The RBI needs fintech-led financial inclusion (#76)
Monetary incentives, institutional support, and working with fintech companies are critical to the RBI’s financial inclusion goals
Welcome to the 76th issue of Unit Economics. In this article, I discuss the state of financial inclusion in India, why it's in the common interest of both fintech and the RBI to work towards more inclusion, and how the RBI must enable and employ fintech companies to drive their goals. Dive in!
State of Financial Inclusion in India
It’s a story of two halves.
On the one side, India stands as a pioneer, having increased bank account penetration from less than 50% (2006) to over 95% (2021) of households. Similarly, it has set the global baseline in digital payments, accounting today for 46% of global real-time transactions.
On the other side, it remains a laggard. Take, for instance, mutual funds, where penetration is as low as 3% of the adult population, compared to the 54% in the US. Or formal credit, which is accessed only by 27% of the adult population, a figure 1/3rd of that in the US. Within formal credit, credit card penetration, at 4%, versus 82%, lags even worse.
The RBI tries to put across a more objective definition of the state of financial inclusion with the Financial Inclusion Index (FI-Index), which looks at the sub-indices of Access, Usage, and Quality across key financial products to come up with a single, composite value.
However, considering the low activity in bank accounts, with 43% dormancy, and the low access in investments and formal credit – the composite metric offers too simplified a view, hiding much of the reality.
Financial Inclusion & Fintech in India
This subject has been of interest to Fintech companies not only for the investor slides, but equally for how the pace of financial inclusion shapes their market economics. Some examples of why it matters:
The serviceable market size has stagnated or slowed down in multiple markets (equity, cards, deposits, etc.). Without inroads into the underserved or unserved segments, the market risk increases for investors and dries up capital for companies.
It is getting costlier to serve the same, now over-served, customers. Take credit cards, for instance, where the average CAC – even on digital channels – is upwards of ₹1,500 today. Primarily because of how overcrowded the traditional channels have become, with everyone targeting the same 50Mn-odd carded customers.
New segments or markets allow companies to think differently about their distribution and product strategy. Which, if successful, leads to (a) stronger moats and (b) better financial outcomes. slice, for example, dominated the credit-on-prepaid play due to its special focus on the young, new-to-credit segment.
You may wonder, then, if increasing financial inclusion can have such benefits for fintech companies, why don’t they focus on it and do it themselves? And the common answer to that would be that (1) many already do, and (2) it is 10X tougher to do so in the current environment.
For (1), look at the following examples:
Jar: as Osborne explains in his newsletter, Jar - with its daily micro-investing play – opened up investing in digital gold for 4Mn+ users, of whom 99% were first-time investors.
Jai Kisan: offers equipment-backed loans to farmers in under 10 minutes, and claims to have served over 800,000 farmers
Strata: a platform enabling fractional real-estate access, allowing anyone to invest and own part of properties that would otherwise be unattainable for most
superCard: we, at super.money, opened secured cards to users with as little as ₹100 in fixed-deposit, a value 20X-50X lower than what was the standard for such cards, allowing us to issue 100,000s of previously non-carded users their first credit cards
But note that these stories of achieving success or scale are far and few. This is because, while the fintech companies can solve for accessibility at scale by building lower-cost tech, expanding the pool comes at the cost of (a) building awareness: educating the customers of the workings, benefits, and risks of financial products, and (b) negotiating affordability: pricing products to make them accessible – both of which require capital, time, and support from the ecosystem, before the benefits can accrue.
This is why even the best of the stories – of the PhonePe’s, Razorpay’s, and the like – owe part of their success to the strong external headwinds of (a) demonetisation, (b) COVID, and (c) the payments digitisation push from the government. Each of which allowed awareness and credibility to be built for the financial products, and unlocked a lot of risk capital for the incumbents.
Which brings me to why intervention is important: it has become increasingly clear that for financial inclusion goals to be achieved, the government and regulators must champion and enable fintech companies with financial incentives and access to institutions.
With their technology and access to risk capital, fintech companies have proven that if the market incentives are aligned, they can scale financial services to the remotest corners. And more swiftly than the public entities, including banks.
But to enable this, such companies remain dependent on the regulator and regulated entities. And until the following problems are solved by the two, the fintech-led innovation will remain stifled:
Market-led price discovery in greenfield areas
Expanding to new audiences demands new pricing, and a regulator-dictated fee or pricing leaves less room to experiment for the businesses. For such expansions, most economists would suggest that the pricing be left non-regulated, while the regulator may continue to remain a watchdog. This will allow private entities to price their risk and effort, and make a stronger business case for themselves.
For instance, for all the effort and cost that PhonePe, GPay, and the like bear, they receive a pittance in the form of subsidies. Further, with UPI, even the newer product lines – credit cards or credit lines – have operated with very little clarity on their financial future, forcing many businesses to remain on the sidelines until the clarity is received.
Long-term financial incentives for product innovation
The present mode of enabling product innovation by regulators – via regulatory sandboxes or forced operating circulars – fails to provide private entities with sufficient incentive to get involved or make large bets.
Instead, if along with the guidance, (a) the profits could be protected via intellectual-property rights, or (b) clear monetisation incentives were laid out for early adopters of such initiatives, there would be many more businesses adopting, innovating, and optimising for products like Unified Lending Interface (ULI), e-RUPI, UPI Lite, etc.
Enable access to more experimental REs
The nature of financial services is such that fintech companies must seek a supporting regulated entity (RE) to work with. But with the more conservative outlook of REs, the appetite and focus of the partner institution often ends up becoming a bottleneck for the fintech companies.
Take, for instance, credit lines on UPI (CLOU) - a product expected to open credit lines to the 200Mn+ underserved UPI-active population. The expectation was that it would enable use cases such as micro-credit, end-use controlled credit, EMIs on UPI, among others. And there were many fintech companies which hoped it would. However, two years later, none of it has transpired, largely due to the lack of interest from the banks.
One could wonder that if the small finance banks (SFBs), and potentially NBFCs, were involved as REs earlier — rather than just the scheduled commercial banks (SCBs), the pace and result could have been different today.
This points to how, with new initiatives, it is perhaps prudent if the regulators could involve and earmark more willing regulated entities, while opening access to them for fintech companies.
If you want to share any views or talk casually on the topic, please reach out to me by email or LinkedIn. Until next time!