Comments on the Report of Watal Committee on Digital Payments

By Malavika Raghavan, IFMR Finance Foundation

Shortly after Christmas last month, a press release from the Ministry of Finance on 28th December announced that the Committee on Digital Payments (chaired by Ratan P. Watal) had submitted its Report. IFMR Finance Foundation’s Future of Finance Initiative has provided its response to the Report.

The Committee had been constituted in August 2016 with a term of 1 year to review the payments system in the country and to recommend appropriate measures for encouraging digital payments. It’s recommendations were however delivered in 4 months. The Report notes that the Committee calibrated its recommendations to fast track the attainment of its ‘Vision’: to significantly reduce cash usage in the economy and facilitate the provision of ubiquitous digital payment services and infrastructure in the country (page 21 of the Report).

The Report contains recommendations which could have far-reaching impacts on Indian financial systems design, particularly for the regulatory architecture and the operation of payment systems in the country. It recommends:

  • the set-up of an independent “Payments Regulatory Board” within the RBI, which is unprecedented,
  • large scale amendments to the main Payments legislation, the Payment and Settlement Systems Act 2007, and
  • several measures to Government around incentivising digital payments by absorbing costs into the system.

We welcome the Report’s recommendation to include a section on customer protection explicitly in primary legislation dealing with payment systems. In the course of setting out its 13 headline recommendation, the Report shows a strong preference for supporting the use of Aadhar (and related payment systems) to verify and authenticate transactions. It supports the development of new innovations which are still in the regulatory “grey area” such as Direct Carrier Billing. The Report appears to recommend action on matters around the edges of digital payments for e.g. recommending disincentives on customers and merchants for using of cash, the use of Aadhaar where PAN numbers are not available and on income tax filings. In our response, we have also sought to highlight significant concerns that we have with some of these recommendations given the implications for customer protection and systemic risk.

Our submission to the Committee is available here.

About the Future of Finance Initiative:

The Future of Finance Initiative (FFI) is housed within IFMR Finance Foundation and aims to promote policy and regulatory strategies that protect citizens accessing finance given the sweeping changes that are reshaping retail financial services in India – including those driven by Indiastack, Payments Banks, mobile usage and the growing P2P market.


Agricultural Markets: Five Opportunities for Innovation After Demonetisation


Guest post by Samir Shah, MD & CEO, NCDEX

Due to the demonetisation of currency and recall of the currency notes of Rs. 500 and Rs. 1000 denominations announced by the government there was some panic in the initial days and the mandis were closed for some days. However, things are becoming better with the passage of time.

Recent visits to the mandis and fresh feedback received from the market participants indicates that arrivals have started improving in the mandis. The Rabi sowing status, which was feared to be disrupted due to cash crunch, has not seen any major impact as most of the essential inputs were available on credit or in old currency notes.

In the weeks after demonetisation, it was observed that commercial small farmers in “tight” value chains (such as sugarcane delivered to a specific neighbouring sugar mill, fruits, vegetables, milk, tea, specialty coffee and spices, fertilisers, seeds) benefitted from the strong relations between buyers/traders and producers and quickly adopted digital payment. These tight value chains generally involve greater control of the flow of goods and funds to ensure repayment (via delivery of the crop) and limit the opportunities of side selling (when the farmer delivers somewhere else to avoid repayment of loans extended under value chain financing models).

Government policies that support and encourage such value chains will speed up the shift to formal bank financing, financing from buyers (e.g., sugar mills, cotton ginners, milk companies), increase financial literacy and understanding about banking requirements among small farmers.

In looser supply chains where crops can be sold on the side and where repayment is difficult to capture through delivery, local lenders who are near farmers have an advantage, as proximity closes the asymmetric information gap, facilitates credit assessment, and makes repayment enforcement easier. Government policies should use input suppliers in the area, local credit unions, credit cooperatives, and microfinance institutions (MFIs) in that location for reaching out to such farmers.

The current situation, therefore, warrants exploring and providing more user-friendly and easily accessible scale-neutral technology, which can serve the economic needs of India’s 138 million farms. Fortunately India has already developed and successfully tested some of the best farm market-based ecosystem in the form of online agricultural markets.

