Gagan Pattanayak, have donned multiple hats throughout the last 20 years , mostly in corporate finance, strategy and business development. Currently he is the Chief Revenue Officer at Prodevans Technology and also heads its Singapore subsidiary. Gagan started as an equity research analyst covering renewable energy and emerging technologies and progressed to more technology focused roles. He has been part of multi million dollar M&A transactions and has closed multiple deals across the globe.
Overview and brief history:
The financial services market landscape has changed significantly driven by epoch making advances in the information technology sector. The financial sectors operate through a risk aggregation and redistribution model to create wealth. Recent changes in the technology has made it possible; both in practice and theory to
- Decentralize control on money and Trust — Block chain
- Customize offerings to end customers — Big Data & AI
- Model and estimate risk — Big Data and Internet of Things
- Automate service delivery end to end — Digital Banking
- Confirm trust – Digitized identities
Traditional financials systems operated through standard operating processes to mitigate the risks in each areas of its operation, most of these areas depend on large scale human resources at each stage of service delivery and business processes.
This article focuses on the Indian Banking sector in the context of the digital and technology transformation currently underway. We have gone through bank nationalization (1969) era, liberalization era (1991) that resulted in changes to the credit appraisal mechanism, risk management, overall operations. We also have Tandon committee, Chore committee, Nayak Committee, Basle committee prescriptions defining the overall regulatory approach. The last 5 years have brought forth a challenging situation of mounting NPAs, and disruptive technologies through start ups in the financial inclusion, credit rating & delivery, insurance sectors.
Government of India, the Market regulators and the market players has taken a collaborative approach to invest in and develop the India stack, the payment and settlement backbone since the Payment and Settlement Systems Act 2007, in Dec 2007. Each systemic enablers has been strengthened in a phased manner, this has resulted in a scenario where a digital only bank is possible and we have observed convergence among traditional banks and other financial services players, Telcom operators , payment processing organizations.
We believe the future state of banking will be driven by the following trends
- The disruptions introduced to the banking sector mostly by the digital payment start-ups will force the modernization of the core banking system
- Banking will be more user friendly and lifestyle oriented, with customized offerings to individual prospects. Banks will extend their core systems to offer new products, build digital experiences and shall leverage AI, IOT, ML & cloud technologies using DevSecOps framework.
- The service delivery shall be highly responsive driven by digital identification, automated credit scoring, robotic process automation – augmented by decision support capability of Artificial intelligence and Machine Learning.
- Banks will turn into platforms enabling digital payment platform and will move from a closed and proprietary systems to Open API based systems.
- The Banking platforms will be all encompassing with integrated but independent modules for credit tech, insure tech, investment/wealth tech with digital first service delivery channels that rides on Mobile technologies and focuses on transactions and digital experiences
- Digital security , data privacy, data localization, authentication and identification will be the key risks that the banks will need to address. This will result in multifactor and multichannel authentication at user level.
- User agreements and paperwork shall be digital and will be based on block chain and digital ledger with auto enforcing and auto reminders built in.
- Credit assessment , insurance shall be individual behaviour and transaction history driven based on big data and AI models
The Approach of the Regulator
- Regulatory Sandboxes: It is interesting to note the action of Reserve Bank of India (RBI) in this context. Cognizant of the impact of the digital disruption in the financial sector, the market regulator has adopted the software development practices of
Dev 🡺 QA 🡺 Prod
approach through Regulatory Sandboxes (RS). The RS is, at its core, a formal regulatory programme for market participants to test new products, services or business models with customers in a live environment, subject to certain safeguards and oversight.
- Interoperability: Prepaid Payment Instruments (PPIs) are now mandatory interoperable. The 2018 circular defined a phased approach to interoperability and the recent April 2021 notification enforces All full-KYC PPIs and Payment Acceptance Infrastructure must be compulsorily interoperable.
RBI has mandated that, “ Payment System Operators (PSOs) that use proprietary QR codes shall shift to one or more interoperable QR codes; the process of migration shall be completed by March 31, 2022”
- Financial Market Infrastructure: RBI categorizes Systemically Important Payment Systems (SIPS), Central Securities Depositories (CSDs), Securities Settlement Systems (SSSs), Central Counter Parties (CCPs), and Trade Repositories (TRs) that facilitate the clearing, settlement, and recording of financial transactions as Financial Market Infrastructure(FMI).
The RBI’s “The Oversight Framework for Financial Market Infrastructures (FMIs) and Retail Payment Systems (RPSs) , Version 2.0, July 2020” report defines a policy framework for the FMIs and similar components.
- Open Banking: Consumer’s financial information is usually spread across siloed data warehouses. However, frameworks exist to aggregate such data and current technology has been particularly handy. An Account Aggregator (AA) consolidates financial information of a consumer held with different financial entities, the flow of information takes place through appropriate Application Programming Interfaces (APIs) and is driven by consumer consent. AAs are licensed as NBFCs and the current approach has resulted in application developers building upon NPCI/UPI’s API.
