Issue #14 - I Run A Fintech (15/03)

A Primer on NUE

Good Morning,

Did you know that among the 900 million Indians who are banked, only 100-150 million are unique users of digital payments, according to industry estimates. Only 18% of consumption is paid for digitally?

Though this accounts for 50% of US’s population, it is still a fragment of ours. Not only do we have a great scope of growth, but also the scope to improve our infrastructure further. That brings us to NUE or New Umbrella Entity. What is it? Why did RBI introduce it? What could be the possible drawbacks for it?

If you have these questions, read on. This post introduces a a small primer on NUE and tries to answer the above questions.

I hope you enjoy it. Do share it with your friends.


Why are large organizations are applying for NUE licenses?

NUE or “New Umbrella Entity”. Why call it New Umbrella Entity License?

RBI, in its Vision for Payments System 2005-08, envisioned the need for an umbrella organization for ALL retail payment systems in the country. The aim was to use resources through

  1. Consolidation of existing infrastructure

  2. Building new infrastructure

  3. Enable national reach in a seamless manner

The umbrella organization was supposed to

  1. Have robust technology platform

  2. Provide high-quality service to customers

  3. At affordable price structure

Thus, NPCI was set up with RBI and the IBA's (Indian Banking Association) guidance and support as an Umbrella Organization for operating retail payments and settlements systems in India.

Today NPCI governs and manages many facets of payments and settlements systems in India. The first project in 2009 was to manage the ATM network which consisted of 50,000 ATM across 37 member banks called NFS (National Financial Switch). As on 31st Jan’ 21, there were 1176 members that includes 112 Direct, 1013 Sub members, 45 RRBs and 6 WLAOs using NFS network connected to more than 2.51 Lac ATM (including cash deposit machines/recyclers)

NPCI rolled out many products for various Indian demographics and use cases:

  • IMPS in 2010

  • AEPS in 2011

  • Rupay Network and NACH in 2012

  • CTS, APBS in 2013

  • *99# in 2014

  • UPI, BBPS, NETC and BHIM in 2016

  • BharatQR, Rupay Credit in 2017

  • UPI 2.0 in 2018

  • UPI AutoPay in 2020

This made NPCI the umbrella organization for all retail payments in India.

The term "Umbrella" in New Umbrella Entity suggests that the new incorporated entity or entities should have the same operational guidelines as NPCI.

In 2018, 10 years after RBI’s Payments and Settlement vision 2008, they identified and announced in their policy paper "Authorisation of New Retail Payment Systems – Policy Paper" :

“that with a view to minimize the concentration risk in retail payment systems, from a financial stability perspective and to foster innovation and competition, the Reserve Bank would encourage more players to participate in and promote pan-India payment platforms.”

NPCI today accounts for 64% of total volume of digital payments & 40% of all retails payments in India

As per Ken,

"among the 900 million Indians who are banked, only 100-150 million are unique users of digital payments, according to industry estimates. Only 18% of consumption is paid for digitally.

“Till we are able to increase the spend to 50% and at least 50% of the population, we need more entities to expand the market,” says Navin Surya, the chairman emeritus of the Payments Council of India (PCI), a lobby group.

Besides growing the market, RBI felt a rival to NPCI is needed to keep the organisation in check. After all, NPCI is in charge of a payments hydra like UPI that does two billion transactions a month, much more than any other payments system."

Another input from Sanjay Kumar, data can be utilized for various use-cases which include better underwriting, better cross-selling etc.

And that could be right, a payment system actually has a lot of information about you especially if they are managing the entire retail payments:

Let's look at the NPCI framework below. Please note, the illustration has been simplified to explain the narrative:

All offline and online transactions are done within any part of the network which includes withdrawing money to your loan auto-debits to transacting online via Rupay cards / IMPS or UPI or paying your bills are facilitated by NPCI.

This means that NPCI today has an immense amount of data on you that can be utilized for various financial services use-cases.

But given that NPCI is a non-profit institution, there is no reason for it to use or share that for profitable purposes.

If I would classify NPCI as a network++ (similar to Visa and Mastercard) then NUE is nothing but a new network being introduced by the RBI. This new network called “New Umbrella Entity” (like Visa / Mastercard) will help in:

  1. Increasing distribution

  2. Increase competition and therefore better pricing

  3. Better technology support and therefore better products and product experience

  4. Utilize data to offer better instruments and products to the end consumer

RBI's framework for NUE has defined the scope of activities that need to be undertaken by NUE. (I have paraphrased and eliminated some of the activities to simplify) They are:

  1. Set-up, manage and operate new payment systems in the retail space.

  2. Introduce newer payment methods, standards and technologies.

  3. Enhance awareness about payment systems.

  4. Operate clearing and settlement systems for banks and non-banks.

  5. It should ensure that it follows the principles of fairness, equity and competitive neutrality.

  6. Offer innovate payment solutions across various sections of the society with convenience and interoperability.

  7. It should be interoperable with NPCI.

The application form has been split into three sections which the applicant has to submit with detailed justification:

PART A: Applicant Details

  • The primary applicant's business and profile description that is applying for NUE

PART B: Technology, Risks Details

Note: Parties means Banks and Non-Bank participants

Associated Firms Details

  • Details of associated firms/companies with the applicant which include experience in the payments domain

Technology & Security

  • Technology details including

    • The process flow

    • The security implementation plan

    • How will interoperability function

Payment & Settlement Details

  • Will the settlement process be a gross / net or hybrid settlement type

    • Gross Settlement: A settlement between two parties that will be done for each transaction.

