K C Chakrabarty: Emerging trends in payment systems and challenges
Inaugural address by Dr K C Chakrabarty, Deputy Governor of the Reserve Bank of India, at
Banknet's 7th Annual Conference on Payment Systems, Mumbai, 19 January 2011.
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The assistance provided by Shri G Padmanabhan, Shri K Vijayakumar and Smt Radha Somakumar in
preparation of this address is gratefully acknowledged.
1. It is a pleasure and privilege to be here at the Banknet's 7th Annual Conference on
Payment Systems. The theme of today's conference - "Moving to next generation payment
systems & solutions" - is fitting especially at a time when the banking industry is going
through a transitional phase of broadening, deepening and strengthening the financial
services available to the masses. I take this opportunity to congratulate Banknet for providing
this platform for the banks, the IT industry and other stakeholders to interact in an attempt to
outperform the global benchmarks and in ensuring greater reach of the banking sector
amongst the masses.
2. An efficient and well run payment system is sine-qua-non for the efficient functioning
of any economy. The smooth functioning of the market infrastructure for enabling payment
and settlement systems is essential for market and financial stability, as also for economic
efficiency, and for the smooth functioning of financial markets. The central bank plays a
crucial role by providing the ultimate settlement asset in the form of central bank money.
3. The importance of a well run payment system was recognised in its entirety as the
financial crisis of 2008 unfolded. But we need to recognise that the financial crisis also
brought to the fore another important lesson. The financial sector and the payment and
settlement system infrastructure have to be subservient to the real sector and no country can
attempt to reverse it as it would be akin to the classical case of putting the cart before the
horse or the tail wagging the dog. The euphoria of financial alchemy might have created a
mirage of the financial sector existing on its own; but the reality is different. Financial sector
is like a wheel which derives its strength and resilience from the real economy which is the
engine of growth. It is this engine which drives the financial sector. Smooth running of these
wheels calls for an efficient payment system which is safe, secure and efficient, thereby,
enabling faster and safer movement of funds in the economy. The legislation of the PSS Act
in India has given a boost to the confidence in the Indian payment system.
4. The topic of my address today - "Emerging Trends in Payment Systems and
Challenges" - is a dynamic one. Although banks are major players in this arena, there are
non-banks players also and any discussion on this would be incomplete without including
them. My speech would, therefore, cover payment products provided both by banks and
non-banks. Let me share some thoughts on (i) initiatives in electronic payment systems,
(ii) other payment products & payment channels and (iii) challenges for banks and regulators.
Initiatives in electronic payment systems
5. Electronic payment products are expected to provide speedier, cheaper and hassle
free payment experience to customers in comparison to traditional paper based payment
instruments. The evolution of electronic payment products in the country have progressed
through two main phases - (i) introductory phase and (ii) rationalization phase. During the
introductory phase, electronic products like ECS and EFT were introduced the country by
Reserve Bank of India. These systems were decentralized serving the population of specific
areas. Straight through pan-India coverage was not provided by these systems. The focus of
Reserve Bank of India during the rationalization phase has been to introduce centralized
payment solutions. This coincided with the implementation of Core Banking Solutions/
centralized liquidity management solutions in banks. The RTGS, NEFT and NECS provided
settlement at a central location.
6. The vision for the next phase was set out in the "Vision Document" on Payment and
Settlement Systems for the year 2009-2012. The document clearly identifies the new
frontiers and a road map for implementation of new projects. The vision includes
implementation of a new RTGS system which would provide additional features including
that for liquidity management, India MoneyLine - a 24x7 system for one-to-one funds
transfers, India Card - a domestic card initiative, redesigned ECS to function as a truly
Automated Clearing House (ACH) for bulk transactions, and mobile payments settlement
network.
