Fintech sector in India

Syllabus: GS 3 > Economic Development   >   Indian Economy and issues   >   Digital technology

REFERENCE NEWS:

• The report presented recently by the Standing Committee on Communications and Information Technology to Parliament highlights several key observations and concerns about the Indian fintech ecosystem, especially focusing on the dominance of fintech apps owned by foreign entities and the regulation of digital payment apps.

FINTECH:

• FinTech is an umbrella term coined in the recent past to denote technological innovation having a bearing on financial services.
• The Financial Stability Board (FSB) of the Bank of International Settlements (BIS) defines FinTech as: "fintech is technologically enabled financial innovation that could result in new business models, applications, processes, or products with an associated material effect on financial markets and institutions and the provision of financial services".

FINTECH IN INDIA:

• India is amongst the fastest growing Fintech markets in the world. Indian FinTech industry’s market size is USD 50 Bn in 2021 and is estimated at approximately USD 150 Bn by 2025.
• During 2014 to mid-2022, the sector received more than USD 30 billion in funding.
• Indian Fintech industry ecosystem has various subsegments, including Payments, Lending, Wealth Technology (Wealth Tech), Personal Finance Management and Insurance Technology (InsurTech).
• Currently there are 2,000+ DPIIT-recognized FinTech startups in India with this number growing fast. As of July 2022, India has 23 Fintechs which have gained ‘Unicorn Status’.
• Read more on India’s startup ecosystem here:      https://ilearncana.com/details/India%E2%80%99s-Startup-ecosystem/3936

GROWTH DRIVERS:

• India’s demography:
  • India has more than 50% of its population below the age of 25 and more than 65% below the age of 35. The youth is aspirational and more receptive towards disruptive technologies like fintech.
• Emerging market:
  • A rising middle class with higher disposable income is increasingly investing in new asset classes such as stocks, bonds and real estate investment trusts. This has paved the way for rise of fintech such as Upstox and Groww.
  • For instance, Upstox  became the second-largest stockbroker in India by the number of clients, crossing the 3 million mark in 2021.
• Comparative advantage:
  • Human capital, well-established ICT sector and rapid strives to a digital and knowledge-based economy has enabled India to become a breeding ground for fintech startups.
• Technological developments:
  • Increased adoption of smartphones, UPI-based payments, cheaper internet connectivity etc. has reduced the cost of building digital products and improved access to consumer markets.
  • Future trends present a great opportunity for startups to disrupt and innovate by using technologies such as blockchain, the Internet of Things (IoT), artificial intelligence (AI), and machine learning (ML), among others.
  • For instance, in India, startups like Matic Network (now Polygon) are pioneering in providing scalable blockchain solutions.
• Government Support:
  • Through various measures like Jan Dhan Yojana, Digital currency, India Stack and Startup India mission, government is promoting a strong ecosystem conducive for FinTech.
• Adoption by traditional players:
  • To remain competitive, traditional players like banks have developed their own fintech solutions like paperless lending, mobile banking, digital payments, mobile wallets, insurance, lending.
  • For example, HDFC Bank's digital loan against mutual funds and SBI's YONO digital banking platform illustrate how traditional players are integrating fintech solutions to enhance customer experience and streamline operations.

EXISTING REGULATIONS:

• India does not have a single regulator for all fintech products and services. However,
  • Most areas of fintech (such as payments, digital banking and digital lending) are regulated by the Reserve Bank of India (RBI).
  • Fintech products and services that relate to insurance and securities are regulated by the Insurance Regulatory and Development Authority of India (IRDAI) and the Securities and Exchange Board of India (SEBI), respectively.
  • The Ministry of Electronics and Information Technology acts as the nodal ministry to oversee all information technology (IT) and internet-related products, services, developments and policies.
• Efforts by RBI:
  • Fintech Department:
• It has been established to promote innovation in the sector, identify the challenges and opportunities associated with it and address them in a timely manner.
• The department will also provide a framework for further research on the subject that can aid policy interventions by the RBI.
• Guidelines for digital lending:
• Aiming to curb rising malpractices in the digital lending ecosystem, RBI in 2022 issued guidelines for entities engaged in digital lending.
• Sandbox Framework: 
  • The RBI has introduced a regulatory sandbox framework for fintech innovation, allowing live testing of new products and services in a controlled regulatory environment to balance innovation with risk management.

