The much awaited payments banks, created to provide financial services to millions of unbanked mainstream consumers, are getting closer to a semi-finished or finished product, fit for market consumption.
The world is inundated with disruptions unleashed by the fintech revolution. Many segments of banking and financial services are likely to be impacted as the fintech impact is felt by the industry. Regulation is not a healing factor.
Digital banks or direct banks or web-based banks have been in vogue for over two decades, and many have come and gone. The first of which was launched in the UK was called First Direct—with branch-less banking.
Today, we have a number of variants to the old themes—Moven, Atom, Fidor, WeBank, GoBank, to list a few. One of the more established ones is Ally Bank, which launched during the financial crisis (spun out from GMAC, formerly General Motors’ financing division), with a product set comprising checking, savings and retirement accounts with web-, mobile-banking and payments services.
All these banks have followed the traditional business model of income derived from net interest income and non-interest income via fees and charges. Efficiency drives the profit pool, and cost of acquisition is the other driver. These banks, as they gain traction and scale, eventually get acquired and become part of mainstream banking.
Then we have payment-focused initiatives that are often referred to as non-bank financial institutions, for the under-banked. Many are either mobile operator-led or pure play remittance services. M-Pesa is the most cited model.
What is M-Pesa? It was originally designed as a system to allow microfinance-loan repayments to be made by phone, reducing the costs associated with handling cash and thus making possible lower interest rates. It was a transformational play, bringing banking to previously unbanked individuals. Loan repayments made easy and made possible via phone—rather than brick and mortar.
Services have been extended to include money transfer, particularly international transfers. Money can be deposited into your account physically at any mobile operator outlets and withdrawn at any other outlet. There are, of course, checks and balances. One can transfer money to family or any other person using this service, with a nationally operating payments platform. This is all relevant and efficient in a country that has very few branches or limited accessibility to banking services.
Money transfers, loan repayments, person-to-person (P2P) transfers, convenient payments such as transport, etc, have underpinned the services offered. Since then, loans and ancillary products have been added to the service.
Has the same service been less successful in other markets? If the primary driver is remittances and P2P transfers, then there are alternative players who provide the same, slashing prices with innovative product delivery approaches. There has also been the issue of money laundering, regulation and bank pressures on the competitive front.
Is this the modified model for payments banks? So, where does this place the payments banks so thoughtfully launched by RBI?
As a result, we have SBI chairperson Arundhati Bhattacharya saying, “Neither payments banks nor small finance banks seem to have as yet devised a business model that can be said as viable.” SBI has tied up with Reliance Industries for a payments bank venture.
There are many business models established in the market to construct one. A partnership with one of the innovative fintech firms may advance the journey of the payment incumbents. There are no advantages of a partnership with larger institutions either. Ally Bank in the US and Goldman are examples. After acquiring the GE venture, Goldman has started a checking account service with a minimum balance of $1. They have 140,000 accounts and $2 billion in deposits.
What is the business model? A 2% yield relative to market price of 10 basis points. How do they make money against this? Cost savings on expense side, investing on AAA to BB grade investments to generate the spread.
It is up to the industry to figure this out along with with other players in the ecosystem. Many have applied for licences, and the business model should have underpinned the grant of the licnece, not the kind of IT systems that one must have. One is necessary for enablement, while the business model is imperative for monetisation.
There are choices—a MasterCard /Visa type of interchange structure where there is a defined model for sharing of revenues amongst the players in the ecosystem. For payments and transfers, the customer funds it. While for commerce transactions, the merchant funds it. The model, as it gains traction, paves the way for other players’ entry.
Another model could be deposits, payment services and additional products like life insurance and a retirement accounts. Making money on spreads on deposits, charge a small fee for remittances and bill payments—again there are market-specific models. For insurance and retirement account, charge a customer acquisition fee and an annual maintenance fee for keeping the account active.
They are just two variances and one can conceive of even a simpler model like Goldman—deposits and payments. Assume that India adds 100 million unbanked to the banking network and with an average deposit of $2,000 (R150,000 limit), we are adding $200 billion liquidity into the system. At a spread of 200 or 250 basis points, that is a $5 billion revenue pool, just on deposits.
There are not only viable business models, but a commercial framework too that paves the way for unlocking the clogged banking system and add liquidity to the economy.
The unbanked population has remained outside the periphery of participating in the economic system to reap the benefits of growth and economic prosperity. Always mobile, hard working and eternally caring for the families, this workforce needs recognition. This is not about financial inclusion but about the financial legitimacy to be recognised for the efforts and sacrifices. The banking system is the second step in this journey, with employment being the first.
Payments bank or micro bank is the right pursuit and India must march towards bringing on board the 300-400 million unbanked individuals and adding another $1 trillion to monetary flows.
The business model exists and it is a vibrant one too.
The author is chairman, Elevate Innovation Partners LLC