NITI Aayog releases report on digital banks; proposes licensing, regulatory regime

Government think tank NITI Aayog on Wednesday releases its report on digital banks, offering a template and roadmap for licensing and regulatory regime for India. The report 'focuses on avoiding any regulatory or policy arbitrage and offers a level playing field to incumbents as well as competitors,' it said in a statement.

"Given the need for leveraging technology effectively to cater to the needs of banking in India, this report studies the prevailing gaps, the niches that remain underserved, and the global regulatory best practices in licensing digital banks," said NITI Aayog CEO Parameswaran Iyer while releasing the report titled ‘A proposal for Digital Banks in India: Licensing and Regulatory Regime’. 

A digital bank would be a bank defined in the Banking Regulation Act, 1949, and shall have its own balance sheet and legal existence. Such a bank would be different from the 75 Digital Banking Units (DBUs), which was announced by Finance Minister Nirmala Sitharaman in Union Budget 2022-23.

The report recommends the following steps:

-Issue of a restricted digital bank licence (to a given applicant) (the license would be restricted in terms of volume/value of customers serviced and the like).

-Enlistment (of the licensee) in a regulatory sandbox framework enacted by the Reserve Bank of India.

-Issue of a ‘full-scale’ digital bank licence (contingent on satisfactory performance of the licensee in the regulatory sandbox, including salient, prudential and technological risk management).

-The report also maps prevalent business models in this domain and highlights the challenges presented by the ‘partnership model’ of neo-banking—which has emerged in India due to a regulatory vacuum and in the absence of a digital bank licence.

The methodology for the licensing and regulatory template offered by the report is based on an equally weighted ‘digital bank regulatory index’. This comprises four factors—(i) entry barriers; (ii) competition; (iii) business restrictions; and (iv) technological neutrality. The elements of these four factors are then mapped against the five benchmark jurisdictions of Singapore, Hong Kong, United Kingdom, Malaysia, Australia and South Korea.

This report has been prepared by NITI Aayog based on inter-ministerial consultations. Last year, it had released a discussion paper on the subject for wider stakeholder consultations. 

The report adds that India's recent rise in furthering financial inclusion was catalysed by the Pradhan Mantri Jan Dhan Yojana and India Stack. However, credit penetration remains a policy challenge, especially for the nation’s 63-million-odd MSMEs that contribute 30 per cent to GDP, 45 per cent to manufacturing output, and 40 per cent to exports, while creating employment for a significant section of the population.

Furthermore, the launch of Jan Dan-Aadhar-Mobile (JAM) trinity and Aadhaar, Unified Payments Interface (UPI), financial inclusion has become a reality for Indians, it said. To be sure, UPI-enabled digital transaction remained above Rs 10 lakh crore in June for the second month in a row, data from NPCI showed recently.

Moreover, a ‘whole-of-India approach’ towards financial inclusion has also resulted in Direct Benefit Transfer through apps such as PM-KISAN and extending microcredit facilities to street vendors through PM-SVANIDHI, the report said.

NITI Aayog report also pointed out that India has also taken steps towards operationalizing its own version of ‘open banking’ through the Account Aggregator (AA) regulatory framework enacted by the Reserve Bank of India. "Once commercially deployed, the AA framework is envisaged to catalyse credit deepening among groups that have been hitherto under-served," it added.

However, the report also stated that the success that India has witnessed on the payments front is yet to be replicated when it comes to the credit needs of its micro, small and medium businesses. The current credit gap and the business and policy constraints reveal a need for leveraging technology effectively to cater to these needs and bring the under-served further within the formal financial fold.