Digitisation is opening up new opportunities for cost-saving automation, accuracy, speed and vastly-improved efficiency in agricultural trade documentation, storage, finance, and risk management. Supported by the right policies and market infrastructure institutions, it can transform Indian agriculture’s financing models, risk mitigation models, and distribution models.

1) Re-launch Exchange-traded Forwards and Launch Options

Exchange-traded commodities have already demonstrated the advantages from digitisation through greater speed, transparency, global reach, accuracy and reduced cost. Exchange traded Forward contracts (permitted by the erstwhile FMC, since suspended by SEBI), futures, and options allow crop prices to be locked in prior to the actual delivery of the product.

Exchange traded forwards can bring to cash-less and traceable (in addition to reducing defaults and better quality based sales) systems the entire Rs 7 – 9 lakh crore agri produce in India every year and enable the entire value chain to adopt newer and more compliant ways of doing business, including government procurement.

Except in wheat and rice that have partial protection through government procurement, Indian farmers are buffeted by price volatility. The availability of options can be the ideal instrument for insuring their margins. Farmer producer companies and cooperatives can be encouraged to use options to manage commercial risk in the production, processing and marketing of agricultural products. Banks can extend credit to purchase price insurance.

In other words, under the new agricultural market structure, farmers will be able to sell through transparent, digital markets such as the exchange-traded forwards or the National Agricultural Market/State Agricultural Market. They will also be able to sell to government agencies at the minimum support price through exchange-traded forwards. And they will be able to protect themselves from price volatility by using options.

Similarly, call options – that give the government the right – but not the obligation – to buy pulses when prices rise, for example, will reduce the need for accumulating physical stocks and add transparency by setting clear rules for government intervention. The food subsidy budget for FY17 is Rs 1.34 lakh crore, of which Rs 1.03 lakh crore is to be routed through FCI to the intended beneficiaries.

Exchanges can thus become the fulcrum of the new cashless agricultural economy if they move upfront on the developmental agenda of policymakers, regulator and political agencies.


2) Create more capacity in commodity exchanges in order to encourage more agricultural value-chain participants to use regulated markets for risk management and financing.

Agricultural sector companies not involved in primary production (i.e., traders, processors, food companies, input suppliers) have their own financing, and production and price risk management needs. Working capital, funding for acquisition of assets (movable and real estate), cash flow management services, hedging and insurance are often needed by these agricultural companies.

Increasing position limits, adding many more commodities for trade (such as pulses, rice and dairy), and reducing taxes (such as CTT) will encourage them to increasingly use the exchange platform for low-cost risk management, marketing, and inventory financing.

3) Expand the digital mandi network by connecting National Agricultural Market and State Agricultural Markets (SAM)

Early indications are that although NAM has been implemented in 250 mandis across India, it is still currently restricted to post-trade data entry and not functioning as real price discovery, clearing and settlement driven markets.

On the other hand, SAM initiatives in Karnataka have implemented e-trading virtually end to end. Rashtriya e-Market Services Limited (ReMS), a joint venture of Karnataka Government and NCDEX Spot Exchange Limited (NSPOT) was formed to setup a Unified Marketing Platform (UMP) for modernising more than 300 APMC regulated market yards into a single online marketplace for the state, and enhancing the efficiency of regulated markets in the state. The Karnataka Government provided unified licenses for all APMCs within Karnataka. It also allowed for warehouse-based sales, warehouse receipt-linked loans and single point levy of market fees across the state, making Karnataka one of the first few states to adopt all recommendations of model APMC Act. More than 66 lakh farmers have successfully completed transactions worth Rs 32,000 crore till date through the Unified Market Platform in Karnataka. A simple trading platform for “Tur” pulses trading in Gulbarga Mandi was provided and eventually government provided an e-trading UMP across the state. Through the e-platform, the state Government and NCDEX have played a key role in linking smallholders to a wider market and helping them realize better prices for their produce.

A study covering impact assessment of e-tendering of agricultural commodities in Karnataka conducted by National Institute of Agricultural Marketing, Government of India, reveals that about 83% of stakeholders felt that the operations have become more transparent and time-efficient. Farmers have reported an 18% increase in income realization and traders have reported at least 25% of their time being saved through the online process. Overall, all the mandis have experienced an increase in trading volume and revenue because of increased sale at the higher side of price range and stable prices.

