Payment Banks Shutting Shop: ‘A Case of Near yet Too Far’
Recently, Aditya Birla Payments Bank (ABPB) announced shutting down its operations from 18 October 2019 citing unanticipated developments in the business landscape that have made the economic model unviable. This is not the first such development related to payment banks (PBs). On 15th July, Vodafone m-Pesa had also shut shop. PBs seem to have failed to achieve the stated objectives, as only four PBs are operational out of 11 licensed players, mainly due to lack of awareness, tighter regulatory restrictions and dearth of innovations in product and services, says a research note.
 
In the report, Dr Soumya Kanti Ghosh, group chief economic adviser of the State Bank of India (SBI), says, "We believe, PBs currently face stringent regulations on both the assets and liabilities sides. On the assets side, PBs face a blanket ban on any type of lending. On the liabilities side too, they cannot accept deposits higher than Rs1 lakh. Besides, capital requirement for a PB is quite steep at 15% of the capital to risk weighted assets ratio. Though the business of PBs is free from credit risk and faces relatively lower market risk, it remains subject to operational and liquidity risks. PBs are turning out to be working merely as an aggregator - a disintermediation vehicle for depositors to invest in government securities (G-Secs)."
 
In 2014, RBI conceptualised the PB model on the recommendation of the Nachiket Mor committee for furthering financial inclusion by providing small savings accounts and payments and remittance services to unorganised sector entities. However, it seems to have failed to achieve the stated objectives, as only four-PBs are operational now out of the 11 licensed players. In the 1990s also, RBI had made an attempt to create local area banks (LABs) that are currently facing a host of issues.
 
PBs face a blanket ban on any type of lending. Besides, apart from the requirement of maintaining cash reserve ratio (CRR) and statutory liquidity ratio (SLR) on the outside liability, they are required to de facto maintain 75% SLR on their demand liabilities and face a cap on keeping deposits with commercial banks at 25% of their current and time deposits. This, SBI says, reduces the business of PBs to that of a fixed spread business akin to asset management companies (AMCs) where higher revenue is directly a function of total deposits mobilised by them.
 
According the report, PBs are subject to a whole host of other regulations that are unique. In particular, the higher disclosure norms that oblige them to share their business plan with the regulator could prove to be somewhat tricky when the business model of the technology-intensive companies itself could be the biggest source of their competitive strength. 
 
There are other regulatory burdens including the requirement of independent directors in a majority (could be a human resources challenge in itself), a minimum of 25% of physical access points in rural areas, a subsidiary structure like non-banking financial companies not being permitted, and non-resident Indian deposits not being permitted, although foreign remittance is, says the report.
 
Dr Ghosh says, "If one takes note of the quick exit of Aditya Birla Payments Bank, some of the factors highlighted above may need revaluation and suitable amendments. The future of the business will be based on transactions, including cash withdrawals though their network of small stores across the hinterland. Fee income generated by selling financial products should be another revenue stream. However, profits are still not in sight. The initial costs of investments and limitations on business operations have limited operations but as more and more people start availing PBs services, we expect revenue to grow."
 
According to SBI, PBs emerging as a real competitor to banks is not a near-term possibility with deposits up to Rs1 lakh comprising only 9% of total deposits of the banking system in terms of value, and 70% in terms of number of accounts.
 
"Alternatively," the report says, "the PB model could still be a success—but only with the universal banks and telecom companies working together having strong infrastructure, deep pockets and network in place. Some of the suggestions to revive the banks could be: arrangement with a universal bank to automatically transfer funds in accounts exceeding Rs1 lakh, access to Aadhaar-based know-your-customer (KYC), as manual KYC is at least three times in terms of cost to e-KYC and the RBI should allow PBs to tie up with third-party services to cross sell products, as margins are small, so scale is very important."
 
"The future is uncertain, but in time we hope PB business will expand and evolve, with the help of regulatory and government support. Then they will able to achieve their objectives," the report from SBI concludes.
 
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    COMMENTS

    B. Yerram Raju

    1 month ago

    Survival of Payment Banks is a fond hope. They are neither proximate nor innovative. Innovation needs risk perception and high abilities to map them in specific time zones and appropriate risk management strategies. As for fees for services, since banks offer for free all internet based services, the other services left are based on customer access far different from those obtaining with Commercial Banks.

