Implications of Blockchain Technology in Cross-Border Payments for India

By Sodaksh Khullar

Cross-border payments is one part of the banking sector which has been left unscathed with the recent digitization disruption. Majority of the international transactions go through 600 years old correspondent banking system devised by the Medici. While this may seem an issue for the institutions, there is a huge segment of the population that can be benefited from the developments in this sector.

Remittances are the second largest source of funding for developing countries, contributing more than capital flows and development assistance. Close to 200 million migrant workers support some 800 million family members globally. India alone received $62.7 billion in international remittances last year, making it the largest recipient in the world. [i] To put this figure into perspective, the amount of FDI India received in 2016 was $44.5 billion.[ii] While FDI has ranged quite a bit over the last couple of years due to financial instability around the world, the remittances has been a steady source of foreign exchange Reserves for India. Being the country with one of the highest number of emigrants, most of these cross-border payments are the source of income for the Indian families who have a member working abroad.

Source: World Bank[iii]

As of 2015, SWIFT-most widely used payment interface- linked more than 11,000 financial institutions in more than 200 countries and territories, who were exchanging an average of over 15 million messages per day. It has become as ubiquitous as VISA and MasterCard in the international payments space, but that does not mean it is as efficient. The 2 main issues with the prevailing system are the cost and the duration of transfers. On average, majority of the transactions takes 2–3 days to be processed. The lack of traceability doesn’t help. On the cost front, post offices and money transfer operators charge over 6 per cent of the amount remitted; commercial banks charge 11 per cent. New and improved technologies, such as prepaid cards and mobile operators, result in lower fees for sending money home, but are not yet widely available or used for many remittance corridors. The presence of large number of middlemen (correspondent and respondent banks) makes it sluggish.[iv] The need for automation of SWIFT message creation, procession, and transmission is imminent.

This is where the Distributed Ledger System comes in. DLT, or better known as Blockchain is a digital record of transactions maintained and validated by a network of computers via a cryptographic audit trail. A distributed ledger means that no single authority, like a clearinghouse, needs to verify or execute transactions. Instead, the participants have computers that serve as ‘nodes’ within the network which add time-stamped blocks of transactions to form an immutable chain (thus, Blockchain).

There are multiple factors that make up these costs which can be eliminated through the application of Blockchain. The slow-moving nature of these payments forces the banks to hedge against the volatile movements and foreign exchange risks. It also forces the banks to address the liquidity needs due to huge amounts being transmitted. These also include compliance costs of the Banks to regulations and requirements like Basel III and capital ratios. Blockchain helps in addressing these issue through its decentralised ledger, consensus protocol, use of digital assets & Smart Contracts.[v]

Ripple and Stellar are 2 major actors leveraging Blockchain in the banking sector. At the time of writing this article, XRP (Ripple’s currency) & XLM (Stellar’s Currency) were 3rd and 6th biggest Cryptoassets by market capitalization. While both share the common aim of making cross-border payments efficient, their approaches are different. Ripple has used the consortium of banks that use its technology to form a Global Payments Steering group to take advantage of the network effects. It includes some of the biggest banks around the world like Bank of America, Standard Chartered, Mitsubishi, Barclays, Santander, and many more. Axis Bank and Yes Bank are the only Indian banks which are a part of it. Stellar, on the other hand is an open source blockchain platform which can be adopted by any interested organisation. Recently, IBM decided to partner with Stellar to develop a solution addressing the issue.

India, the biggest receiver in the Cross-Border Remittance market can benefit largely from the shift to this new technology. One hindrance with current system of payments is that there is an inverse relationship between the size of transfer and the fees charged due to Economies of Scale. Since Blockchain does not discriminate between the transaction sizes, a whole new wave of population can enter the cross-border payments market which could not do so because of the high transaction fees. According to Ripple, the International Payments costs can go down by 42%-60% through the implementation of its Blockchain network.[vi] India’s incoming remittance market stood at $62.7 Billion in 2016. Assuming the global average cost of 21 basis points on payments volume, Blockchain can help save Indian banks save around $80 Million annually. This will be a huge boost to the already ailing Banking Sector. The inbound new wave of transfers, which till now have been priced out of the market will be an additional perk.

While the government might signal otherwise, RBI has been keeping a trailing eye on the world of cryptocurrencies and Blockchain. Even though it issued multiple warnings regarding virtual currencies, RBI has acknowledged the benefits of Blockchain in its 2015 Financial Stability Report[vii]. This open and innovative attitude can go a long way in benefitting the citizens. It is very rare that the lower strata of the society are the primary beneficiaries of a cutting-edge technology. And for this reason, among others, it is high time that the Central Bank comes out with a concrete policy framework for this burgeoning sector. With India moving towards a Digital-First Economy, it is imperative that it makes Blockchain a part of it.

This article is a part of the IYEA’s Byzantium series covering cryptocurrencies and blockchain technology. The author is a passionate blockchain investor & coin trader. Token Maximalist. Long Crypto.

[i]”With $62.7 Billion, India Top Remittance-Receiving Country In 2016: UN Report”. Firstpost, 2017. http://www.firstpost.com/business/with-62-7-billion-india-top-remittance-receiving-country-in-2016-un-report-3647737.html.

[ii] Mishra, Asit. “India Climbs To 9Th Position On FDI Inflow List, US Retains Top Spot”. 2017. http://www.livemint.com/Politics/78UuHKYx50q7sZDq5tkHrK/India-climbs-to-9th-position-on-FDI-inflow-list-US-retains.html.

[iii] Assessment Of Remittance Fee Pricing. World Bank, 2005. http://siteresources.worldbank.org/INTPROSPECTS/Resources/AssessmentofRemittanceFeePricing.pdf.

[iv] Park, Yoon S. The Inefficiencies Of Cross-Border Payments: How Current Forces Are Shaping The Future. George Washington University, 2017. http://euro.ecom.cmu.edu/resources/elibrary/epay/crossborder.pdf.

[v] Consensus: Immutable Agreement For The Internet Of Value. Ebook. KPMG, 2016. https://www.disledger.com/kpmg-blockchain-consensus-mechanism.pdf.

[vi] The Cost Cutting Case For Banks. Ripple, 2016. https://ripple.com/files/xrp_cost_model_paper.pdf.

[vii] Financial Stability Report. RBI, 2015. https://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/0FSR6F7E7BC6C14F42E99568A80D9FF7BBA6.PDF.