Creating interoperability between NAM and SAM will help accelerate digitisation of mandis. Digitalisation is an important step for reducing inefficiencies in agricultural markets, developing rural financial services, transparent pricing and promoting better organised agricultural value chains. By connecting the two networks through interoperability to establish a comprehensive market architecture, farmers in almost 500 market yards can seamlessly experience the benefits of digitisation.



4) New WDRA-regulated repository will boost warehouse-based sales and commodity finance

Agricultural warehousing accounts for 15% of the warehousing market in India and is estimated to be worth Rs 8,500 crore.

Beginning can be made by exempting the 450 exchange-accredited warehouses, with a combined capacity of 2 million tonnes, from Stock Control Order under the Essential Commodities Act to encourage inflow of crops in this transparent and regulated warehousing network.

Simultaneously, the WDRA can encourage a pan-India digital network through the new Repository of all licensed warehouses for real-time data collection on food stocks. The benefits of switching to electronic accounting are almost immediate and lie in speed, ease of use, accuracy and cost. Automation reduces overheads and man-hours, with document transmission constrained only by the speed of the Internet.

The commodity repository will provide the legal and regulatory environment for inventory financing and warehouse receipt lending to encourage the use of these financing mechanisms. While currently the size of the market is estimated at about Rs 30,000 crore, as per a recent study by NABCONS, the potential for finance against collateral of major agri commodities and fertilisers is Rs 1,66,234 crore.

The combination of repository, digital warehouses, digital mandis, and warehouse receipts will create a legal environment that ensures easy enforceability of the security, and makes warehouse receipts a title document. It will create a network of reliable and high-quality warehouses that are publicly available. It will introduce a system of licensing, inspection, and monitoring of warehouses. It will lead to the creation of a performance bond and banks that trust and use the system. It will encourage agricultural market prices that reflect carrying costs. It will reduce the threat of hoarding of essential commodities and ease raw material procurement. And it will promote well-trained market participants.



5) Strengthen producer organisations as important aggregators for delivering digitised financial and non-financial services to smallholder farmers.

More than 18,500 small and marginal farmers have successfully hedged their crops on NCDEX in the last 10 months through nine Farmer Producer Companies. By creating the right mechanisms, more such companies can be encouraged to connect to formal, regulated, cash-less markets. There is also the need to invest resources in capacity building for financial and managerial skills as well as improved corporate governance.

For small farmers, the advantages of joining a collective are direct access to a viable market (local, regional, global) for the end product; a clear, transparent pricing mechanism, a price that is attractive; shift away from mono-cropping low-value high-volume crops; avoiding overreliance on credit to purchase inputs; leveraging a competitive advantage in production, quality certifications, proximity to the end market; and, credibility of the buyer and trust among farmers via regular direct interaction between the buyer and the farmers.

There are already a number of NGOs and initiatives that work to strengthen farmer producer organisations, but a more conscientious effort and a bigger scale is needed.

Post-demonetisation innovation can improve the following constraints in the agricultural sector:

  1. Enable transparent, efficient market structure (e.g., through greater adoption of exchanges)
  2. Reduce administrative and distribution costs of food procurement (e.g., through options and exchange-traded forwards)
  3. Improve security of the collateral and cash flows (e.g., warehouse receipt financing, price hedging, insurance).
  4. Improve competitiveness of small and marginal farmers (eg. Farmer producer companies)
  5. Increase the share of formal finance in agricultural commodity markets.

In the Eye of a Cyclone

By Sucharita Mukherjee, IFMR Holdings

Even as the city of Chennai was grappling with the after-effects of the devastating floods of December 2015, exactly a year later, Cyclone Vardah unleashed its fury, leaving behind a trail of destruction and devastation. At least 16 lives have been lost and more than 12,000 trees have been uprooted due to heavy winds.

The impact has significantly hit the agricultural sector, destroying banana plantations, papaya groves and paddy-fields, causing widespread damage worth up to $1 billion, according to Assocham estimates. An estimated ₹1,000 crore was lost on a single day owing to the unscheduled closure of businesses across the State.

