Globally the payments industry has witnessed a rapid transformation. In India, following demonetisation, people are resorting to digital payments. However, the government’s objective to transition from a less-cash society to a cashless society by relying on digital payments necessitates the establishment of a robust digital payments infrastructure. This will require the government and the regulator to undertake several structural changes in the existing system, including a review of the existing legal and regulatory framework. To begin with, the ‘payment systems’ in India are regulated by RBI under the Payment and Settlement Systems Act, 2007 (PSS Act) and the rules/notifications issued thereunder. Under the PSS Act, an entity (other than a payment system operated by RBI) requires an authorisation from RBI for operating or commencing a ‘payment system’ as defined under the PSS Act. Accordingly, as on February 1, RBI has authorised around 76 payment system operators under the PSS Act, including the NPCI, various card payment networks, prepaid payment instruments, ATM Networks, etc.
Traditionally, the payment systems industry has been bank centric, with major payment systems in India such RTGS, NEFT, IMPS, UPI being operated either by RBI itself or NPCI, which is owned by a consortium of major banks. However, with the emergence of fintech companies providing payment services under the PSS Act, digital payments have emerged as a distinct industry. Despite this, the Indian market has not been able to utilise the full potential of these companies due to some inherent deficiencies/anti-competitive practices in the payment ecosystem. One such notable instance, is in the case of NEFT, RTGS which is operated by RBI as well as regulated by it, thereby violating the principles of ‘competitive neutrality’ and creating a conflict of interest. Unlike other common law jurisdictions, the existing Indian law fails to separate the functions of payment regulation and central banking by RBI, thereby inhibiting competition and innovation in the digital payments space.
Similarly, the Board for Regulation and Supervision of Payment and Settlement Systems within RBI (BPSS), which discharges the regulatory functions vested in RBI by the PSS Act is also not independent of RBI and is in fact, a sub-committee of RBI. Another issue which has often been raised by non-bank entities is the discriminatory practices in the access to essential payment infrastructure by these entities. This issue has also been highlighted in the recent Report of the Committee on Digital Payments headed by Ratan Watal (“Watal Committee Report”) wherein it was noted that since the existing law does not mandate authorised payment systems to provide open access to all payment system providers, the access to payment systems by new non-banks payment system providers, like the fintech companies have been unduly restricted.
In such a scenario, the only option for such fintech companies is to access payment systems through the banks, which are also their competitors in the payments service space. For instance, it is worthwhile to note that the access to UPI which has been touted as a game changer has been restricted to banks, thereby preventing other non-bank entities like e-wallets and other pre-paid instruments from availing any benefit from it. Against this background, it becomes imperative to ensure a level playing field between the bank and non-bank entities, the public and private entities providing payment services to enable the markets to be accessible, inclusive and competitive. In order to maintain this level playing field, one of the most important aspects is that the RBI, which currently regulates the payment systems in India, should not operate/run any payment systems.
In this regard, the Watal Committee Report has recommended setting up an independent regulator for the payment systems or in the alternative making the existing BPSS within RBI more independent. While considering the option to have an independent payment regulator, it must be appreciated that RBI has the potential to ensure consistent regulation across the industry and that the main need of the hour is actually to maintain independence between different functions of the central banking system and the payment system. Further, the composition of the BPSS, has also been under criticism inasmuch as it fails to appreciate the fact that members must have requisite skills and accordingly, there is a need to bring into relevant expertise in the Board.
In addition to these, the existing law fails to provide for a comprehensive consumer protection framework. The rising number of users of digital payment services necessitates that legislative safeguards are built in the PSS Act to protect such consumers, including without limitation declaration of terms and conditions by the payment service providers to the consumers, provision of internal dispute resolution mechanism by the payment system providers to resolve consumer complaints, etc. The regulator should also consider setting up a customer protection fund with the objective of protecting end consumers when a payment participant fails to honour its obligations and to maintain settlement clearances. Further, the present law must also address data protection issues, which have become critical with the rise in the number of digital payments.
As far as differential regulation of payment systems based on their structures are concerned, regulation should be risk-based, with different payment systems facing similar risks being placed in one category. While under the PSS Act, RBI is empowered to issue directions to such participants in the payment system which pose systemic risk, it may be useful to identify such critical payment systems and classify them as systemically important payment systems along the lines of the systemically important NBFCs. In this regard, the regulator must issue rules/guidelines setting out the criteria for designating a payment system as systemically important and accordingly such payment systems may be subject to more regulatory scrutiny. This will ensure that risks associated with such systemically important payment systems do not cause disruptions/settlement failures in other participants thereby adversely impacting the financial stability of the economy.
Further, with a view to encourage innovation and entry of more players in the industry, the Financial Sector Legislative Reforms Commission’s, Report of Working Group on Payments recommended that the government should permit self-registration of payment system providers. This self-registration along with self-certification identifying the technical risks or systemic risks (if any) faced by it will give the payment service providers the freedom to innovate and develop. Needless, to mention that the level of intrusiveness by the regulator may vary depending on the risks associated with different entities.
While new businesses may need only self-registration and self-certification, systemically important payment systems may need to submit to stronger regulatory oversight. Policy making in response to the innovations in the digital payment space requires the regulator to maintain a fine balance between the prudential and systemic risks and the provision of level playing field for emerging technologies and new players. A legal framework which addresses the aforesaid issues and sets out the rights and obligations of the payment system participants will go a long way in building a robust ecosystem.
Such a framework must also be aligned with the new insolvency and banking laws to avoid any conflicts with such laws. The digital payment industry has undergone tremendous changes since the enactment of the PSS Act and it is likely to undergo further changes with the emergence of new technologies and participants. Accordingly, any legal framework for the payment systems industry must enable and promote such changes, innovation and competition in the industry without creating any unnecessary legal and regulatory hurdles. This will also inspire confidence in the players of the financial system and bring about the much-needed stability and integrity in the digital payment industry.
By Shehnaz Ahmed