payment system in a country is very critical to the financial performance, the questions are quite relevant and needs further discussions. Hence, RBI has also asked for comments/ reviews on the same before 10th Feb.
If we go by the adage ‘if it ain’t broke, don’t fix it’, then there is not much reason to seek a change. The payment systems are working smoothly and NPCI seems to have done a good job till date. The card systems (RUPAY by NPCI, Visa, Mastercard, Amex, Diners) and the above systems from NPCI have become the mainstay of the retail payment ecosystem with nearly all participants utilizing the same (refer Annex II of RBI Policy Paper). The key question that arises here, is how other countries are handling retail payments, the models being looked at to address issues like that raised by RBI and the lessons that it holds for us. Here, one caution! India is among very few countries who have seen such revolutionization of payment ecosystem especially around ‘fast payments’ i.e. where payments transactions are cleared and settled in near real time basis.
In this article, we will look at UK, USA, China, Singapore, need not be in the same sequence.
UK has recently started their journey towards consolidating its 3 large payment system operators into one single National Payment System Operator (NPSO), currently branded as Pay.uk. This is exactly the reverse of the RBI outlook.
UK Payment Ecosystem:
Bank of England: Prudential regulation framework
Payment System Regulator (PSR): Economic regulation, independent body established under the Financial Services (Banking Reform) Act 2013
Payment System Operators (Till couple of years back)
Bacs Payment Schemes Limited (Bacs): Used to process direct debits, majority of UK salaries and benefit payments
Cheque and Credit Clearing Company Ltd (C&CCC): Self explanatory
Faster Payments Schemes Limited (FPS): Enables real-time transfer of payments as well as the bulk of the UK’s Standing Orders. Paypal is a direct agency of FPS. FPS also manages Paym, the mobile payments services.
The precursor to consolidation
On 29th Nov 2016, PSF released its payment strategy under the title ‘A Payments Strategy for the 21st century” (click here for the report). The report recommended setting up a National Payment System Operator which will take over all the activities of the 3 PSO.
The report evaluated following 3 future scenarios before arriving at its recommendation.
- Evolve further on the prevailing 3 player PSO structure
- Centralized ‘Simplified Payment Platform (SPP)’, where payment services are operated by a single consolidated PSO
- Distributed SPP, a distributed network where every payment system player (PSP) connects directly to other PSP with a central governing body (which can be a central PSO) providing the necessary.
The report highlights detailed business case that was done for each of the 3 scenarios and concluded that the centralized SPP is least costly. Along, with that other key reasons for recommending a centralization of PSO by collapsing the 3 were:
- No common entry point for access
- Different forms of technology & services offered by each scheme which would mean different on-boarding process for each payment services player for each of the 3 PSO
- Potential duplication effort across 3 PSO, which raises the cost of access for the payments community
The advantages stated for NPSO are:
- “Singular view on the strategic development of products and services ensuring that there are no gaps or duplication of services”
- “Single approach to risk management, will enhance security and resilience”
- “Simpler and more effective governance and regulatory oversight, reducing effort and enabling greater focus on key areas”
- “Allow a concentration of operational and risk management resources (as well as supporting services) currently spread across the three PSOs to enhance the overall management of risk and resilience in the systems”
- Enable implementation of NPA (New Payments Architecture), a standard architecture which should drive efficiency and cost optimization
The road ahead
The last 2 years of this consolidation process has not been smooth with major delays and doubts being created on the efficacy of such a consolidation.
“The completion of migration – meaning the start of the availability of NPA to build “overlay services” on top of it – cannot then be before 2024.” (Click here for the news article)
“Even these delays leaves a hiatus, because we won’t be seeing NPA much this side of 2025, judging from where the project stands now” (Click here)
The other challenge is that NPSO is now looking at 9 advisory groups to advise on the new ‘New Payments Architecture (NPA)’. ‘Too many cooks spoils the broth!?’