Need for protection

img_cycThe threat of natural calamities looms large in nearly 60 per cent of the Indian subcontinent today, with as many as 38 disaster-prone cities/towns. While little can be done to prevent natural disasters such as cyclones or drought, we can be prepared to mitigate their effects and minimise losses to a great extent.

Catastrophes such as drought, floods and earthquakes not only impact the economy of a nation but also affect the very subsistence of poor and vulnerable communities. Typically, it is the low-income households that are particularly susceptible to the risks. With little or no insurance on their assets and their livelihoods in particular, they have nothing to fall back on. The urgent need is to build catastrophe risk protection markets in India, so that households can manage risks and rebuild their lives and businesses in the aftermath of natural disasters

Natural calamities can severely impact physical assets such as farmland, crops, commercial vehicles, shops, livestock and other sources of livelihood of low income households, in addition to affecting power, transport and communication infrastructure. To make it worse, families incur exorbitant hospitalisation expenses due to injuries and death. The destruction of homes further impairs the household’s ability to use the asset as collateral for emergency loans or to revive other income generating assets.

Over the past decade, local financial institutions or ‘originators’, such as microfinance institutions (MFIs), have played an important role in providing access to finance to nearly 35 million low-income customers. But when it comes to protection against calamities, households in earthquake or flood-prone areas of the country are generally financially excluded by lenders owing to higher risk. For the few who do operate in the areas, a single catastrophe has the potential to erode a significant portion of their networth. The absence of catastrophe risk mitigation products forces the originators to self-insure by either bearing the risk themselves or geographically diversifying. This, however, is not always feasible given that even some of the largest and most diversified originators in the country have 30 to 50 per cent of their capital at risk to a single district.

When cyclone Phailin hit Odisha in 2013, flash floods destroyed large swathes of farmland, the primary source of livelihood for many low-income households. In the days to follow, loan repayments to local originators were affected severely due to hampered communication and heavy rains. Had catastrophe risk insurance been available to MFIs in the area, households would have been able to avail themselves of moratoriums for their existing loans or emergency liquidity support required to rebuild their livelihoods.

Catastrophe risk insurance transfers the risk from the household to local insurers either directly or via an originator like an MFI or a small business lender. It is similar to a typical insurance product where the premium is paid by the household in exchange for the cover. When calamity strikes, the insurance provider pays either the loss amount or a pre-agreed amount of compensation to the household. If the insurance cover is at the originator level, the premium may be priced into the financial services they provide and the household may receive an insurance linked payout or better loan pricing. Households could also receive loan moratoriums or credit access in areas that the originator would typically not service. The local insurers can then transfer part of the risk to re-insurers who benefit from the ability to pool risks across households in different geographies. Re-insurers are also able to further de-risk their portfolio by issuing Insurance Linked Securities (ILS), also known as cat bonds, to the capital markets.

Protective gear

Globally there are many products, public, private and via public-private partnerships, that exist to protect against the risk of catastrophes. In 2007, CCRIF or Caribbean Catastrophe Risk Insurance Facility was the first multi-country risk pooling facility, established by the Caribbean governments, to provide quick short-term liquidity to limit the financial impact triggered by a hurricane or earthquake. The idea came from the devastating impact of Hurricane Ivan in 2004 which caused losses in Grenada and the Cayman Islands amounting to 200 per cent of the national annual GDP.

Since inception the facility has made 13 payouts totalling over $38 million to 8 member governments for hurricanes, earthquakes and excess rainfall. In 2012, a bank in Peru purchased an insurance product to protect 3,560 agricultural loans of their farmer clients worth $27.3 million against the extreme weather phenomenon El Niño. Subsequently, late last year, the Peruvian government established a catastrophe insurance facility to protect 5,50,000 hectares of crops against El Niño that protects against losses up to $156 million. Ghana has a 2011 drought index insurance to cover all the growing stages of maize. Mongolia has an index-based livestock insurance programme that protects livestock against particularly strong winters. Of the 14,000 policies sold in 2009, local insurance companies made payments to all 2,117 herders eligible after the qualifying harsh 2009-10 winter.

