Questioning the licencing process of payment banks..(Similar to the coal allocation process?)

Ajay Shan and Subho Roy have this food for thought post on the recent licening of payments banks in India. Interestingly, they think bank licencing process is quite similar to the questionable coal block allocation process. This blog had also raised concerns

Obviously given the hype around Indian central bank, this post is likely to be ignored. Worse they call bank licencing similar to the coal allocation process:But it speaks volumes about the so called secretive processes in Indian central bank. It refuses to learn from its less hyped sibling which has more transparent but less celebrated  set of processes. This blog had also raised concerns over this licencing. The chair of the committee recommending such banks was licencing them as well!

The authors list three practices for such licencing  – first where there is free competition between banks and tech companies in payments space. Second where there is a proper code of licencing such entities. Under this, the one who is rejected is given a chance for appealing and hearing its case.  Third is the secretive route of committees which RBI has followed where there is limited accountability. Only a press release which has rosy words suggesting stringent measures have been adopted while selecting such entities.

The RBI recently announced that it has given “in principle” approval to 11 applicants for payments banks licenses. These were chosen from 41applicants who wanted to start payment systems. The manner in which 11 payments banks were short-listed is inconsistent with the rule of law. It is not clear how the RBI came to the number of 11 payments banks, or why licenses were denied to the others.

Right at the outset of this process, it is not clear why RBI chose to use the Banking Regulation Act, 1949 to license “payments banks” when Parliament has made a separate law for governing payment systems under the Payments and Settlement Systems Act, 2007. Since paragraph iv of the payment bank guidelines do not allow such entities to undertake any lending activities, it is not even clear why RBI is classifying them as banks.

The RBI states that an external evaluation committee chose the 11. The RBI claims that the committee determined its own procedure and analysed the applications. Without casting any aspersions on the members of the committee, this is, sadly, not a due process of law.

The RBI notification claims that the committee screened the applicants for financial soundness, fit and proper criteria, physical outreach, business model innovation, capability of volumes of transactions and money and their proposed business plan. Additional data was also requested from the applicants. While this may satisfy a casual reader, these phrases are vague and empty. There is no explanation on how the committee evaluated each criterion mentioned in the paragraph. Were marks given for each criteria? Was there a pre-decided cut off marks below which licenses would be denied? What was the basis/system of providing marks or comparative ranking? How was innovation adjudged and comparatively scored/ranked between the 41 applicants?

In addition to these process failures described above, the RBI guidelines provide no review or appeal provision for rejected applicants. This is also a violation of the rule of law.

They compare it to other such licencing procedures including the coal allocation one:

Compare and contrast this with examples for the existing legal process for selection/short-listing in the government. If you apply for a driving license and it gets rejected, you get a specific reason for the rejection. The Motor Vehicles Rules specify what the department tests. The Motor Vehicles department does not state “the driving instructor will formulate his/her own procedure for determining the competence of the driver”. Giving out licenses to payments banks is more important than giving out driving licenses; the quality of procedure at RBI should be even more thorough than what is done by Motor Vehicles departments all across India.

Look at the UPSC exams which select the senior most officials for all of Government of India and State Governments. There is a set syllabus. The rules about how marking is done are stated before the exam. There is a clear system of assigning ranks. After the examination, the answers are also published for examinees to determine their scores independently and more importantly to understand where they went wrong. The process has a subjective part of interviews; but that forms a smaller component of the overall evaluation which is predominantly objective.

The process used for the entry of payments banks is strikingly different from the quality of governance seen in main line government. It is, however, disturbingly similar to the process of allocating coal blocks through a Screening Committee, which the Supreme Court has held unconstitutional on the grounds that:

  1. The allocation procedure followed by the Screening Committee was arbitrary.
  2. No objective criterion was used to determine the selection of companies.

The Supreme Court found:

The approach had been ad-hoc and casual. There was no fair and transparent procedure,… The Supreme Court judgment gives much insight into the governance problems of RBI, and the concepts that drive the draft Indian Financial Code. It should be noted that the much criticised procedure of the coal ministry was ahead of RBI on good governance procedures in that they released the minutes of the meetings of the Screening Committee while RBI did not.



