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Changing the payment ecosystem – UPI

India has taken significant strides in the realm of digital payments, spearheaded by the Unified Payments Interface (UPI). This technology has propelled the country to the forefront of real-time digital transactions, comprising over 40% of such exchanges globally. This remarkable achievement has not only formalized the economy but also fostered financial inclusion and fuelled entrepreneurial prospects, as evident in the burgeoning startup landscape.

In a bid to propel digital payments further, the Reserve Bank of India (RBI) unveiled a proposition on April 6, 2023, to expand UPI’s scope. This proposal entails enabling the utilization of pre-approved credit lines through UPI, aligning with RBI’s 2025 payments vision of augmenting access to formal credit and digital transactions.

A Catalyst for Inclusion

The integration of pre-approved credit lines into UPI holds the potential to unite the formal banking sector and unlock lending opportunities for banks and non-bank financial companies (NBFCs). This move could extend credit access to over 300 million Indian consumers and businesses already active on UPI. While UPI was initially confined to bank accounts and RuPay credit cards, this update permits users to link loan accounts as well, rendering them payable via UPI.

Under the new policy, diverse pre-approved credit line categories including credit cards, small credit lines, and business credit lines have emerged. This innovation opens avenues for banks, NBFCs, Payment Service Providers (PSPs), and FinTech companies to devise inventive credit-oriented products that facilitate embedded financing during UPI-based transactions.

For borrowers, this translates into hassle-free credit access bolstered by UPI’s convenience and security. This development holds the potential to revolutionize sectors like Micro, Small, and Medium Enterprises (MSMEs), which contribute 30% to India’s GDP but often grapple with credit shortages, estimated between $250 billion to $300 billion. UPI-driven lending is poised to enhance the efficiency of banks and NBFCs, enabling swifter and more economical credit disbursal.

Avenues for Innovative Product Design

Banks and PSPs aiming to capitalize on UPI payments and streamline credit distribution costs are set to introduce novel UPI-linked revolving credit lines, instant overdraft/EMI solutions for savings/current accounts, and personal loans for consumers. Banks can offer pre-approved working capital and overdraft credit lines through UPI for business-to-business payments, all within transaction limits. FinTech specializing in digital lending could reimagine Buy Now, Pay Later (BNPL) products, unveiling the latent potential of the digital payment ecosystem.

As this trajectory unfolds, fresh business models may emerge, leveraging FinTechs or UPI payment apps to source customers, facilitate transactions, issue bill payment reminders, and manage repayments. This heightened interoperability within the credit realm can empower FinTech to harness UPI-based lending data for superior user-centric services.

Pioneering Robust Underwriting Models

The digitization of the economy coupled with data availability furnishes a more objective and comprehensive foundation for credit assessment, elevating the quality of lending to both individuals and businesses. This presents a substantial opportunity for the financial services sector while catering to the credit requirements of Indian individuals and businesses.

Effectively underwriting such loan products necessitates harnessing UPI data to construct underwriting models, employing transaction parameters such as declined transactions due to insufficient funds, merchant categories (with jewelers potentially riskier than grocery stores), and geographical locations, to gauge the borrower’s creditworthiness.

Moreover, with expanded credit exposure, lenders are inclined to review their credit portfolios meticulously to avert defaults and maintain Non-Performing Assets (NPAs) within permissible limits. This move is also poised to buoy account aggregators, Technical Service Providers (TSPs), and alternate data providers in the near future.

Charting the Path Ahead

As time progresses, the economic dynamics of digital lending on UPI will crystallize. The Merchant Discount Rate (MDR) – the transaction fee merchants pay for accepting digital payments – will be instrumental in sustaining this ecosystem, alongside interest or revolving income borne by customers availing loans. Acquiring entities that deploy QR codes at merchant venues, could spawn a revenue stream through fee income from merchants for lending services, enhancing affordability. It’s possible that subvention models akin to those in the BNPL ecosystem might emerge as an outcome of this evolution.

In conclusion, India’s strides in the digital payment landscape, driven by UPI, have been monumental. The extension of pre-approved credit lines within the UPI framework promises to usher in a new era of financial inclusion, innovation, and robust credit assessment models, redefining the way Indians interact with financial services and paving the way for a more inclusive and digitally empowered economy.

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