7. The growing trend in the usage of various modes of payment is a clear indication of
the momentum acquired in the area of payment systems. (Annex)
Other products and payment channels
8. The card based payment systems have been evolving over the period. The card
based payment system in the country covers credit/debit and prepaid cards. About
230 million cards have been issued in the country. We have been witnessing an increase in
the usage of cards (debit, credit) across various delivery channels like ATMs, POS, internet
transactions, etc. On an average, 396 million transactions of value rupees one lakh crore is
being processed during a month using these cards. The challenging canvas for the central
bank and operators of the various payment systems lies in ensuring that while the various
products are increasingly used across various delivery channels, the security of the payment
systems is not compromised and the customer's funds are protected. This is a big challenge
to be faced to avoid erosion of customer confidence in the new age payment systems. It was
towards this endeavor that RBI mandated the additional factor of authentication for all
cardnot-present transactions, which is perhaps the first attempt made in this direction by any
regulator. We are also in discussion with banks and the card companies to introduce an
authentication system for transactions at POS. At the same time, given the sprouting
instances of cloning happening, particularly with regard to ATM cards, we have also started
contemplating a move over to more secure "Chip and Pin" cards.
9. Subsequent to issuance of the guidelines on prepaid payment instruments, this
segment has also seen a spurt in activity. Banks as well as non-banks currently operate in
the prepaid payments segment. This product segment is being leveraged by non-bank
providers for entry into payments arena. 16 non-bank entities have been given approval to
issue these products. It is heartening to see that these players have been able to bring in
many innovative payment products leveraging payment channels like internet and mobiles.
Currently, on an average 5 lakh payment transactions are processed by these entities.
Reserve Bank would promote the activities of these players so as to make the payments
scenario more vibrant.
10. Mobile phone based payments are one of the important evolutions in payment
systems. The guidelines on mobile banking issued by RBI were an initiative to promote the
orderly development in the use of this channel by banks. Currently, 39 banks have been
granted approval by RBI to provide payment services using this channel. 34 of these banks
have started operations. On an average, 5.5 lakh payment transactions of value rupees
56 crore are being processed through this channel during a month.
11. Banking is an activity which only banks can undertake. For development of mobile
banking, co-operation between the banks and the mobile service providers' is important.
World over the race for mobile companies to become banks and banks to become mobile
service providers have failed. Mobile transaction platforms initially designed by banks or
mobile service providers based on this race have resulted in silos, which provide only limited
transaction ability and almost nil interoperability. This has resulted to stagnation in the growth
potential for such services. A successful model requires building up of partnership
arrangements which leverage on the respective strengths of the stakeholders. The roles and
responsibilities of each partner have to be clearly defined and agreed to. No entity can
consider itself to the dominant partner for deciding on issues like revenue sharing. Further,
no entity can operate a successful service independently in the long run. This realization has
resulted in coming together of operators in US to provide a transaction channel to their
customers which would facilitate the use of bank issued payment instruments - effectively
leading to the clear demarcation of the role of each service provider.
Financial inclusion
12. Although I have listed out the efforts taken by the Reserve Bank in the promotion of
payment systems and for ensuring the operations of efficient and risk free payment systems,
none of these would receive applause unless financial concerns of the underprivileged
sections in the rural and urban areas is addressed by the various participants. The banks
have been including savings and credit/overdraft as major components of the financial
inclusion plans. However, in a country like India where there is a large proportion of migrant
labour, the crying need of the hour is to provide hassle free remittance services to this
segment of the population. It is an unsavoury truth that, today, a migrant category house
maid, even in metropolitan cities like Mumbai, face challenges in remitting funds back to her
village. Let alone an uneducated maid, even the privileged class of people face challenges in
remitting money. The other day, one of our own officers (who obviously believed in
maintaining his anonymity) was turned away by a bank branch in Mumbai when approached
to remit money to his own account maintained with the same bank at an urban centre in a
different part of the country. The reason given the branch manager - the need to adhere to
KYC norms! If the KYC norms are carried by the banks to this extreme to deny service,
despite the person offering to prove his identity, in no time the banking sector will lose this
business to alternative models. Another reason often stated by the bank branches for
denying service is the cash management related issues. While this issue can be reason for
imposing a reasonable charge, I find no justification for denial of service for this reason.
