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PaymentandSettlement:ThePlumbingintheArchitectureofIndia'sFinancialSystem ShashiKantandSaratChandraDhal

In India, the policy approach to build a less-cash Committee on Deepening of Digital Payments economy, while ensuring safe, secure, efficient and constituted by RBI submitted its report in May robust payment systems, has yielded phenomenal 2019. It reviewed the level of digitisation and growth in digital transactions. Mobile wallets have recommended ways to encourage its adoption. It literally made banking services available 'on tap' also suggested means to strengthen security aspects while digital-only banks have done away with the of digital payment infrastructure and instil need for brick and mortar presence. Biometric customer confidence in digital transactions. authentication has made doing transactions much There has been a consistent growth in individual safer and more convenient than the conventional segments of retail electronic payment systems and modesofpayment.Inaddition,theuseofArtificial decline in paper-based transactions. Retail Intelligence (AI) is generating a technological wave Electronic Clearing Services (RECS), comprising in the Fintech industry in the form of automated Electronic Clearing Service (ECS), Electronic data analysis, chatbots and robo-advisers. Funds Transfer (EFT), National Electronic Funds India ranks second in terms of FinTech adoption. Transfer (NEFT), Immediate Payment Service The Unified Payments Interface (UPI), Bharat Bill (IMPS) and National Automated Clearing House Payment System (BBPS), Bharat QR and Aadhaar- (NACH), witnessed overall transaction volume enabled Payment System (AePS) are proving to be growthduring2018-19,similartothepreviousyear. game-changers in digital payments, online Immediate Payment Service (IMPS) is an instant payment platforms and fund transfers, driving payment inter-bank electronic funds transfer efficiency gains in the financial sector. RBI is also system in India, enabling customers to operate examining the possibility of making NEFT through mobile phones. Unlike NEFT and RTGS, available 24x7. RBI has implemented an the service is available twenty-four hours and 'Ombudsman Scheme for Digital Transactions' to throughout the year including bank holidays. Since provide an economical and expeditious grievance its launch in November 22, 2010, the IMPS has redressal mechanism for strengthening consumer registered high growth momentum. Similar to the confidence in digital channels. According to the IMPS, UPI is an immediate money transfer system Report on Benchmarking India's Payment Systems, that enables round the clock interbank fund

India has a leading position in terms of several transfer, throughout the year. Since its commercial July2019 parameters pertaining to digital transaction, launch in August 2016, it has seen a mammoth rise technology infrastructure, and payment and in volumes by far exceeding the transactions done settlement laws and regulation. In addition, there on the IMPS platform. Reflecting the impact of exists vast potential for growth of digital digitalisation, Cheque Truncation System (CTS) transactions in India owing to low per capita witnessed a negative growth while the volume of quantum currently. digital transactions using the mobile banking

channelhaswitnessedsharpannualincreases. CCIL MonthlyNewsletter With a view to understanding the Indian payment ecosystem and its challenges, a High Level Source: www.rbi.org.in

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Bigtechinfinance:opportunitiesandrisks BISAnnualEconomicReport-June23,2019

