Merchant Discount Rate | RuPay’s fading print: MDR pricing to blame?

November 15, 2021 2:45 AM

With RBI’s prohibition for auto-debit payments in recurring transactions and the upcoming restrictions for storage of debit card details by merchants, it is bound to create enough friction for people to move towards alternative payment means like the BHIM-UPI.

Here, we assess the trends and progress of debit card usage since November 2019. Though the Covid-19 pandemic has distorted the trends in two spells, our objective here is to get a general feel of the possible impact of MDR on debit card usage.Here, we assess the trends and progress of debit card usage since November 2019. Though the Covid-19 pandemic has distorted the trends in two spells, our objective here is to get a general feel of the possible impact of MDR on debit card usage.

By Bhavna Sharma & Ashish Das

To promote small ticket debit card merchant transactions up to Rs 2,000, the government, during the calendar years 2018 and 2019, made merchant discount rate (MDR) zero for the merchants, and provided banks a monetary support towards MDR, @ 0.4%. In contrast, effective January 1, 2020, the government made MDR zero for every transaction using RuPay debit cards alone. Neither merchants nor the government paid the banks any MDR for such RuPay-based merchant transactions. However, banks were allowed to impose MDR on the merchants for every transaction using Mastercard/VISA debit cards.

Here, we assess the trends and progress of debit card usage since November 2019. Though the Covid-19 pandemic has distorted the trends in two spells, our objective here is to get a general feel of the possible impact of MDR on debit card usage.

In 2020, with about Rs 6.34 lakh crore worth of debit card merchant transactions, the government has done away with the merchant’s zero MDR regime on ticket sizes up to Rs 2000, for transactions that were done through Mastercard/VISA debit cards. Merchants thus paid about Rs 1154 crore for Mastercard/VISA’s sub-Rs 2,000 transactions that year, against zero in 2018 and 2019.

During early-September 2018 to end-August 2019, there had been a net issuance of about 4.65 crore RuPay debit cards and about 4.28 crore accounts were added under the PMJDY. In contrast, for the subsequent two corresponding tenures, we see a subdued issuance of RuPay debit cards despite fair number of PMJDY accounts being added (respectively, 65 lakh and 3.63 crore over September 2019-August 2020, and 1.51 crore and 2.77 crore over September 2020 to August 2021).

The expanding gap between the new PMJDY accounts and the RuPay debit cards is alarming. Unless there are other extraneous causes, a possible cause for such a trend could be that banks have deliberately moved away from RuPay to promote a card scheme that generates more revenue for them.

To assess the status of RuPay debit cards, we compare the y-o-y growths of new PMJDY accounts opened, RuPay debit cards issued (under the PMJDY), and the overall debit cards outstanding. Though y-o-y growth of new PMJDY accounts opened was relatively consistent, we see a general decline in y-o-y growth of RuPay debit cards issued. While on one hand, y-o-y growth of Rupay debit cards issued under the PMJDY was shrinking, on the other hand, there was a sharp uptick in y-o-y growth of overall debit cards outstanding. This reflects an implicit increase in y-o-y growth of Mastercard/VISA debit cards. During the recent months, the y-o-y growth of mastercard/VISA debit cards is much above 5% unlike that of the RuPay debit cards.

The debit card MDR alone has a limited impact in determining a merchant’s preference for a particular card (over cash) as it is just one of the few other costs associated with card acceptance. Where cash is an alternative and where the merchant attaches significance to ‘cost to merchant’, even if debit card MDR is zero, the merchant should think twice. This is so since he has to pay for (i) the high credit card MDR @ 2-4% and (ii) the high monthly rentals in the range of Rs 200-600 for point-of-sale (POS) terminals, etc. Thus, the preference for debit card acceptance by the merchant is not quite guided by debit card MDR alone since there exist other deterrents, for many small and medium merchants.

For the payments industry, the supply of RuPay debit cards by the banks would be impacted due to differentiated administered pricing on MDR. The administered MDR pricing for RuPay is zero while for mastercard/VISA it is 0.4-0.9%. In presence of such an imbalanced administered pricing, and with merchants’ preference for card acceptance also being guided by considerations other than debit card MDR, the supply of debit cards by banks gets appositely restricted to products (Mastercard/VISA), which generate higher MDR (interchange) or revenue for them, and as a result, the same is promoted by the banks. Because of the twin administered pricing, competition is not resulting in an identical spread of the debit card products, leading to a welfare loss to the society in form of (i) merchants’ and consumers’ depleting choice to harness the benefits of zero MDR on RuPay (due to lack of adequate supply of RuPay debit cards), and (ii) banks no longer having the capacity to produce RuPay as a means for merchant payments (due to commercial considerations).

Mastercard/VISA debit cards generating revenue through MDR may be unfair for RuPay, but this is just the beginning. It is likely that the present approach is only a temporary measure to test how the card payments market responds. We also notice that the asset-lite mobile phone based BHIM-UPI is cannibalising the payments arena.

Acceptance of cards is usually via a combined credit/debit/pre-paid card acceptance product. The MDR for credit cards is not regulated and thus is an expensive proposition for merchants. Merchants may choose to enable themselves for card acceptance; however, it may not be advisable for all small and medium merchants to go for the relatively expensive card-based acceptance especially when BHIM-UPI exists. BHIM-UPI does not cost the merchants anything under extant laws. Moving the country away from cash would hinge on having an equivalent, simple, convenient, and secure digital alternative, like the BHIM-UPI. In September 2021, there were 365.58 crore BHIM-UPI transactions, amounting to a total of Rs 6.55 lakh crore.

RBI has provided the daily data from payment networks for BHIM-UPI and debit cards. Comparing the trends since November 2020, we see that BHIM-UPI volumes have consistently increased, while the debit card transaction volumes are showing signs of decline. Currently, BHIM-UPI is hitting close to 13 crore daily transactions, as against less than one crore for debit card.

With RBI’s prohibition for auto-debit payments in recurring transactions and the upcoming restrictions for storage of debit card details by merchants, it is bound to create enough friction for people to move towards alternative payment means like the BHIM-UPI.

To address the distortions present in the card payment ecosystem, the extant law needs a relook so as to allow low and controlled MDR to be paid uniformly across all card payment schemes. One can take a cue from the MDR caps reasonably set by NPCI for RuPay debit cards prior to 2020. To maintain parity, alongside a revision of MDR caps, the extant mandates that currently promote excessive free cash withdrawals should be revised. Apart from arriving at the number of free ATM cash withdrawals, RBI should arrive at an object-based threshold for the amount of free cash withdrawal per month beyond which banks should disincentivize cash withdrawals.

Edited excerpts from IIT Bombay Technical Report (October 2021) titled Merchant Transactions through Debit Cards

The authors are with SP Jain School of Global Management, and department of mathematics Indian Institute of Technology Bombay, respectively

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