The market for catastrophe risk insurance has matured in more developed financial markets, growing from $700 million in 1997 to $15.4 billion in 2012. However, the ILS market is dominated by catastrophe bonds that cover risks from North and South America. Not even 1 per cent of the market covers South Asia. The opportunity this presents is that cat bond issuances covering South Asian catastrophe risk clearly offers diversification in a global catastrophe risk market dominated by the Americas and the Pacific.

Understanding the geography

One of the key principles is that geographically specialised local originators that have a deep understanding of the customer base and the regions they serve can better help achieve the national goal of complete financial access. Currently, the risks they face in geographical areas vulnerable to catastrophes are increasingly too large to justify entry and even for the less risk-averse ones that do, the catastrophe risk may impact their survival as well as that of the households they wish to serve.

India’s 7,500-km long coastline poses multiple threats in the form of floods, cyclones, tsunamis, to millions of people living along the coastal areas. As we battle the adverse effects of climate change, our sensitive ecosystem faces further imbalance with 57 per cent of our land prone to earthquakes and 12 per cent vulnerable to flooding hazards. Given this context, building robust catastrophe risk protection markets, an important missing piece of market infrastructure, would undoubtedly benefit the whole economy.

Building resilience, where it matters the most, is particularly critical to making the road to recovery a less rocky path and ensuring that the BOP population which forms a significant part of our economy’s backbone can bounce back. The storm must not last forever.

This article first appeared in The Hindu Business Line.


Top 5 Game changers for the Indian Financial System in 2016

As the year comes to a close, we put together the top 5 developments that we believe have shaped the Indian financial system in 2016. Expectedly the commentary in the past two months has been largely around demonetisation but the year also saw important steps being taken by both the government and the regulator that will shape the road ahead as we embark into the new year.

Below are our picks:

Withdrawal of Legal Tender Status for Rs 500 and Rs 1000 Notes

“To break the grip of corruption and black money, we have decided that the five hundred rupee and thousand rupee currency notes presently in use will no longer be legal tender from midnight tonight, that is 8th November 2016….” With these words the Indian Prime Minister in one stroke announced the withdrawal of what constituted 86% of Indian currency (by value) in circulation at that point in time. The announcement initially came with a list of caveats for exchange and withdrawal that have since seen frequent additions/revisions by the day (see this & this) and accompanied by stories of unprecedented disruptions to the daily life of citizens and businesses in the aftermath of the ban. Never before had the financial life of the average Indian occupied as much prime time news as in the last two months with financial inclusion data being debated with the passion usually reserved for cricket and politics!

Withdrawal of legal tender of such a magnitude has obviously brought focus on digital transactions with the Government claiming a 400-1000% increase in them since the withdrawal was announced. The RBI on its part released provisional data for electronic payments in November 2016, which in its present form is not entirely comparable when contrasted with the October data, as it comes with caveats that do not convey the full picture for digital transactions in November – [Mobile Banking data – is of 5 banks; Cards data – is of 4 banks; PPI data – is of only 8 non-bank issuers for goods and services transactions. On these there is no clarity on the entities whose data is captured, apart from RBI indicating that it is sourced from some of the major participants]. For data that is comparable we have put together the below table that provides a perspective on the actual volume & value of transactions in the October-November period.

Oct-16 Nov-16*
(Rs. Billion)
(Rs. Billion)
IMPS 42.09 343.6 36.2 324.8
RTGS 9.01 97554.3 7.9 78479.2
NEFT 133.21 9504.5 123 8807.8
NACH 169.39 768.4 152.5 606.6
CTS 82.04 5974.1 87.1 5419.2

Source: RBI; * – Provisional data; NACH – National Automated Clearing House; Colour red indicating negative growth as compared to the previous month.

Nonetheless, from being called a major mistake to being called a courageous reform, the move, has had an immediate and telling effect on the social and economic fabric of the country. It is not yet clear what the magnitude of the short-term disruptions will be on agriculture, small business and the GDP and it remains to be seen if the stated goals (reduction of “black money” & counterfeit currency and a cash-less society) of the policy change will be achieved sustainably.