Technologyfirmshavegrownrapidlyoverthelast have become more widely used as an alternative to two decades. An essential by-product of their other electronic payment means such as credit and business is the large stock of user data utilised as debit cards. input to offer a range of services that exploit Big techs' payment platforms currently are of two natural network effects, generating further user distinct types. In the first type, the “overlay” activity. Increased user activity then completes the system, users rely on existing third-party circle,asitgeneratesyetmoredata. infrastructures, such as credit card or retail Some big techs have ventured into financial payment systems, to process and settle payments services, including payments, money management, (e.g. ApplePay, Google Pay, PayPal). In the second, insurance and lending. As yet, financial services are users can make payments which are processed and only a small part of their business globally. But settled on a system proprietary to the big tech given their size and customer reach, big techs' entry (e.g.Alipay, M-Pesa,WePay).While big techs' intofinancehasthepotentialtosparkrapidchange payment platforms compete with those provided in the industry. Big techs' low-cost structure by banks, they still largely depend on banks. In the business can easily be scaled up to provide basic first type, directly so; in the second, users require a financial services, especially in places where a large bank account or a credit/debit card to channel part of the population remains unbanked. Using moneyintoandoutofthenetwork. big data and analysis of the network structure in Some big techs use their wide customer network their established platforms, big techs can assess the and brand name recognition to offer money riskiness of borrowers, reducing the need for market funds and insurance products on their collateral to assure repayment. As such, big techs platforms. On big tech payment platforms, stand to enhance the efficiency of financial services customers often maintain a balance in their provision, promote financial inclusion and allow accounts. To put these funds to use, big techs offer associatedgainsineconomicactivity. money market funds (MMFs) as short-term The activities of big techs in finance are a special investments. The MMF products offered are either case of broader fintech innovation. Fintech refers managed by companies affiliated with the big tech to technology-enabled innovation in financial firm or by third parties. By analysing their July2019 services, including the resulting new business customers' investment and withdrawal patterns, models, applications, processes and products. big techs can closely manage the MMFs' liquidity. While fintech companies are set up to operate This allows them to offer users the possibility to primarily in financial services, big tech firms offer invest (and withdraw) their funds almost financial services as part of a much wider set of instantaneously. Building on their e-commerce activities. Payments were the first financial service platforms, some big techs have ventured into big techs offered, mainly to help over come the lack lending, mainly to SMEs and consumers. Loans CCIL MonthlyNewsletter of trust between buyers and sellers on e-commerce offered are typically credit lines or small loans with platforms. Over time, bigtechs' payment services short maturity (up to one year). Despite its

24 ARtICLE SUMMARY substantial recent growth, total fintech credit still externalities to increase user switching costs or constitutesaverysmallproportionofoverallcredit. exclude potential competitors.

Data analytics, network externalities and Another, newer type of risk is the anti competitive interwoven activities (“DNA”) constitute the key use of data. Given their scale and technology, big features of big techs' business models. Financial techs have the ability to collect massive amounts of services both benefit from and fuel the DNA data at near zero cost. This gives rise to “digital feedback loop. Offering financial services can monopolies” or “data-opolies”.Once their complement and reinforce big techs' commercial dominant position in data is established, big techs activities. Big techs' DNA can lower the barriers to can engage in price discrimination and extract provision of financial services by reducing rents. They may use their data not only to assess a information and transaction costs, and thereby potential borrower's creditworthiness, but also to enhance financial inclusion. However, these gains identify the highest rate the borrower would be vary by financial service and could come with new willing to pay for a loan or the highest premium a risksandmarketfailures. clientwouldpayforinsurance.

The cost of enforcing loan repayments is an Traditionally, financial regulation is aimed at important component of total financial ensuring the solvency of individual financial intermediation cost. Big techs can address these institutions and the soundness of the financial issues differently. When a borrower is closely system as a whole. It also incorporates consumer integrated in an e-commerce platform, for example, protection goals. The policy instruments used to it may be relatively easy for abig tech to deduct the achieve these goals are well understood, ranging (monthly) payments on a credit line from the from capital and liquidity requirements in the case borrower's revenues that transit through its of banks to the regulation of conduct for consumer payment account. In contrast, banks may not be in protection. When bigtechs' activity falls squarely the position to do so as the borrower can have within the scope of traditional financial accounts with other banks. Given network effects regulation, the same principles should apply to and high switching costs, big techs could also them. However, two additional features make the enforce loan repayments by the simple threat of a formulation of the policy response more downgrade or an exclusion from their ecosystem if challenging for big techs. First, big techs' activity in in default. finance may warrant a more comprehensive approach that encompasses not only financial Big techs' role in financial services brings efficiency

regulation but also competition and data privacy July2019 gains and lowers barriers to the provision of objectives. Second, even when the policy goals are financial services, but the very features that bring well articulated, the specific policy tools should benefits also have the potential to generate new actuallybeshowntopromotethoseobjectives. risks and costs associated with market power. Once a captive ecosystem is established, potential In the face of the rapid and global digitisation of competitors have little scope to build rival the economy, policymakers need institutional platforms. Dominant platforms can consolidate mechanisms to stay abreast of developments and to their position by raising entry barriers. They can learn from and coordinate with each other. Some CCIL MonthlyNewsletter exploit their market power and network countries have set up innovation facilitators,