Therefore, addressing this issue needs a clear mind set change on the part of the financial
institutions. Having stated this, I also do clearly appreciate the challenges before the banks
which ranges from identification of various delivery channels, decision making on whether to
leverage on existing technology or adopt a big bang approach, extension of the existing risk
management practices to various delivery channels, acquisition of all these transactions over
the existing settlement networks, adoption of various services as part of their existing
crossselling and co-branding initiatives, fraud prevention and security standards, safeguards
against money laundering, KYC issues and, above all, ability to leverage their existing
reporting, auditing, and campaign management at back end.
13. The ICT enabled channel, including the mobile channel, is the most cost-effective
way to achieve this. As stated earlier, leveraging this channel requires participation from all
stake holders. In this regard, it is encouraging to note that such partnership arrangements
have started to happen. We would be monitoring the developments. Any residual issues in
scaling-up the models would be examined once these arrangements reach a critical mass.
However, we have an open approach and would be ready to intermediate if the specific
issues in this regard are brought to our notice.
14. New initiatives in the oversight of payment systems domain have begun and efforts
to necessitate standards through a consultative process that is need-based and appropriately
calibrated to reflect rational expectations have taken full form. An effort to comply with the
general principles enunciated in the "Report on Central Bank Oversight of Payment and
Settlement Systems" published by the Committee on Payment and Settlement Systems
(CPSS) duly taking into account our practices and requirements has been initiated. The
general principles of oversight are (i) transparency (ii) international standards (iii) effective
powers and capacity (iv) consistency and (v) co-operation with other authorities. RBI
contributes to international oversight and co-operation initiatives as a member of the CPSS,
the SAARC Payments Council and other such bodies.
Challenges ahead
15. The developments in electronic payment products present challenges for both banks
and the regulators. For banks, the challenges arise from technology, customer service and
fraud control points of view. Further, banks would also have to gear-up for competition from
non-bank players. Let me discuss the challenges for banks first.
Outsourcing
16. The fast paced developments in electronic payment products have posed
technological challenges for many banks. In order to provide their customer the latest
payment products, many banks have outsourced these activities to specialized entities. The
numbers of such specialized entities are limited and many of these entities sub-contract the
activities. The concentration of such activities among few service providers is a matter of
major concern. Outsourcing of activities should not result in outsourcing of controls by banks.
That would be tantamount to abdication. I find it strange when banks often approach us for
permitting outsourcing of performing KYC checks. This would be the opposite extreme of the
example I stated earlier. Outsourcing activities should be monitored by banks on a
continuous basis. The operational and concentration risk aspects have to be assessed with
due care on a continuous basis. Outsourcing has to be a measure undertaken to reduce cost
and bring in more efficiency. Outsourcing cannot be a conduit for abdication of responsibility.
Cost
17. Technology driven innovation have to have two effects - (i) speed,
auditability/security etc, (ii) reduction in cost for the consumers. In his recent book Global
Crisis, Recession and Uneven Recovery, Dr Y. V. Reddy writes, "Ethics in globalised
finance.....tended to comply with the formality of transparency, but attached no value to the
fairness of transactions between the contracting parties... The level of interest charged, the
level of profits made, or the level of remunerations to individuals were not required to be
justified as morally right or wrong, because it was left to the markets to determine the
appropriateness of compensations". Extending this to the area of payment and settlement
system which touches the lives of every citizen in a country, I would venture to say that no
technology driven payment system can be called fair unless it is able to bring about an
overall overwhelming reduction in the cost of transactions - achieved through decreased
overheads and increased processing volumes.
18. A review of the progress we have achieved so far makes one conclude that while we
have been able to achieve the first aspect, we are yet to pass on the benefit of reduction in
cost to the customers. In fact, in many cases, the cost of transactions has often increased.