    Even Small finance Banks are likely to face the same fate ere long.

    PRAMOD DAS

    1 month ago

    There still alot to be seen in the payment banking space. Regulations are restrictions but the days ahead would have more changes to see. Payment Banks are here to stay.

    Ramesh Poapt

    1 month ago

    too many players in the beginning resulted in this situation.

    REPLY

    Shirish Sadanand Shanbhag

    In Reply to Ramesh Poapt 1 month ago

    I agee with Ramesh ji.

    Sovereign Bonds and the Return of Original Sin
    Sovereign borrowing from/in foreign countries is not a new phenomenon. Documented history since the 15th century shows large-scale sovereign borrowings and a regular history of sovereign defaults too. 
     
    Over the last 300 years, this history shows many ups and downs. However, we will focus only on the period following the Second World War when most of today’s rules governing sovereign borrowings came into being.     
     
    After the Second World War, the evolving monetary arrangement paved the way for more government lending and radically changed the sovereign debt market. The three decades following the War, most lending to developing countries, came from either governments or international institutions such as the World Bank or the International Monetary Fund (IMF). The Paris Club was created in the 1950s to deal with debts (defaults and renegotiation) owed to government agencies or wealthy sovereigns. 
     
     
    However, starting with the 1970s, banks or the London Club began to lend massively to developing countries. The reforms that took shape in Chile had a significant demonstration effect on the less developed countries (LDC) and there was considerable buildup of sovereign debt in foreign currency in many LDCs. 
     
    The Polish and Mexican defaults in 1981 and 1982 temporarily reversed the lending trend, leading to defaults by other countries. But lending resumed and it was not until 1990 that LDCs’ sovereign borrowings became the focus point for financial stability.  
     
    The issue in 1990s in respect of sovereign borrowing was that sovereign risk had become concentrated in the hands of a few banks. To avoid a crisis, the US treasury secretary, Nicholas Brady, announced in 1989 a plan wherein bank debts were exchanged for marketable sovereign bonds with a lower present value but with 30-year US treasury bonds as collateral. Since the peak was attained in 1990, sovereign defaults had a declining trend which ended with the Greece sovereign bond crisis. 
     
    Surprisingly, in this long history of sovereign foreign currency borrowings and defaults, India did not feature anywhere. Perhaps India’s outlook was shaped by the balance of payments (BoP) crisis of 1991 at home and the unfolding LDCs' sovereign bond crisis outside. As a result, sovereign foreign currency borrowings have never made it to the list of policy options, almost never to finance the fiscal deficit. Even the IMF loan, negotiated by India in 1991 during prime minister (PM) Chandrasekhar’s tenure had minimal conditions. Thus, the decision to borrow in foreign currency on commercial terms is a major departure from the stated policy and needs some careful consideration.
     
    The most recent official publication that talks about borrowing in foreign currency to finance fiscal deficit is the Fiscal Responsibility and Budget Management (FRBM) review committee report (Chairperson: NK Singh). Largely unnoticed by most economists, it was in this report (pg 59) that the seed of the proposal to finance fiscal deficit using foreign borrowings were sown.
     
    However, neither the final recommendations mentioned this aspect nor was it taken into account in debt sustainability calculations which gave the target debt-GDP ratio of 60% (40% for the Centre).   
     
    The reasoning goes as follows: “Based on the latest data from the Central Statistics Office (CSO) and the Reserve bank of India (RBI), net household financial savings were reported at 7.6% of GDP for FY15. Further, India’s external borrowing needs can be proxied by its sustainable current deficit India in the medium-term, which is estimated at around 2.3% of GDP. Therefore, a total of 10% of GDP of household savings and external borrowing would be available, which can be assumed to be allocated equally between the public and private sectors. This would lead to a combined fiscal deficit of the Centre and the States of 5% of GDP, and at the same time ensure an investment of 5% of GDP. ”              
     
    The above reasoning is problematic on many counts. Notably, the report did not specify why a drastic change in policy was warranted when the finance commission earlier had recommended only domestic borrowing. Then, in what currency should the government borrow, what should be the end use of the foreign funds, who will bear the cost of exchange rate risk? If the exchange rate risk is left unhedged, how will debt sustainability be impacted? These questions have all been left unanswered. Thus, everything appears to be on soft ground. 
     