The Indian regulator has co-opted the market in embracing the innovations through Regulatory Sandbox and Reserve Bank Innovation Hub, while cognizant of the data security,
The Macro Picture – Evolving Digital Landscape in India
Technology have played a key role in democratizing access and information while demolishing the barrier to entry for new business, while substantially reducing the cost and time of delivery. The UIDAI provides India a unique and robust framework to digitize almost any repetitive and procedural tasks in reaching out to the citizen. The key features of the evolving ecosystems are
- Estimated 1 Billion Internet users by 2026: It is estimated that ~ 700 Mn Indians have access to internet in FY 2021. This is expected to increase to ~ 1,000 Mn by FY 2026 representing 70% of the total population. The growth is driven by
- reduced smart phone cost (< US$150),
- reduced data cost (data usage per subscriber have increased to 141 GB in 2020 from 3 GB in 2014 , the corresponding change in data cost is ₹ 269 /GB in 2014 to ₹ 10.9 /GB in 2020 )
- Increased Government push for digitization.
- Digital encompassing everything: The digital payment market size in FY 2021 is estimated at ~ US$ 20 trillion with 43 billion transactions. The Worldpay Global Payments Report 2018 observed that in India, while cash continued to be the primary payment method for point of sale purchases (card present), eMoney dominated the online payments (card not present).
While the economy is still cash driven the adoption of digital payments is very encouraging.
This growth is driven by
- Mobile payment
- Higher merchant adoption
- Incentives to digitization
- Lending & [Deposits] from execution pain to automation: The two areas of banking that has stayed relatively immune to the onslaught of Digital in India is Deposit and Lending, however guidelines on Peer to peer transactions are evolving. The formal credit market in India is extensive document based and requires demonstrated steady source of income with active credit history. The average time from origination to disbursal ~ 2 weeks.
- Indian Retail Credit: US$ 550 billion loans outstanding in FY 2021. (household debt as % GDP is 11% (84% of GDP in UK, 55% in China)
- MSME Credit: India have ~ 63 Mn MSME contributing to 30% of GDP and is responsible for 110 Mn job opportunities. Access to credit is an important parameter for growth and 20% of the MSME credit is provided by the formal sector, informal sectors caters to another 40% with a gap of 40%. Digital lenders are targeting this sector lending from their own balance sheet substantially reducing origination to disbursal turn around. Digital companies have alternate credit scoring mechanisms to underwrite loans that consider multiple data points apart from traditional bank statements and credit bureau scores.
- Insurance from risk pooled to risk assesed: The global average insurance penetration is 7.2% vs 3.8% I in India. India’s life insurance market is expected to grow at 13% CAGR during FY 2021-2026 to reach US$ 160-180 billion by FY 2026, driven by The non-life insurance market in India is expected to grow at 15% CAGR to reach US$ 50-60 billion size by FY 2026.
Digital players are targeting the insurance sector by focusing on
- Simple purchase process
- Eliminating the need of an agent for product
- Customized products
- Lower premium costs vs traditional players
- Raising claims is much easier over digital platforms
- Higher transparency
- Wealth – if you can invest at a finger click why not: Investment in financial products forms ~ 41% of total household savings during FY 2012-FY 2020. India remains significantly underpenetrated market with only 3% of total population participating in equity as compared to 55% in US and 13% in China.
The lifestyle offerings on the digital only players creates a stickiness on the platform and this has been established by the value spent on the digital platforms vs age of the customer. All data and analysis points to behavioural change at the customer level and the digital only players are able to capture customer intent and are able to elicit desired responses from them by offering custom experiences to the end user.
The summarize the current status of the market to highlight the potential that digital players are targeting . The table is a summary of the current state in terms of key financial indicators in India vis a vis selected global peers.
|Household debt as % of GDP||11.0%||55.0%||75.0%|
|Credit Card penetration||~4%||53.0%||328.0%|
|Insurance premium as % of GDP||3.8%||4.3%||11.4%|
|% Population participating in stock market||3.0%||13.0%||55.0%|
|Retail mutual fund (AUM as % of GDP)||16.0%||19.0%||145.0%|
This underpenetrated market is now being served through a digital channel through a handheld device. Almost each step of the service delivery process is code driven, automated and largely intelligent. The Digital banking system riding on transactions and focusing on a payment/spend driven credit assessment model is able to create virtuous circle at the debt origination side and closes the gap through automated alert and reminder mechanism on the recovery side.
The business model is primarily driven through mobile app that is engaged with the end user not only on his financial aspects, but also on an overall all lifestyle level. The charts below highlight the current market size and growth potential in US$ Bn.
Digital banking is uniquely positioned to target a upcoming and digital first generation through data intensive decision support systems in a highly responsive, customizable way without the need for any visit to a bank.
|Retail Lending Opportunity||MSME Lending Opportunity|
|Insurance Opportunity||Retail Equity Opportunity|
|Mutual Fund AUM (Retail)||Gold Yearly Investment|
The traditional banking and financial services were an intermediary to the extent of financial transactions among market participants. The consumer never used the banks support to assist in its purchase decisions, however the digital players have managed to blur this line e.g assisting the consumer buying a implement by comparing all options available to him on an easy interface. Such flexibility is impossible for traditional banking players to achieve. The business model of the digital world is presented in the below diagram
Such ability to build and offer services around transactions on top of a payment service is possible because of the underlying key components are responsive. The most important factor in the technology mix is the requirement of on demand infrastructure that allows these entities to have multiple iteration of approaches simultaneously to a similar business use case and reduce the time to market significantly. The technology components are linked to each other in a DevOps framework and follow the continuous integration and continuous development approach with failback and recover to last known state in built. The graphics below presents the modular nature of the architecture deployed by digital players currently.
We believe the traditional banking must recognize the advantages of the digital players and embrace the relevant technologies and frameworks to remain competitive in a digital first world.