CONCERNS AND CHALLENGES:

• Financial hurdles:
  • Central banks worldwide are withdrawing liquidity released during the pandemic to tame inflation. This resulted in fears of a recession in developed countries, prompting investors to hold on to equity investments. As a result, funding to the fintech sector has dipped.
  • Eg: The fintech sector in India witnessed a 41% drop in venture capital funding in 2022.
• Regulatory hurdles:
  • With multiple rate slabs, surcharge and cess, India has a complex and unpredictable capital gains tax system. This discourages fintech consumers and companies alike.
• Privacy and security concerns:
  • In the absence of a clear-cut financial data regulation regime, users have limited control over how their data is collected, how they are processed, who has access to it or how it is used to impact their day-to-day life.
  • Growth of fintech have also led to a rise in frauds, identity theft and cyberattacks through hacking and ransomwares.  
• Internal security concerns:
  • Proliferation of fintech has increased the threat of money laundering and foreign snooping.
  • Eg: Ministry of Electronics recently issued orders to block 138 betting and gambling apps and 94 quick loan-providing apps on an “urgent” and “emergency” basis for “improper data storage and transfer” to other countries as well as money laundering.
• Illiteracy:
  • A large share of India’s population lacks financial and digital literacy. This hinders them from accessing the benefits of fintechs.
• Infrastructure constraints:
  • Factors such as slow internet speeds and inadequate digital infrastructure pose challenges to the growth of the fintech sector.

WAY FORWARD:

• Regulatory Challenges and Recommendations:
  • The report emphasizes the need for effective regulation of digital payment apps, suggesting that it would be more feasible for regulatory bodies like the RBI and NPCI to regulate local apps compared to foreign apps, which are subject to multiple jurisdictions. 
  • The Committee supports the NPCI’s decision to implement a 30% volume cap on transactions facilitated using UPI by any single third-party app(like PhonePe and Amazon Pay) to prevent monopolistic practices and ensure a balanced growth within the ecosystem. 
• Balancing Local and Global Fintech Players: 
  • The report by the Standing Committee on Communications and Information Technology suggests that a balance needs to be struck between promoting local fintech players, who have a natural advantage in understanding the local market, and foreign fintech companies, which bring in new technologies and global connectivity.
  • For instance, experts from Deloitte India suggest that the Indian ecosystem requires a mix of local and foreign players across different fintech services to evolve healthily.
• Explore new areas:
  • Fintechs have the potential to contribute to important areas of India’s economy. Eg: Making credit available in a timely and cost-effective manner for agriculture and allied activities and MSMEs.
• Connect industry with regulator:
  • Fintechs, banks and government regulators should work together to develop regulatory initiatives like Regulatory Sandbox. This can help improve compliance and ensure that legally operating fintechs do not face hurdles.
• Self-regulatory organizations:
  • Self-regulatory organizations for the sector can be instituted to address issues within the subsectors and help the sector achieve its true potential.
• Promote digital and financial literacy:
  • Efforts to reduce digital and financial illiteracy needs to be carried forward.
• Data protection regime:
  • India is expected to be one of the largest players in fintech in the coming years. But for it to be safe and beneficial, India needs to finalise and implement the data protection bill.
• Simplify tax regime:
  • A rationalized, simplified and predictable structure for taxing capital gains on equity and debt can further add to vibrancy of the fintech sector and Indian capital market.

PRACTICE QUESTION:

Q. Discuss how the fintech sector is contributing to financial inclusion in India and what challenges and concerns it faces. (15 marks, 250 words)