    Then the issue of sovereign guarantees already extended in foreign currency has not been discussed at all. It was reported in April that the government of India, in 2009, had issued a sovereign guarantee on behalf of Infrastructure Leasing & Financial Services (IL&FS). Following the crisis in IL&FS, approximately $2 million was paid to the Asian Development Bank (ADB), and about €600,000 to €700,000 have been paid to KfW.
     
    As per the receipts budget 2019-20, the total contingent liability of government of India as of 2017-18 was Rs380,172.80 crore. Of this, Rs304,398.05 crore is towards guarantees given in pursuance of agreements entered into by the government of India with international financial institutions, foreign lending agencies, and foreign governments. 
     
    Thus 80% of the contingent liability has foreign currency risk. Since detailed data on foreign guarantees is not available it is difficult to gauge how much can crystalise in the near future. But a sovereign guarantee in foreign currency can be imagined as a put option on two risky variables—GDP and exchange rate. Given the trends in both, for the holders, this option is gaining in value.    
     
    In conclusion, the decision to tap international markets to finance fiscal deficit is in line with general trends observed across many emerging market economies (EME) since 2013. However, the reasons to change the currency composition have been unique in each case. They range from de-dollarisation to geopolitical calculations, to take the advantage of negative cross-currency swap basis. However in each of these cases there is also a strong cost-risk analysis. 
     
    Surprisingly, the origins of the decision to change currency composition of public debt in India are not very clear. FRBM review committee reports appear to be the most recent source; but the logic used to justify sovereign borrowings is rather convoluted and devoid of any cost-risk analysis. 
     
    (The writer is an economist in the banking sector. Views are personal.
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    COMMENTS

    Doom Dooma Doomsayer

    1 month ago

    The Clinton Curse:

    Thanks for sharing this article on borrowing by nations from other foreign nations. I particularly like the phrase, "The Return of Original Sin." I ask readers to reflect upon the teachings of The Old Testament Book of Deuteronomy, Chapter 28, verse 12.

    12. The Lord will open the heavens, the storehouse of his bounty, to send rain on your land in season and to bless all the work of your hands. You will lend to many nations but will borrow from none.

    Deuteronomy Chapter 28 lists the Blessings for the Obedience and the Curses for the Disobedience of the LORD.

    In my analysis, the US President Bill Clinton disobeyed the LORD in August 1996 when he signed into Public Law popularly known as the Welfare Reform Act or PRWORA. On account of this act of disobedience, President Clinton invited the imposition of LORD's Curse upon the American Nation. The United States is not able to run its government without borrowing money from foreign nations.

    SuchindranathAiyerS

    1 month ago

    Sovereign bonds: The Modi Sarkar having continued the Congress mortgage of the Nation to Moslems, SC, ST, BC, OBC, and Christians, and now looking for additional rentier owners for India have hit on Sovereign Bonds

    Allahabad Bank reports second fraud in a week worth Rs688 crore by SEI Manufacturing
    In a major development that raises serious questions on Allahabad Bank's operation, the state-run bank has reported about being defrauded for the second time in just a week.
     
    After Bhushan Power and Steel, SEL Manufacturing Ltd. (SELM) has defrauded the bank of Rs 688.27 crore.
     
    Allahabad Bank on Saturday informed the stock exchanges that it has been defrauded by Bhushan Power & Steel Ltd (BPSL) to the tune of Rs 1,774.82 crore.
     
    However, the bank on Thursday said "we have to inform that a fully provided Non Performing Account, viz. SEL Manufacturing Ltd. (SELM) with an outstanding due of Rs 688.27 crore for which NCLT proceedings are in progress, has also been declared as fraud and reported to RBI as per regulatory requirement," the bank said in a regulatory filing.
     
    At 12.40 p.m., Allahabad Bank was trading at Rs 42.30, down 2.70 per cent from its previous close. 
     
    Disclaimer: Information, facts or opinions expressed in this news article are presented as sourced from IANS and do not reflect views of Moneylife and hence Moneylife is not responsible or liable for the same. As a source and news provider, IANS is responsible for accuracy, completeness, suitability and validity of any information in this article.
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