Banks have also found innovative means of sustaining the income even when the regulatory
interventions on charges have happened. What else can justify the customers being charged
for moving money within the same bank from one branch to another? We have often been
confronted with complaints where the customers are charged more for moving funds
intrabank vis-à-vis inter-bank since the latter is regulated by the central bank. Such happenings
defy all logic and needs to be debated in forums like the IBA. The banks often counter this
concern raised by the central bank by arguing that such charges should be best left to the
market. As a person who has seen both sides, I am of the view that while the central bank
need not intervene in the pricing of various payment products, it should not hesitate to step in
if it finds a large section of the customers that cannot afford or are shying away from such
products on account of arbitrary fixing of charges linked to the value of the transactions in a
technology-driven scenario. Rationalisation of service charges for paper and electronic
products by the Reserve Bank was an attempt in this direction. Acquiring space in the
payment systems arena is a huge opportunity for bank and non-bank entities if adopted with
a level playing attitude where the increasing number of customers coming into its fold is the
game changer for pricing strategy. But above all, no attempt would be considered fruitful
without the benefits percolating to the aam aadmi.
19. Having stated the above, I must admit that one reason for costing of electronic
products at a higher band in comparison with the traditional products has been the banks'
attempt to part-recover the cost of deployment of technology. The process of introducing
innovative products in India has been costly for the banks due to the unsystematic
developments during the initial stage of technology deployment by the banking industry. In a
country of our size, co-operative efforts and sharing of infrastructure while deploying
technology is a lost opportunity story.
Customer service - dispute resolution and frauds
Dispute resolution
20. The customer dispute resolution has to be given a greater attention in the promotion
of electronic payment products. Appropriate processes have to be implemented for speedy
resolution of such complaints. The time taken for resolution of such disputes should be
reasonable. In an electronic payment scenario, a time period of 45 to 50 days for dispute
resolution cannot be accepted as normal. Our intervention in the resolution of disputes
related to failed ATM transactions was necessitated by this unreasonable time period. Outlier
issues cannot be the bottlenecks or benchmarks for dispute resolution process. By this logic,
we feel that banks can bring down the 12 day period currently prescribed by RBI for failed
ATM transactions by implementing systems for automatic reversals. The outlier issues like
part cash disbursal have to be resolved through modifications in the ATMs.
21. In this context, the continuing of customer complaints related to failed ATM
transactions is also a matter of concern. We are often asked to mediate cases where the
credits are passed on within the mandatory period and later reversed. Few instances have
come to our notice where the banks take written approvals from customers stating that they
would forgo the penalty amount.
22. The role of system providers in timely redressal of such complaints is important.
NFS accounts for around 98 percent of the inter-bank ATM transactions in the country. The
operators - NPCI - have a role in ensuring that failed transactions involving their network are
conclusively resolved. Being authorized arrangements, they have to also monitor the
practices followed by system participants and report these to the regulator. Let me state in
this connection that RBI has commissioned a survey of customers using the ATMs and
based on the findings appropriate regulatory action would be taken.
Fraud
23. Frauds in an non-electronic payment system were mainly related to tampering of
cheques (Fake/printed cheques and material alterations) or presentation of fraudulent
cheques. These were detectable on close examination at the drawee/drawer bank level.
However, in an electronic payment scenario, funds are disbursed on genuine authentications
stolen by the fraudsters. The establishment of liability in such cases has become challenging.
Identification and prevention of such frauds requires investment in risk management
processes. The risk management process should have built in logic to alert customers or
reach out to customers in case of suspected transactions. I believe that it would be unfair to
dismiss instances of frauds in a technology driven scenario as customer
carelessness/compromise. Banks have to recognize that investment in technology has to
take into account customer education for change over to the new system. Further, the efforts
must be made to put in place checks and balances to prevent such frauds. Customers have
to be made aware of the importance of following certain best practices in a technology driven
scenario and an attempt must be made to put the onus of proving the
carelessness/compromise on the banks rather than the less savvy customers. The system
must also move towards a zero customer liability principle wherever feasible. This alone can
result in increased customer confidence in such technology driven systems. Otherwise, the
acceptance and adoption are bound to be low.