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including hubs and accelerators, which provide a Financial regulators focus on the specifics of the forum for knowledge-sharing,and may involve financial sector, whereas competition and data active collaboration or even funding for new privacy laws often impose general standards that players. Regulatory sandboxes (e.g. in Hong Kong, apply to a wide range of businesses. As the digital Singapore and the United Kingdom) let innovators economy expands across borders, there is a need for test their products under regulatory oversight. international coordination of rules and standards Hubs, accelerators and sandboxes can help to (e.g. for data exchange). To prevent those ensure a dynamic financial landscape - one that is differences from leading to conflicting actions, not necessarily dominated by just a few players. At policymakersnotonlyneedanewcompassbutalso the same time, their setup requires careful design need to find the right balance of public policy and implementation, to avoid regulatory arbitrage tools. andtonotprovidesignsofsupportfornewbutstill Source: www.bis.org speculative projects.

July2019

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BISAnnualEconomicReport,July2019

Thelatestannualeconomicreportpublishedbythe direct or indirect links with China, as direct fallout Bank of International Settlements (BIS) speaks of of the trade conflict. Conditions eased however, unevengrowthintheglobaleconomy,withservices after the Fed eased monetary policy stance in early sector showing more resilience than its 2019, before tightening again in May, on renewed manufacturing counterpart. Although labour trade tensions. markets remain buoyant, trade and manufacturing Apart from trade tension related uncertainty, might slow further. Deleveraging in emerging weakening of the demand for electronic goods also market economies (EMEs) and corporate stress slowed global growth, albeit temporarily. More mightalsoactasdragsonglobalgrowth.Thereport significant impact was however dealt by the underlines the key point that monetary policy Chinese authorities' efforts to contain leverage and should be replaced by fiscal and prudential policy rebalance the economic growth towards a assustainabledriversofgrowth. consumption driven one. The resultant tightening Following a robust 2017, global growth slowed impacted the global equity markets. Political down considerably in 2018, pulled down by trade. uncertainty in a number of countries in Europe Capital investment in Europe, China and other collectively raised uncertainty in the global Asian EMEs slid downwards, and economies financial markets as well. On the positive aspect, exhibited contractionary signals at the beginning private consumption propelled by a buoyant of 2019. Consumption remained resilient though, labourmarkethelpedbuttressglobaldemand. with expansionary efforts by China boosting For the countries not at the heart of the global growth in the respective economy. Renewed trade financial crisis (GFC), household debt reached tensions have again clouded the horizon though. historical highs, and house price growth has stalled Japan was impacted by slowing export growth and in many. Worryingly, debt servicing ratio remained natural disasters, while key EMEs suffered from high in many EMEs, particularly in Asia, despite low private investment and a contraction in export low interest rates. Some advanced economies (AEs) orders. Turkey and Argentina experienced a have begun to observe a price correction in currency crisis due to over dependence on foreign residential housing as a result. This combined funding, which experienced liquidity tightening. effect has begun to impact private consumption in Growthforecastwasfor2019. these economies, which corroborate recent Major central banks eased their monetary stance as findings about a close correlation between the two July2019 a reaction to tightening liquidity conditions, led by variables. China and the US. Fall in oil prices corresponded Corporate leveraging has emerged as another area with a decline in inflation around the world, also of concern. In the US, leveraging breached historic reflecting the absence of any significant labour cost levels achieved in the early 2000s. Leveraging was pressure. Fall in US equity market was perceived to high in Asia too, as global lending to leveraged beduetoexpectationsofmonetarypolicyeasingby

firms reached a sizable amount. Issuance of CCIL MonthlyNewsletter the Fed, together with corporate profit uncertainty. corporate bonds with the lowest investment grade Profits appeared to decline more at firms with

