In recent times, over and again- the government and the RBI has indicated its will in supporting and encouraging digital payments.
From the creation of institutions such as the Payments Bank to the absorption of MDR rates for transactions upto Rs.2000, and even with the setting up of the Nandan Nilekani committee on Digital Payments earlier this year, the government has made its position clear on the way it would like to see India’s payment systems move forward.
The most recent of these is in the announced waiver of MDR.
In the provision of Digital payments, there are several stakeholders with various roles, and their relationships and corresponding incentive structures determine the efficiency of a transaction and as a result of the Digital Payments system as a whole.
The Merchant Discount Rate or MDR is the amount payable by the merchant to the Acquiring Bank for the convenience of offering digital payment solutions to their customers.
The assumptions made in the waiving of MDR are the following
A. That Merchants were currently not offering digital payment options to their ecosystem because MDR rates were acting as a disincentive
B. That the savings of operating cash can be directly equated to the MDR incurred and can be made good by the RBI and banks to the other stakeholders involved.
C. That the mere absence of the Merchant Discount Rate will move Merchants towards encouraging customers and its suppliers towards digital payments
It is submitted that the above assumptions falter in its impact on the following grounds:
- Most of the charges levied upon a customer for receiving or making digital payments occurs at the last mile by merchants. The bank or system provider has no interaction with the customer and as such has no ability to impose any charges.
Merchants do not come within the purview of the Payment and Settlements System Act, 2007.
- With the lack of any incentive to payees or merchants- obligating a merchant to make digital payment options available will have no impact on customer cash behaviour.
Further, the proposed change would have the following undesirable impact.
Impact on Ecosystem
Hitherto, merchants have paid for offering the convenience of digital payments to their customers. This was a simple system of the merchants paying for a service that they offered. In removing this exchange, the following stands to take place:
A. Merchants will be indifferent to digital payments
Removing the costs paid by the entity availing of the service essentially removes the core incentive from the system much like offering any other free good will impact the market that builds, sustains and provides it.
B. Downstream impact of acquisition
Considering that the acquirer sub-ecosystem is largely fed by transactions by large merchants, this has a downstream impact on the existence of such acquirers and as a result on their ability to provide the service to smaller merchants.
C. Impact on infrastructure
With the banks unable to earn from the provision of digital payment services,there will be no further incentive to encourage digital payments or further strengthen the upkeep of the infrastructure. The strength of a digital infrastructure depends substantially on continued innovation and development- which stands at risk when all incentives are removed.
D. Banks forced to Bundle services
If the banks can no longer charge MDR to the merchants, it will no longer be able to offer the service of payment as a stand alone offering.
Banks will now be positioned to only offer payments services to customers that they have an existing banking relationship with and may not be able to further offer banking capabilities such as loans, treasury management services etc.
In appreciating and understanding the motivations of the changes proposed by the government , we propose the following as a manner of achieving the same:
A. Incentivise Acquisition
To truly drive the adoption of digital payments, the market would positively react to incentives rather than a move which aims to level the playing field,i.e: removal of MDR.
On this point, the Nandan Committee report stated this:
- Recommendation 5: The Committee recommends setting up of an ‘Acceptance Development Fund ‘to be used for improving acquiring infrastructure at Tier IV, V and VI areas which will ensure optimum utilisation of millions of cards issued to customers, resulting in increased digitisation in these deficit centres. Issuers must contribute to this fund from the interchange fees, matched by funds from the RBI.
- Recommendation 59: In order to ensure that small merchants continue to accept digital payments, the committee recommends that the Government continue the current scheme to refund the Merchant Discount Rate for small value transactions (under Rs 2000) beyond December 2019 for another two years.
B. Simplify Acquisition Procedures
- Currently there is a requirement for acquiring banks to conduct KYC on the merchant even the merchant does not maintain a float account with this bank. This does not appreciate the fact that the merchant is already a customer with another bank.
- Simplifying the onboarding procedure by moving KYC to a self-declaration mode accompanied by a penny drop in his existing bank account would move this along. Such simplified KYC procedure may be applicable as a function of throughput.
C. Positively Influence the merchant
There is a requirement for a positive push by the merchant as she is the final point of interaction by the customer and stands to the customer on digital payment behaviour. This can be done by the following:
- Positively incentivise the merchant who shows more non-cash than cash transactions.
- Activation targets for merchant upon being onboarded
D. Regulating the Interchange
The Nandan Committee was of the view that the PSOs have kept the interchange high and discouraged acquisition. Hence, a shift is required to incentivize acquisition. For this purpose, the recommendation was that RBI should regulate the interchange. This is also inline with international practices that are emerging. Acquirers can then compete for the merchants businesses on the basis of MDR, and services provided.
Recommendation 3: Keeping in view the fact that there is acute paucity of acquisition infrastructure in the country, and to incentivise acquirers, the committee feels that the regulator must intervene at regular intervals to fine tune interchange fee and to address other related issues, to ensure there is level playing field in the market both for issuer and acquirer.
E. Creation of an Acceptance Development Fund (“ADF”)
Towards achieving,the objectives of (a) waiving MDR that is considered onerous in allowing for merchants to freely offer digital payments as an option to their customers and (b) to have RBI absorb such costs, we propose that the RBI be directed to create an acceptance development fund (“ADF”), which will pay for the MDR chargeable for these prescribed modes,in the case of the transactions where the margin is too thin to support even a minimal MDR.
The ADF could be funded through 5-10% of the interchange costs for all other payments. This could be split proportionally across the issuer, acquirer and payment systems operator, under the regulation of the RBI.
As an industry body in the payments space, we are eager to work with the relevant authorities towards enabling key practical measures in the ecosystem to help grow digital payments and encourage greater merchant acceptance.