24. Another challenge that has to be highlighted is the growing complexity of payment
products and their impact. The internet and mobile channels are emerging as the most
important channels for commerce. In sync with this, payment products are being developed
to facilitate transactions on these channels. These include customization of existing products
and development of new products. The developments in this field internationally pose a
challenge for regulators. The "World Wide Web" offers options for development of "World
Wide payment systems". Many payment service providers already operate in this domain.
Many of these operators, who are licensed to operate by regulators of their country of
incorporation, solicit customers from across the globe. They do not seek to comply with the
legal/regulatory requirements of the countries covered. Instead, in many such cases the
responsibility of compliance to the local legal/regulatory requirements are bestowed on the
customers who sign-up for such services from these countries, through the "Terms and
Conditions" for online signing-up for such services. These operators do not have any
obligations towards the local regulatory/legal authorities, pose challenges from
KYC/AML/CFT angle. Further, they also do not fall within the gamut of the local customer
redressal measures. We have also initiated action against some such operators. We have
been monitoring the activities of few such operators and would take appropriate action in due
course.
25. The payment card network has been one of the major revolutions in the payment
world. The International network put in place by these multinational organizations have
transformed the payment and settlements arrangements for travel and commerce. However,
the development of these networks has been based on the standard, rules and regulations of
few developed countries. Further, the legal requirements on the country of operation are also
not fully taken into consideration. Our experience shows that the product development
procedures in these organizations do not take into consideration the rules and regulations of
most countries while promoting new products globally. In this context, unlike other countries,
these entities are legally authorized service providers in India. The authorization granted
makes it mandatory for them to comply with all the legal/regulatory requirements of this
country. However, we have come across instances where these local requirements were
repeatedly violated due to poor internal controls in these organizations. For instance, we had
come across instances where some entities have been leveraging the card network to
extend payment and money transfer services across border domestic residents, without
consideration of the local legal/regulatory requirements. Their modus operandi include
shipping prepaid cards denominated in foreign currency into the country, and facilitating the
funding of these cards from other prepaid cards or any other international payments channel.
Another instance is the proliferation of non-bank payment gateway service providers. These
entities based across the globe acquire merchants in any country. Domestic transactions are
masked as foreign currency transactions and settled through overseas acquiring banks.
26. The card payment network has become a conduit for facilitation of initial funding and
customer verification for internet based payment service providers stated earlier. It would be
appropriate that card companies and the member banks take note of these developments
and initiate appropriate and timely action so as to guard themselves against any reputational
risk. We are continuously monitoring the developments and will take strong action against
such violations.
27. This does not mean that Reserve Bank is averse to innovations in payment
systems/products. We have an open mind towards all innovations. Innovations within the
existing legal/regulatory framework are easier to access and authorize; innovations which
require modifications to these would require further debate and above all the enabling legal
mandate. However, all payment system providers would have to be approved under the
payment system act to operate in the country. In this regard, we need to note that USA, a
country which permitted free development of such products, has also started discussions on
licensing and regulation of products.
Conclusion
28. The evolving payment systems scenario offers new challenges and opportunities to
all segments of this industry. To leverage on the opportunities provided by new products, the
system providers/banks need to ensure that the challenges are adequately addressed. It also
has to be ensured that the products cover all segments of the population and provide an
incentive to adopt these products. The regulatory process would support all orderly
development of new systems and processes, within the legal mandate. I hope this
Conference will deliberate on all these issues especially how the aam aadmi can be provided
cost-effective, safe, speedier and hassle free payment and settlement products and
solutions. The challenge before all the stakeholders including banks and non-bank players,
IT vendors, other service providers, etc. is how to introduce such a next generation payment
and settlement system and solutions that is needed to take the country into the 21st century.
Annex
Statistics - at glance