The Reserve Bank of India‘s (RBI) Report on Currency and Finance 2023-24 highlights the growing role of Fintech in the financial sector and the potential benefits of collaborations with banks to improve credit access. However, the RBI emphasizes the necessity of regulatory alignment between banks and fintechs to address challenges. The report further underlines critical ways to improve the Fintech ecosystem such as cybersecurity, scalability, dark patterns, and predatory lending practices. It stresses the importance of improving accessibility, enhancing cybersecurity measures, and addressing unethical practices in the Fintech ecosystem to retain customer trust.
Regulatory Challenges in Fintech Lending
The RBI has stated that collaborations between Fintechs and banks for lending can benefit the lending ecosystem. Digital payments generate real-time data on sellers’ businesses, the timing of cash flows, and buyers’ purchasing habits. This data allows lenders to gauge the cash flow, revenue patterns, and repayment habits of borrowers, enhancing their ability to obtain credit at more favourable lending terms and opportunities for expansion. This data-driven approach can bridge the gap in credit access.
However, the adoption of Fintech in lending raises regulatory challenges. The RBI noted that unregulated non-bank payment services could disadvantage traditional banks. Further, loosening entry barriers could allow Fintechs with weak business models and inadequate cyberinfrastructure to provide dangerous lending services. Fintechs can also engage in unhealthy business practices like charging exorbitant interest rates, unethical recovery practices, selling data to third parties etc.
It also warned against the potentially predatory nature of buy-now-pay-later (BNPL) services that have become increasingly popular. It stated that their business model depends on a high value of late fees for profitability. These services could have exorbitant charges, coercive recovery practices and hidden fees. Further, the ease of digital technologies could enable impulsive spending and debt accumulation.
The RBI has also warned against “over-reliance on technology for loan arbitration.” It stated that AI-driven decision-making can raise concerns about algorithmic bias and discrimination.
Need for regulatory alignment of fintech and banks
In the report, RBI has stated that the partnerships between banks/NBFCs and Fintechs are mutually beneficial. It noted that Fintechs offer better user experience, and agility, use unconventional data, and have the ability to scale rapidly while Banks have customer trust and confidence, a large existing customer base, widespread geographical presence, legal backing to accept deposits, and experience in risk management and regulatory compliance. The Speakers at the Assocham Fintech Festival echoed the same sentiment, in July. Monica Jasuja, chief growth and partnerships officer at TwidPay, said, “The banks enable the fintech to be able to partner with them. And the reason I say enablement is because banks can become a force multiplier in a landscape like ours.”
However, it is worth noting that have been banks themselves have been under scrutiny for lack of regulatory compliance around financial data. For example, the RBI barred Kotak Mahindra Bank from onboarding customers and issuing fresh credit cards in April 2024 citing “serious deficiencies” and “non-compliance” in its IT risk management and information security governance. Similarly, a glitch in ICICI Bank’s online banking app revealed the credit card details of some bank customers earlier this year.
The RBI has stated that the regulations for non-bank Fintechs and banks must align. It shared three principles for regulating fintech: encouragement of innovation, assimilation of innovation in the financial system in a nondisruptive manner and customer protection. It stated that the approach to regulation needs to be balanced, nuanced and reasonably anticipatory with an oversight framework.
Why it matters?
There are 8011 fintech entities in India as of July 22, 2024, according to the Department for Promotion of Industry and Internal Trade (DPIIT). The revenues of Indian Fintech are expected to grow exponentially to more than $190 billion by 2030 from $17 billion in 2022, according to the report. Between January 2018 and December 2023, the Fintech sector in India received approximately $27 billion in funding from domestic and international sources.
As per the RBI report lending from Fintechs increased from $132 billion in 2015 to $223 billion in 2019 globally. The RBI also found that lending through Fintechs mainly catered to semi-urban and rural areas in 25-30 years age-groups, in 2022-23. Delinquency rates are also higher among younger age groups. Most Fintech loans were personal loans, followed by business and consumer loans. The personal loans were mainly small-value personal loans with 68% of personal loans falling in the category of less than Rs. 5,000 in 2022-23. The average ticket size of personal loans by Fintechs was around Rs. 11,000 in 2023
The RBI also shared the following ways to improve the Fintech ecosystem
Accessibility
It said that digital payment systems must be accessible and affordable for all segments of society, including those without access to smartphones or the internet. It stated that while many may have access to digital financial services, they do not utilise them adequately due to a lack of financial literacy, mistrust in digital systems, insufficient network infrastructure, and the complexity of digital financial products.
Cybersecurity
While at the aggregate level, digital payments fraud is low, the RBI stated that cybersecurity measures should be improved. Phishing, card skimming, man-in-the-middle attacks, malware, and ransomware, among others, are the most prominent forms of cybersecurity threats in digital payments.
Scalability
The RBI said, “The ability to scale efficiently will be a crucial factor for the success and resilience of payment systems worldwide.” It recommended investing in scalable infrastructure, embracing modern architectural approaches, and leveraging new technologies.
Dark Patterns
The RBI also warned of dark patterns that influence user behaviour in Fintech products. They stated that some common dark patterns are hidden fees, forced recurring subscriptions, complicated cancellation processes, bait and switch, sneak into the basket, incomplete payment disclosures, and false urgency. It said that remaining one step ahead of malicious agents and safeguarding customers is integral to retaining trust.
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