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ratings has increased significantly in both Europe inflation expectations back towards target level and and the US. A further drop in ratings could result help assuage financial market volatility. In weaker into a market meltdown with widespread dumping economies, it can also counter liquidity problems of such securities. A tightening of liquidity and ensure financial stability. However, there are conditions or higher inflation could also result in risks associated with a gradual approach too, in the similar outcomes, with banks being impacted due form of threat to long term macroeconomic to direct exposure to such loans. Such leveraged resilience and erosion of future policy firms also crowd out private investment, and manoeuvrability, primarily through financial impactaggregategrowthinaneconomy. channels. It may also undermine efficient resource allocation and productivity. All of the Bank profitability has also shrunk since the GFC. aforementioned reasons indicate that monetary With low interest rates prevalent around the globe policy cannot be the driver of sustainable financing cheap liquidity, average profitability in economic growth, and should rather be a backstop AEs has declined since the mid-2000s. Challenges procedure. remain to increase profitability in the form of high operating costs, threat from fintech companies in A more balanced policy mix can contribute to competition to originate new loans, and stressed sustainable growth and financial stability. The only asset book, which prevent further lending. way to do so is through structural reforms, away Monetary policy also faces a dilemma on the path from the debt-fuelled growth model the world has to normalcy, as subdued inflation despite negative relied on so far. Trade tensions have cast a shadow interest rates in some AEs, has posed a risk over over one such channel, multilateral trading system. anchoring inflation expectations. On the other Micro-prudential policies, particularly through the hand, access to easy finance has led to financial progress of Basel III have seen good progress so far, vulnerabilitiesbuildingupinthesystem. and macroprudential policies can further alleviate trade-offs,withtoolssuchasstresstesting,limitson Policy actions in such contrasting circumstances as debt-to-income ratios, countercyclical capital unresponsive inflation towards an elongated low requirements etc. but these cannot remedy policy rate regime require a gradual approach financial cycles on their own. Fiscal actions can towards policy normalization. Since price stability also help, but has to steer clear of asymmetric takes precedence, continuing with an policy making. accommodative policy would be a natural response, but such an action could also encourage Source: www.bis.org

July2019 excessive risk taking. A gradual approach can bring

CCIL MonthlyNewsletter

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WilltheWeatherGodsSmileorFrown?EvaluatingMonsoonForecasts PriyankaBajaj,D.Suganthi,RishabhKumarandAtriMukherjee,RBIBulletin,June2019

This article analyses the past forecast accuracy of Period 2 (2003 to 2012) with both FSLRF and the Indian monsoon by various agencies. At SSLRF and Period 3 (2013 to 2018) with FSLRF, present, the official forecast of the South West SSLRFandSkymetforecasts. Monsoon (SWM) is given by the India Initial correlation analysis reveals that none of the Meteorological Department (IMD), first in April - forecasts in any of the periods are significantly the First Stage Long Range Forecast (FSLRF) - and correlated with the actual rainfall data across the again in May/June -Second Stage Long-Range entire period of study to arrive at a conclusive Forecast (SSLRF). Skymet, a private forecaster, inference. The RMSE results are similar. The IMD releases its preliminary forecast in April and a got predictions for near normal monsoons correct revision in May. Apart from these Indian agencies, for38percentofthetimeoverthereferenceperiod, the forecasts of international meteorological and Skymet also failed to forecast extreme events organisations, viz., USA's National Oceanic and likedroughtsorfloods. Atmospheric Administration (NOAA) and Australia's Bureau of Meteorology (BOM) on El The IMD also provides forecast for the distribution Nino/La Nina and dipole conditions in the Pacific of rainfall. Data shows that the forecasts tend to OceanandIndianOcean,respectively,arealsoused over-project rainfall in the East and North East and topredictthemonsoonconditionsinIndia. Southern peninsula in 77 per cent and 50 per cent of the time, respectively. The forecasts have been The forecast accuracy of different agencies has been correct for North West nearly 50 per cent of the evaluated through Pearson's Correlation time.InternationalagenciesNOAAandBOMhave Coefficient (PCC), Root Mean Square Error been relatively more successful in forecasting (RMSE), and success score of predicting extreme extreme rainfall years, which generally coincide events. PCC and RMSE have been used to examine with El Nino and La Nina conditions. This is the forecast accuracy of IMD and Skymet as the corroborated by higher values of success score for predictions and actual values are reported as international agencies compared to IMD and percentage of long period average (LPA).Success Skymet. In conclusion, the report suggests that for score has been used to assess the forecast accuracy generating macroeconomic forecasts, the use of of all the four agencies, as the predictions are IMD's SSLRF and the predictions of international

reported in terms of probability of occurrence by July2019 agencies like NOAA and BOM in conjunction may BOM and NOAA. For PCC and RMSE, the period be appropriate. of study is from1995 to 2018 in three distinct phases-Period 1 (1995 to 2002) with only FSLRF; Source: www.rbi.org.in

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