Context: Recently NITI Aayog published a discussion paper titled “Digital Banks: A Proposal for Licensing & Regulatory Regime for India”, which explained the value proposition of full-stack digital banks and laid down an implementation plan.
The reason behind the advocacy of full-stack digital banks is the lack of credit penetration among MSMEs and the full-stack digital banks are a potential solution for the persistent policy challenge of credit deepening and are seen as “the next stage of financial inclusion”.
About Digital Bank:
A digital bank would be a bank defined in the Banking Regulation Act, 1949, and shall have its own balance sheet and legal existence.
It is banking done through the digital platform, doing away with all the paperwork like cheques, pay-in slips, Demand Drafts, and so on.
It means availability of all banking activities online.
The shift from traditional to digital banking has been gradual and remains ongoing, and is constituted by differing degrees of banking service digitization.
Difference between Digital Banks and Digital Banking Units:
Digital banks are financial institutions that have no physical branches and offer banking services entirely online through their website and mobile banking app.
Digital banks will be completely independent banks to be licensed under the Banking Regulation Act, 1949, and they will follow the Reserve Bank norms on par with commercial banks.
While Digital Banking Units do not have legal personality and are not separately licensed under the Act.
Issues with Traditional Banks:
Traditional banks find it difficult to assess creditworthiness of SMEs while manually curating information from physical documents such as financial statements, tax returns and payroll statements.
The current delivery systems are largely paper-based, with high turnaround time and requiring multiple visits to bank branches.
It entails high operational costs for lenders and opportunity costs for borrowers.
MSME borrowers want a fast approval process and certainty regarding funds availability.
They value speed and convenience and want a seamless, consistent lending experience that delivers instant decisions and immediate delivery of funds.
Significance of Digital Banking:
The flow of credit will improve in the rural areas.
Poor will get easier access to money and loans.
The establishment of these units will be cheaper than the conventional brick and mortar units.
They will provide better technical support to customers.
Digital Units will decrease the manpower requirement.
For the scheduled banks, they will ensure steady profits.
DBUs will help the government enhance digital literacy.
Challenges of Digital Banking:
The limitations of DBU include low public awareness and internet penetration in lower-tier cities.
Digital banking forums are prone to vulnerabilities and hacks such as phishing, pharming, identity theft, and keylogging.
Huge investment needed: Banking institutions are investing a lot in their security systems.
Way Forward:
Digital banks are best suited to usage of new age techniques like predictive analyses and artificial intelligence (AI) to arrive at real time decisions for time-busy MSMEs and Individuals at large. These technologies allow banks to move from traditional funding methods based on collaterals to advanced cash flow lending.
Digital banks can rethink and retool lending mechanism, credit underwriting process and gradually shun security-oriented lending. All that which has been done to payments ecosystem in India needs to be replicated in the field of credit assessment and delivery which will further enhance financial inclusion in the country.
