Gains on payment system regulation
Business Standard, 25 May 2025.
In the journey to state capability, one kind of knowledge that is required is that of `agency architecture'. Government is organised as a series of organisations, and each organisation requires careful design on its role. While the normal instinct of an official is to amass power and budget, agency architecture is a fascinating subject drawing on ideas about accountability mechanisms, conflicts of interest and economies of scope and scale. Valuable improvements are afoot at RBI on the design of payments regulation, drawing on knowledge from the field of agency architecture.
Payments is an important and fascinating industry of the modern world. In the olden days, it was a minor offshoot of banking. Banks were the only game in town when it came to payments. In fact, banks had a direct interest in poor functioning of payments, as they earned an income on the `float' which was stored with them. Payment functions were not seen as a separate revenue stream. That legacy generates the pressure even today for payments to be free.
That is not the world that we see today. Now, payments systems work swiftly and span the globe with multiple inter-locking global IT protocols and financial standards. Efficient payments are a service that generally requires a revenue stream. There is a `digital exhaust' associated with payments activities which can be monetised (subject to privacy protections whereby state officials are not able to engage in surveillance). In today's world, payments is primarily a technology business, not a financial business.
At an organisation like the RBI, the prestigious and powerful activities are monetary policy and banking. Bank deposits in India are about Rs.220 trillion, and banking is a big and important industry while payments is a small field. This raises concerns about the extent to which policy thinking about payments is inordinately shaped by the business interests of banks and the interests of prudential regulators of banks to keep banks profitable.
The field of agency architecture sees this as a conflict of interest. When the functions of banking regulation and payments regulation are placed in the same organisation, the performance of payments regulation will be weaker, as the field of payments will be inordinately shaped by the objective of making banks more profitable.
How can this be addressed? The solution lies in two parts. The first lies in clarifying the core activities of financial regulation. The existing Payment and Settlement Systems Act (2007) is poorly drafted, and merely confers unchecked power. The work done by FSLRC (that resulted in the Indian Financial Code version 1.1), which was done 2011-2015, took this to a superior level by establishing objectives of consumer protection, prudential regulation and systemic risk regulation. When the payments regulation work at RBI is tasked with pursuing these objectives, this will work better as compared with the present law. That work has as yet not turned into Parliamentary law.
The second line of attack lies in the governance arrangements [EiE Ep99 Regulation]. In many countries, a specialised board has been created, to govern the work of payments regulation within the central bank. This would help the payments team within the RBI look up to their board, and thus be shaped less by the biases of their bank regulation colleagues.
This idea was brought into the Indian thinking through the Ratan Watal Committee report of December 2016. It has gone through many steps of legal implementation, leading up to the Gazette notification last week of the `Payments Regulatory Board Regulations'. In essence, this creates the path for three independent directors to be brought in, alongside three RBI employees, into a distinct board for payments regulation.
All in all, this is a positive development for the possibilities of the payment industry. What are the hoops that have to now be jumped in the strategy of financial economic policy, to get to a successful payments industry for India?
- The appointments process matters greatly. We hope that the union government would appoint private persons rooted in the global payments industry, and lacking in loyalty to banking, as these three independent directors.
- Then, there is the role and function of the board. The FSLRC conception of the board of an organisation is a critical engine for achieving high performance of government organisations. Given the absence of these sections of law in the extant legislation, the role of the Payments Regulatory Board will have to evolve through good sense and norms; there is the danger that the board becomes a mere polite lunch conversation.
- Looking beyond the board to the working of the RBI regulatory team on payments, establishing the FSLRC objectives of payment regulation in law -- as opposed to just having unchecked power -- is required.
These inputs on financial economic policy would put us in the right place to take a crack at the policy failures of Indian payments, which is stagnating under a centrally planned monopoly.
The Payments Regulatory Board, and a commensurately energetic RBI regulatory team on payments, needs to reopen the field. Critical building blocks of the Ratan Watal report have yet to be turned into action. The most important of this is opening up of RTGS access with current accounts for technology companies, who could build multiple NPCI-like organisations. The present protectionism, with barriers against global payment companies, needs to be removed. Indian businesses, financial and non-financial, need to become deeply embedded into the global payment technologies, so as to support Indian GDP growth.
Each positive development in public policy encourages us to look back at the theory of change. How does change arise in India, and how can we better nurture the wellsprings of change? In the journey to sound payment regulation, we see the gradual intellectual influence of the government committee process. In this case, the two projects that mattered were FSLRC and the Ratan Watal report. This involved an intellectual ecosystem coupled with strategic moves of one government committee at a time.
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