Setting up of the Monetary Policy Committee

October 4th, 2016 marked the first time that a committee, rather than one person, until then the RBI Governor, would decide the policy interest rates in the economy. Entrusted with the task of fixing the benchmark policy rate (repo rate) required to contain inflation within the specified target level, the Monetary Policy Committee was set-up with six members – three nominated from the Central Government and three from the Reserve Bank of India, with the RBI Governor getting the casting vote in case of a tie. This marks a major shift towards a more consensus-driven approach towards monetary policy decision-making similar to how interest rates are set in the US and UK.

Passage of the Goods & Services Tax Bill

Aimed at doing away with a host of Central and State taxes and ushering in a one tax regime for the entire country, both the Houses of Parliament passed the Goods & Services Tax Bill in August 2016, with the President giving his assent in September. Subsuming most of the Central and State taxes such as the Value Added Tax (VAT), excise duty, service tax, central sales tax, additional customs duty and special additional duty of customs, GST would lead to a uniform consumption-based tax structure across the land for almost all goods and services and the government has set a deadline of April 1, 2017 to roll this out. GST implementation would integrate the economy and provide for a common national market that enables businesses to leverage a simplified tax regime. Besides elimination of inter-state taxes would mean a decrease in procedural compliance and paperwork resulting in better utilisation of resources.

Passage of the Insolvency and Bankruptcy Code

In May 2016, both Houses of the Parliament passed the Insolvency and Bankruptcy Code that set in motion a national bankruptcy law to deal with insolvencies. The new law, which does away with at least 12 different legislations, some of which are centuries old, is expected to usher in an effective bankruptcy resolution system that improves the ease of doing business in India. The legislation seeks to create time-bound processes for insolvency resolution of companies and individuals. It will cover individuals, companies, limited liability partnerships and partnership firms and amend laws including the Companies Act to become the overarching legislation to deal with corporate insolvency. The Central Government in December notified the final regulations related to the insolvency resolution process under the Insolvency and Bankruptcy Code 2016, paving way for the operationalization of the 10-member Insolvency and Bankruptcy Board (IBBI).

Thrust towards digitisation of Government payments

2016 saw wide-ranging measures to incentivise greater adoption of digital payments with an all-round push by different Ministries and regulators. For instance, the Ministry of Electronics and Information Technology (MeitY) laid out Guidelines for Adoption of Electronic Payments and Receipts in November 2016 that covers a time-bound process for the integration of digital payments and receipts involving all Government departments. It has set an ambitious deadline of 31 December 2016 by which 90% of payments and receipts of all Government Departments are to be made online.

In addition the year saw a slew of Committees being set up by the Government such as the Watal Committee on Digital Payments that has come up with a series of recommendations and a roadmap for digital payments that are to be implemented. Likewise in November, Niti Aayog constituted a Committee of Chief Ministers to examine and implement measures for promoting digital payment systems in the country. RBI in June set up the Sudarshan Sen-headed Working Group to study the entire gamut of regulatory issues relating to Fin Tech and Digital Banking in India.

There have been many legitimate concerns raised around the preparedness of policy making in tackling issues around privacy, customer and data protection, denial of service and so on and these will require to be carefully addressed to unleash the full potential of this nation-wide effort.

Ps: In previous years, we have noted the developments with respect to licensing of Payment Banks and Small Finance Banks. This year ‘Capital Small Finance Bank’ became the first small finance bank when it launched in April. In November ‘Airtel’ became India’s first Payments Bank to go live when it launched operations in Rajasthan with over 1,00,000 customers signing up within a fortnight of the launch. The company this month rolled out operations in Andhra Pradesh, Telangana and Karnataka and intends to go pan-India in the coming weeks.

We would like to wish our readers a very happy new year and look forward to your continued readership in the coming year. You can subscribe to receive email updates from our blog by signing up here and can also sign-up to receive our daily news clips compilation on financial inclusion here.

Once again, Happy New Year!


Replug – Interview with Dr. Viral Acharya

The Government today appointed Dr. Viral Acharya, Professor of Economics at the New York University Stern School of Business, as RBI Deputy Governor for 3 years. We had the pleasure of interviewing Dr. Acharya few years ago on aggregation of risks in a financial system especially with respect to the Indian context. In the below video we share Dr. Acharya’s conversation with Bindu on the subject. You can read the full transcript of the conversation here.

Dr. Viral Acharya in conversation with Bindu Ananth