It is still early days for the consolidation and pundits say that this may well get to 2025/26 for this single entity to function in the desired/ designed manner.
UK position vs. RBI
The similarity in thought
UK seems to have made a choice for consolidation of the payment system operators to bring in standardization (NPA, entry point etc.) to bring in more efficiency and drive down cost. It also highlights the ease of governance. These facts resonates with RBI which duly highlights standardization, economics of scale and governance as three advantages of single/ few payment system operators.
The differences in thoughts
The funny part is on the cons. While RBI highlights concentration risk arising out of single entity, UK PSR looks at it in a different angle when it states
- ‘Allow a concentration of operational and risk management resources’ and
- ‘Single approach to risk management, will enhance security and resilience’
Also; while RBI states that monopoly may result in inefficiency, UK PSR seems to think otherwise, and believes that the standardization will reduce administration & access cost for participants & end users which will ultimately result in lower cost (refer to the detailed business case in the UK report)
Also; on the competition piece, UK authorities seems to side more at looking innovation & competition on the side of payment participants. It goes on to state “Promoting competition by supporting new entrants through comprehensive and consistent application and on-boarding processes”
That brings to the end of comparison with UK and now let us look at USA! Oh! Man! They have quite a different view!
The roadmap for faster payments in USA was outlined in report ‘The U.S. Path to Faster Payments’ released in 2017 (January & July). The report was released in two parts and was authored by the Faster Payments Task Force, assembled by the Federal Reserve taking representatives from organizations across the payment ecosystem. The 2nd part ‘Call to Action’ report details out the recommendation on how US will like to approach the modernization of payment ecosystem.
The recommendation is loud & clear on the road US wants to follow as the report states
“Globally, a number of countries have addressed these challenges through mandates and/or the development of a national faster payments system with a single operator. In contrast, the United States is taking a market-driven approach to payment system innovation that avoids government mandates. This approach relies upon multiple solution operators and other stakeholders voluntarily collaborating to address these challenges.”
While recommending a multiple solution operator ecosystem, it still acknowledges the challenges that can come with such an approach.
“Technical and business process issues can inhibit this interoperability. In addition, solutions may have different rules, policies, and functionality resulting in variations and ambiguity in the end-user experience. Security is also of paramount concern. When multiple solution operators pass payments and share information, a security weakness in any one solution makes the system as a whole more vulnerable”.
USA position vs. RBI
USA think tank seems to support the RBI view that multiple operators will allow better competition and innovation but at the same time echoes the challenges RBI brought forward “However, even when there are multiple system providers, the risk of lack of substitution and market failure in a product may not get addressed because capacity, efficiency, availability, accessibility of systems and services of different payment service providers would not be similar. The feature of facilitating inter-operability would have to be built in the new payment systems being created”
One of the aspect that RBI fails to mention explicitly in its policy paper is ‘security’. With cyber threats looming large and instances of systems being hacked are not so uncommon, a multi-operator system means ‘a security weakness in any one solution makes the system as a whole more vulnerable’.
Not every operator may have sufficient financial strength to focus enough on security and such a compromise, led by business short sightedness, can reduce the trust that Indians do have today on the payment systems.
Let us now look closer to home, our neighbor, China
China has a multi-party payment ecosystem, but the regulator realizes the cons of unhindered growth & licensing of payment players and have hence recently shown the zeal of bringing in a slew of regulations to drive more standardization. The key regulations have been to introduce a multi-dimensional rating system for payment institutions to drive “…. effective supervision of payment institutions, prevention of payment risks, protection of customers’ legitimate rights, rational allocation of regulatory resources and maximized regulatory effectiveness”. Payment institutions are classified into 5 types and 11 ranks, namely A (AAA, AA, A) , B (BBB, BB, B) , C (CCC, CC, C) , D and E.