    • Net Settlement: A settlement between two parties that will be done end of day by netting off the differences

  • Name and details of the settlement agent that will be involved in this process

  • Whether the applicant or settlement agent act as a central counterparty to provide guaranteed / secured settlement

  • The time to settle i.e which day will the funds be transferred between two parties

  • Payment Type to be setup i.e electronic fund transfer or card based, internet based or mobile based payments

Benefits

  • What are the expected benefits to the financial system of the country

  • Whether payment will cover a region or will it be for the entire country

  • Will it solve the needs of a segment of a population?

Risk Factors

  • Various risks that the payment systems think they will see and their plans to mitigate them

Customer Grievance Redressal

  • Customer grievance redressal mechanism and their detail plan around it which includes

    • Technology

    • Resolution TAT etc

PART C: Financial Details

  • Amount of finance and sources of finance for executing the payments project

  • ROI expected from setting up payments system

  • Plan for earning income on the business

While I think this is a comprehensive application which will force the applicants to provide innovative solutions; there are certain arguments on the NUE.

As of today, RBI has received 6 applications for NUEs in partnership with who's who of Indian and global Giants:

All of these fit the minimum capital criteria that RBI has stated in the guidelines.

Venkatesh argued that introducing NUE is going to bring trouble to the payments ecosystem:

"There is enormous social value in having NPCI and the payments backbone remain a non-profit utility that offers utility pricing. This allows players to innovate on top of this infrastructure at a low cost, thus enabling financial inclusion. The history of stock exchanges converting into listed entities, which end up servicing high frequency traders while disadvantaging the investors and companies they were originally meant to serve, is proof that the private sector is not the solution for all ills.

Ideally, there should have been more transparency and discussion before initiating such a big move, with the objectives and regulatory roadmap clearly explained. Finally, there is the question of regulatory capacity of the state. When multiple NUEs start to operate, does the RBI have the manpower and skills to regulate them? What mechanisms does it have to ensure interoperability? How will it prevent the conflicts of interest that will arise when some of the NUEs provide privileges to their own services, to the detriment of others? What mechanisms are in place to enable dispute resolution? When RBI is unable to prevent the hijack of India’s indigenous UPI infrastructure by Google, how will it regulate much bigger NUEs? Over and above all, RBI must go to extreme lengths to ensure that entities that represent concentration of digital power are not able to control the NUEs."

Further, Mondaq, a content platform mentioned:

  1. the scope of activities mentioned in the Framework are broad and generic and the functions that Umbrella Entities are expected to perform are not clearly articulated in the Framework. Further, considering that Umbrella Entities are permitted to engage in any other business activities to strengthen the retail payment ecosystem, it is not clear how the principles of fairness, equity and competitive neutrality will be applied in order to avoid possible conflict of interest vis. a vis. payment system operated by the Umbrella Entity/group entities of the Umbrella Entity. In this context, it is worthwhile to note that the State Bank of India, is planning to leverage its scale, massive customer base and existing capabilities to offer new digital payment services and is simultaneously examining the possibility of applying for a license under the Framework as well ;

  2. the qualifying criteria for directors, promoters and promoter groups being inherently subjective and open to interpretative ambiguity;

  3. the requirement under the Framework for the promoter to be owned and controlled by resident Indian citizens being in conflict with the Foreign Exchange Management (Non-Debt Instruments) Rules, 2019 which allows for 100% (one hundred percent) foreign direct investment under the automatic route for 'Other Financial Services' regulated by financial sector regulators; and

  4. Interestingly the minimum threshold of INR 500 crores references nominal paid-up capital and should be clarified to include share premium as well, as otherwise this may result in excluding upcoming and promising players in the market that are conducive to innovation and development in the retail payments system space.

I agree with them and further there is no clarity with respect to:

  1. How many entities will be spun off into NUE?

  2. If NUEs become for-profit institutions, and banks have to manage more complex technology, settlement processes, will it increase the prices of goods and services for end consumers?

  3. Is more the merrier? Our payment gateway today spoils us with cards, UPI and PayLater options. Do we need more of them or do we need mature products? Ex: better auto-debit registrations, collection products, reconciliation products, bulk payment products, etc.

  4. Banks already issue Rupay, Visa, Mastercard, Amex, Diner cards for their customers. Is NUE allowed to introduce a new card network? How will the new variants be different from what we have today?

Given that these are RFPs (Request for Proposal), the submitted proposals will remain under the covers until RBI plans to reveal the details.

We also hope that RBI releases a detailed notification with the explanation on the unanswered questions.

Hope you enjoyed this piece!

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References:

  1. New Umbrella Entity - Masterstroke or disaster

  2. India’s Digital Payments Catch

  3. Explanation of NUE License

  4. RBI’s Vision 2019-2021 by PWC

  5. RBI’s Notification on NUE

  6. Digital Fifth Knowledge Session on NUE


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