Payments banks: investment banking for lower-end of economic activity

Public debate about financial sector reforms has been dominated by the question of allowing foreign banks into the country and of allowing more private players in the country, in addition to diluting the government’s share of public sector banks. The other major talking point has been full capital convertibility, which removed restrictions from funds flowing in and out of the country. But experts in the Reserve Bank of India and in the government have hunkered down to look at the nitty-gritty of banking in India because they believe strongly, and rightly, that if India is to become the economic powerhouse of the world then it is needs a banking sector that can meet the needs of a growing economy. In a way, this has also exposed the apparently empty and populist slogan of financial inclusion, which political leaders of different ideological stripes had been bandying about with abandon these days. 

The creation of Payments Banks is a move to make things easier for low-income people to send and receive, to pay and collect money of their transactions. The remittances that millions of Indians, especially the labour force spread across the Gulf Arab countries, send home will now be cheaper in terms of transaction costs. The big banks have no choice but to charge a uniform price, which is a burden for a person with low income. As a matter of fact, banking costs tempt people to resort to unofficial channels of transferring money, especially the illegal hawala route. Now, the Payments Banks will offer banking services at reasonable costs. Payments Banks will not be confined to receiving remittances only. They will also be catering to small enterprises and make their banking transactions easier and cheaper.

The RBI committee which had been set up to look at the banking sector in the country has recognised that the future of banking lies in niche banking and that this requires differentiated banking licences. The recognition of niche banking has always been there. The merchant banks, which emerged in the late 1980s and which gained prominence in the early 1990s, were the first examples of differentiated and niche banking. They facilitated the public issue of private and public sector businesses. 

There is now recognition that there will be rapid growth of investment banks in India in the near future. This is likely to also pose a challenge to the banking systems as a whole. Recall in this context, how the 2007 global financial meltdown stemmed from the shenanigans of American investment banks. The American government has now decided that investment banks should not be divorced from the general banking activities. So, Indian investment banking too will have to tread a cautious path.

If investment banking is niche banking at the higher end of economic activity, then Payments Banks mark niche banking at the lower end. It is not to be assumed that Payments Banks will remain the small players they are meant to be. The growth and expansion of some of players who have been granted licence to start a Payments Bank cannot be ruled out. Among the 11 players who have been granted licences, one of them is the Department of Posts, which is part of the government. The other is the government-backed National Securities Depository Limited. Two of them are private mobile phone companies.

These licensees have 18 months to roll out their banking services. It is an innovation, an experiment, which could succeed or fail due to hurdles. These niche banks will have to learn as they go along and adapt themselves to the eco-system inhabited by the small-income groups and small enterprises.