Government’s Zero MDR Policy Could Kill Digital Payments in India

Twenty years ago, the internet catalysed the flow of information from the hands of a few into those of everyone. Today, digital finance is seen as a game-changer that will bring underserved, underbanked populations within an insured, savings-heavy, and credit-filled security net.

FinTech for the Next Billion

Digital finance evangelists believe it is a way for families to shift their savings away from the proverbial linings of mattresses, and their borrowing options away from their local moneylender. Policymakers and governments foresee it reducing intermediation costs for the banking system, and as an avenue for job creation. For private FinTechs and their investors, the appeal lies in the volume of customers to be won over (“the next billion!”). The deep penetration of payments products through basic feature phones in Kenya’s M-Pesa is a shining success story.

The Reserve Bank of India and the Finance Ministry have attempted to incentivize digital payments and other financial products through numerous policy initiatives, such as the JAM triad (Jan Dhan, Aadhaar and Mobile), last-mile service delivery through the India Posts Payments Bank, and financial literacy programs run by multiple regulators.

One of the government’s newer machinations towards increasing digital financial inclusion has been the removal of the Merchant Discount Rate(MDR) on RuPay and UPI transactions.

Merchant Discount Rate(MDR) and India’s Digital Payments

MDR fees are collected by banks and other financial players responsible for expanding digital infrastructure. They are typically paid by merchants(seller) processing such transactions, to the tune of 0.25–0.60% per transaction, depending on a range of factors. While doing away with this fee may seem like a useful policy incentive on paper, it may prove counterproductive to the government’s intent of widening the digital inclusion net.

Many cogs turn in the wheel of the financial system before an online payment transaction is completed. A cash transaction is simple. In an exchange of cash, The parties involved are the buyer(customer) and the seller(merchant). The seller inspects the currency notes offered to him, is assured that they are indeed legal tender backed by the RBI’s sovereign guarantee, and bids his customer adieu. On the other hand, any online Business-to-Consumer (B2C) transaction involves a number of counterparties. These include

· Paying customer

· Customer’s bank

· Merchant

· Merchant’s bank

· Payment Service Provider (such as PhonePe, Google Pay or BHIM)

· National Payments Corporation of India(NCPI) — the central settlement agency for each transaction

Each of these intermediate parties takes on additional costs and credit risks to enable these payments. These costs are compensated to an extent by fees like the MDR.

Why the Merchant Discount Rate (MDR) Matters

The government’s take is that the MDR increases transaction costs, which may disincentivise users and merchants from using UPI and RuPay. However, these fees serve to subsidize other costs involved in the building, maintenance and delivery of digital finance infrastructure.

These include software developer compensation, customer service charges, setting up of merchant distribution networks through point-of-sale(POS) machines, operation of data centres and others.

Unintended Consequences: Privacy at Stake?

The law ensures that merchants of a certain size cannot refuse to accept payments through UPI and RuPay debit cards. But it remains to be seen whether other stakeholders, in the face of increased costs, will find ways to disincentivize their use and acceptance; perhaps by issuing MasterCard/VISA cards over ones powered by RuPay.

MDR charges accounted for over 70% of revenues of point-of-sale terminals(POS) in India. Under the new regime, these costs will have to be borne by banks or FinTech companies operating such terminals.

For want of a new revenue stream, this may also lead them to sell financial data of their users. In an ecosystem where privacy rights of individuals are gaining greater currency, it is crucial that regulatory changes do not nudge industry players into undermining these rights.

Even if the government announces a subsidy to offset this loss of revenue, which is unlikely, this will have to be to the tune of a whopping INR 2000 crores every year. There is no evidence that the MDR is a major factor in people abandoning digital payments. In light of this, INR 2000 crores would have been taxpayer money well spent towards increasing financial literacy and awareness, instead of fixing a system that was never broken.

Like what you are reading?

We write at the intersection of emerging tech, politics, culture and us every fortnight. Subscribe for free : www.bit.ly/IntechDispatch