So far, we have discussed how RBI has run the licensing process. Now we turn to the RBI concept of a scarce number of licenses. Entry problems in public policy fall into two kinds:

  1. Allocation problems: Where the resource is a limited resourceand the number of claimants are more. The system preferred by governments in these types of situations is usually auctions with allocation to the highest bidder. This is used for situations like coal mines or spectrum allocation.
  2. Licensing problems: These are activities where the entity carrying out the activity needs to have certain minimum qualifications. If such qualifications are absent then there is a risk that the activity may generate substantial negative externalities. As an example, an untrained driver may kill innocent bystanders.

Some problems are combination of the two, like the UPSC exams where you need skilled civil servants and the number of positions are limited. In those circumstances, scoring plus comparative ranking is the standard method.

The payments bank licenses are not an allocation problem. There would be no problem if there were 30 payment banks instead of 11. It would have promoted more competition and reduced costs to consumers. The arbitrary setting of numbers of payment banks harks back to the days of the Aluminium Control Order or Steel Control Order or the other Control Orders and Industrial Licenses which plagued the Indian economy before 1992. These laws set arbitrary production quotas and licenses for manufacturing without any rationale. A crucial part of our reforms of 1992 was removing the quotas and industrial licenses. Anyone can start a steel mill now or produce aluminium. there is no limit to the number of steel mills the government will allow.

Even if you were to consider the entry of payments banks as anallocation problem, there is an important governance failure right at the outset. Nowhere in the guidelines for payments banks (or any document that we could find in the public domain) is there any mention of the magic number 11. This is akin to the UPSC deciding on the number of students to take in after the exam. The arbitrariness of the decision is inconsistent with the rule of law.

They then compare this to the processes followed in ignored sibling:

For an example of better governance found within India, consider SEBI. When a person applies to become a stock broker SEBI grants the broker a hearing before rejecting the application and even allows the broker to apply for a reconsideration (See Regulation 8 here). After that, the broker can appeal to the Securities Appellate Tribunal.

As emphasised above, the Constitution of India does not give rope to any part of the State to violate the rule of law while it is learning.  It is hard to see what was difficult about developing a sound rule of law framework. The steps required are quite elementary:

  1. RBI staff could have read the Indian Financial Code and used the procedure there.
  2. SEBI has long had sound entry procedures. RBI staff could have just studied SEBI and emulated them.
  3. These procedures could have been validated against ample international experience which is on the web. UK regulations are available here, in the U.S. it is usually governed under state laws and the New York regulation process is available here. Australia regulates some payment systems under deposit taking regulations which can be seen here.


Well, for all you know RBI has just dumped FSLRC. So it not difficult to figure why they would not have read FSLRC. Looking at SEBI for guidance is like asking for too much humility from the big brother.

RBI is hardly alone on secretive central bank practices. Central banking always been a clubby affair dominated by those with selective degrees and credentials.


2 Responses to “Questioning the licencing process of payment banks..(Similar to the coal allocation process?)”

  1. Shubho Roy Says:

    I disagree with the last paragraph of your blog. It may have been true 100 years ago but isn’t any more. All the major central banks in the common law jurisdictions have on-tap clear licensing regulations with statutory appellate procedures. A system like this would be thrown out by the courts in the UK, USA or Australia

    • Amol Agrawal Says:


      First thanks for such an enlightening post. One hardly knows these issues and was really nice to connect the broad ideas.

      I dont think there is any disagreement really. I agree with your view.

      It may have been thrown in courts in US/UK/Australia but India? I mean look at the treatment meted out by RBI people to FSLRC. This despite the fact that RBI Governor himself was part of FSLRC who conveniently had a change of heart due to change in location. I wish some court/judge (barring Justice Srikrishna who did speak but could not stand to the might of RBI) did tell our central bank to respect the law! Can anyone question or throw out these licences? There will be mayhem saying this is interfering with RBI independence.

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