The 2nd important regulation has been to establish the centralized depository system for client funds that are customers keep with different wallets/ NPIs (Non-Bank Payment Institutions). While currently only 20% (average) of customer funds need to be kept with centralized depository, PBOC plans to increase it to 100% in due time to ensure protection of customer funds. This centralized system “will mainly process the NPIs’ internet payments which involve the use of bank accounts and is committed to provide standard, neutral and secure clearing services for the NPIs. It will cut the direct link between the NPIs and banks, and set a clear boundary between payment and clearing services for risk control. The NPIs will have to get single access to the platform to clear their online transactions”
The main retail payments processors are China UnionPay and third-party payment institutions. China has a strong vibrating retail payment ecosystem dominated by third party institutions like Wechat and Alipay.
China position vs. RBI
China is already in a multi-party payment system operator ecosystem and it is quite vast and vibrant. But PBOC seems to have realized that such an ecosystem is also fraught with higher risk. To address the same, it has initiated the multi-dimensional rating and a rating dependent supervisory model.
The rating system is an important takeaway from RBI perspective. The growth of payment system in China has been primarily due to innovation driven by likes of Alibaba and Tencent and a very vibrating digital customer community. The 3rd party institutions are so strong that to face their fierce competition, several banks including Bank of Shanghai, CITIC Bank, and Bank of Jiangsu waived transaction fees through their online channel.
Singapore had followed a multi-party payment operator system to allow innovation but the central bank (MAS) “has been persuading the industry to undertake various measures to ensure that the solutions are interoperable, within an open architecture”
In the ‘Payment Services Bill’, Singapore government/ MAS aims to drive the above.
This Bill will give MAS formal powers to ensure interoperability of payment solutions, in the interests of consumers and market development. The Bill will provide MAS with the powers to mandate the following outcomes:
- One, a designated payment system operator or major payment institution must allow third parties to access any payment system it operates, and the access regime imposed must be fair and not discriminatory;
- Two, a major payment institution must participate in a specified common platform or equivalent arrangement to achieve interoperability of payment accounts; and
- Three, a major payment institution must adopt a common standard to make widely-used payment acceptance methods interoperable
Singapore position vs. RBI
Singapore seems to align with RBI thoughts on need to have interoperability for a multi-party payment operator/ solution system.
The key takeaways from the lessons that we get from different geographies are:
- Multiple payment system operator seems to be the preferred choice to allow innovation and competition to grow
- Interoperability remains a key ask and a challenge in such a multiparty system
- The change from single player to multiple player is easier done but the same is not true for reverse as seen in UK case.
Recommendation for RBI
- Strong criteria for licensing of such new entities, including capital requirement
- Set common standards, frameworks to drive interoperability from Day 1. Be the torch bearer, rather than expecting industry to evolve one on its own.
- Set strong regulations to safeguard customer money and privacy of customer data
- Provide an overlay layer, potentially at the clearing function, to enable easier & effective monitoring and data assimilation (aka China central depository system which will process all the internet payments originating with non-bank players)
- Lastly, and not least, RBI can look at establishing rating system for non-bank payment operators/ institutions. That can drive better transparency and enforceability of necessary rules.
RBI: Policy Paper on Authorisation of New Retail Payment Systems (Available for comments up to February 20, 2019)
Monetary Authority of Singapore (MAS): “Payment Services Bill” – Second Reading Speech by Mr Ong Ye Kung, Minister For Education, On Behalf of Mr Tharman Shanmugaratnam, Deputy Prime Minister and Minister-In-Charge of The Monetary Authority of Singapore on 14 Jan 2019
PBOC: China Payment System Development Report 2016, released in 2017
UK: New Payment System Operator, PSO DG Report, Final Report 4th May 2017
UK: payments strategy forum, PSF Strategy Development deck on Business Case evaluation Nov 2016
US: The US Path To Faster Payments: Final Report, Part 1 and Part 2, 2017
Image from https://www.federalreserve.gov/paymentsystems.html and https://www.moneycontrol.com/news/business/npci-bans-digital-payments-within-same-account-to-curb-fake-transactions-for-cashback-2746501.html