Don’t buy the hype over payment banks..

Given the state of banking in the world, one keeps wondering why should there be so much excitement with respect to banking. The banking stocks keep scaling new highs. The margins in banking have been shrinking and likely to shrink further with technology. It is also highly competitive with all kinds of players competing for the space. The business is also highly tricky and cyclical. Today’s good loans are tomorrow’s bad assets if the cycle reverses.

The Indian policymakers look to resolve financial inclusion with another new kinds of banks – small banks and payment banks. The guidelines were released recently and as is the case with anything in India — enormous hype was generated on how financial inclusion is going to happen etc etc.

It is a different story that none of this is really new after all. India has had many such interventions in the past only to find a dead end after some years and hype of initial launch. This only leads to more and more committees to look at what went wrong and how to keep them going as closing banks is  difficult.

In case of small and payment banks, we have had some form existing already. Small banks have existed in form of Local Area Banks and Payment Bank form is India Post and even Sahara NBFC.

In 1997, around 250 applications were received for LABs out of which 10 were given approval  and just 4 remain till date. The licence was on tap as the window closed around 2002. The one major difference between LAB and proposed Small Banks is latter have a national footprint. So it is not really for financial inclusion as it is proposed. There was an effort to open LABs in financial excluded regions. This is not the case for small banks unless they choose to be in such regions. With a rider that small banks will be allowed to convert into large banks overtime, it is like backdoor entry to get into the larger bank system.

For Payment banks, we had a similar structure of Sahara where 80% was invested in SLR and 20% in other entities. Its major business model was around the same. And we very well know what the 20% amounted to. This time the structure is 75% in SLR and 25% in bank deposits (so no Sahara type things possible). So, really there is no asset side. The liabilities have to be funded with just basic fee business. India post is like a payment bank (without the name) which collects deposits and transfers money.

Debashis Basu of Moneyline says don’t buy the payment bank hype. It does not have a business model:

Cold calculations show that these banks are unviable as a standalone business. Payment banks are far from being banks. One, they will make no money on the spread between deposit and investment. Indeed on the deposit side, they will need to pay consistently higher interest to attract deposits. Two, they won’t be allowed to lend, depriving them from of the main source of a bank’s revenue. Its like saying you can start a newspaper as long as you don’t accept advertisements.

Three, probably the main income of the payment banks could be charging for payments and transfers. But large, profitable, existing commercial banks are already offering these services. Why would you open a new account with a payment bank? Which is that market that is unserved?

One economist is starry-eyed that drivers’ and maids’ salaries will get paid through payment banks. But why should they? Small transactions are justifiably dominated by cash. They are simpler and easier for all. Maybe there are transactions of poorer people that payment banks can handle better. But imagine how huge the volumes of such transactions should be for these banks to make money, since they have no other source of net income. And if scores enter this business, they will collectively race to the bottom, exhausting their capital over time.

So on the receipts (income) side, payment banks have a fundamental problem to be viable. What about the channel to remit and deliver cash, or offer loans, the most important requirements for “financial inclusion”? Lending is not allowed, so the first step in “financial inclusion” goes out of the window.

On cash dispensation, it is argued that migrant workers (around 200 million) will find it much easier to send remittances, through the payment banks. How will their cash reach its destination? Well, it was hoped that 950 million cellphone users – 90 per cent prepaid – are being served by millions that will all turn to cash dispensing points, dramatically increasing accessibility. This is unlikely.

Expect more clarifications and ease in restrictions going ahead. Payment banks could be like a kind of small bank..

The game for financial inclusion going ahead is technology not more and more new banks. The mobile is clearly a bank in one’s hand and that is where the attention should be. Using technology, we should scale the number of bank customers with existing banks and their branches/ATMs/Business Correspondents.All these interventions just take the attention away from the agenda.  Our policy has struggled for decades with these new banks and it is only now that we can inlude more people just because of technology and not new banks/branches.

And then financial inclusion is just one side of the story. Unless there is real inclusion, all this comes to nought. One is not surprised to read that most accounts in Jan Dhan have zero balances. People need to have money at the first place  to deposit in banks..

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