Rebooting the Indian FinTech story

NITI Aayog, the Indian central government’s public policy think-tank had earlier this year released a report on ‘India’s Booming Gig and Platform Economy’ (Report). The Report primarily focusses on key issues that must be addressed for achieving the full potential of the Indian gig and platform economy, and makes a number of recommendations to achieve such potential, and for the welfare of the gig and platform workers.

One of the laudable observations made by the NITI Aayog under the Report is the lack of proper access to institutional credit to platform workers. The Report recognises the need for financial inclusion of platform workers, and recommends expanding a platform worker’s access to credit by transition of lending institutions from traditional asset-based lending to new-age cash flow-based systems of lending. The Report also takes note of how financial technology (FinTech) startups are addressing this issue through use of technology, the basis for their business models, as well as the market opportunity available to such FinTechs.

In this write-up we analyse this particular recommendation of the NITI Aayog in light of the legislative and regulatory framework surrounding lending in India and the participation by FinTechs in such lending.

Universal applicability of the recommendation

While the Report makes the above recommendation only with respect to platform workers, we believe that the problem of inadequate access to institutional credit is equally applicable to all gig workers whether associated with a platform or otherwise, as well as a large segment of the Indian population who may not be categorised as gig workers. Accordingly, while the scope of the Report is limited to gig and platform workers, the recommendation may be universally applied for all persons not having access to formal credit systems.

Lending and FinTechs

The key difference between asset-based lending and cash flow-based lending is that loans provided under the asset-based system of lending are secured by the assets of the borrower, whereas cash flow-based lending is collateral free. Under cash flow-based lending, lending institutions analyse the readily available data pertaining to the borrower, which includes data points from prior transactions, as well as information such as whether the individual is a salaried person, has regular income, or the social connects of the borrower, etc. FinTechs have developed the capability to perform this analysis for underwriting loans in a remote and automated manner, and on a real time basis. On the basis of this analysis, loans may be issued to small or micro creditors for short durations of 10, 15, or 30 days, entirely through digital means, and without the need for submission of any documents or information. This ensures that the client acquisition cost is kept at a bare minimum.

Regulatory hurdles

Availability of formal credit outside the traditional asset-based systems of lending, entirely through digital means, is key to effectively achieve India’s goals of banking the unbanked, and FinTechs are poised to play an important role in realizing this goal, which is similarly echoed by the Report. However, the Reserve Bank of India’s (RBI) recent notifications / directions / press releases / announcements that regulate FinTechs participating in digital lending have caused a significant impact on the business models of these FinTechs. For example, RBI’s notification to non-bank prepaid payment instrument (PPI) issuers, barring them from loading PPIs through credit lines has caused several buy-now pay-later FinTechs to temporarily halt their services and reconsider their business models.

Further, the ability of the balance sheet lenders to outsource credit underwriting activities has been considerably curtailed by

(a) RBI’s press release dated 10 August 2022 on ‘Recommendations of the working group on digital lending – Implementation’ (which can be accessed here) (Press Release);

(b) master direction dated 21 April 2022 on issuance and conduct of credit and debit cards; and

(c) the existing prudential norms applicable to all RBI regulated entities.

This may consequently result in the erosion of value that a FinTech brings to the table, thereby making association of regulated entities with FinTechs less attractive. The Press Release also records RBI’s stand that contractual arrangements such as ‘First Loss Default Guarantee’ which allows FinTechs to demonstrate their skin-in-the-game and to incentivise regulated entities to provide credit facilities, are ‘in-principle’ objectionable. However, the actual extent of regulation of such arrangements is yet unknown.

Our thoughts

The increasing regulations governing FinTechs appear to be in direct contrast with the ambitious role that the FinTechs are predicted (in the Report) to play in accelerating financial inclusion. With snowballing concerns over the sustainability of the business models of FinTechs, issues regarding financing of FinTechs must also be considered, seeing as new capital is extremely difficult to come by, and any raising of capital is often available only at great costs, whether through taking on debt or by dilution of equity rights. The problem of non-availability of capital for platform businesses and the need to provide financial support to these businesses has also been identified and deliberated under the Report.In light of the above, it is imperative that regulation of FinTechs for the protection of retail consumers should not come at the expense of our FinTech industry. A working balance must be sought to be achieved to ensure the promotion of these FinTechs, and to fully utilize their potential for development of technology based financial products which enhances financial inclusion, while maintaining the standards of credit throughout the country.

Authors: Souvik Ganguly

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