In the last twenty years India has undergone a transformation of its economic and regulatory structures. Policy reforms in this period have led to the increasing maturity of our markets, as well as healthy regulation. The emphasis on de-licensing, entrepreneurship, the use of technology and decentralisation of governance to the state and local level have in particular, shifted India from a restrictive, limited access society to a more empowered, open access economy, where people are able to access resources and services more easily and effectively.
But despite these efforts, access to finance has remained scarce in rural India, and for the poorest residents in the country. Today, the proportion of rural residents who lack access to bank accounts remains at 40%, and this rises to over three-fifths of the population in the east and north-east parts of India.
This exclusion is debilitating. Economic opportunity is after all, intertwined with financial access. Such financial access is especially valuable for the poor—it offers a cushion to a group whose incomes are often volatile and small. It gives them opportunities to build savings, insure themselves against income shocks and make investments. Such savings and insurance protect the poor against potentially ruinous events—illness, loss of employment, droughts, and crop failures. However due to the lack of access to financial services, many of the Indian poor face difficulties in accumulating savings.
To mitigate the lack of financial access in India, the regulator has focused on improving the reach of financial services in new and innovative ways — through no-frills accounts, the liberalization of banking and ATM policies, and branchless banking with business correspondents (BC's), which enables local intermediaries such as self-help groups and kirana stores to provide banking services. Related efforts have also included the promotion of core-banking solutions in Regional Rural Banks; and the incorporation of the National Payment Corporation of India (NPCI) to provide a national infrastructure for payments and settlements in the country.
Advancements in technology such as core banking, ATMs, and mobile connectivity have also had enormous impact on banking. Mobile phones in particular present an enormous opportunity in spreading financial services across India. These technologies have reduced the need for banks to be physically close to their customers, and banks have been consequently able to experiment with providing services through internet as well as mobile banking. These options, in addition to ATMs, have made banking accessible and affordable for many urban non-poor residents across the country.
Besides challenges of access and identity, a third limitation has been the cost of providing banking services to the poor who transact in smaller amounts, commonly referred to as micropayments. Banks consider such payments unattractive since transaction costs may be too high to bear.
The Unique Identification number (Aadhaar), which identifies individuals uniquely on the basis of their demographic information and biometrics will give individuals the means to clearly establish their identity to public and private agencies across the country. It will also create an opportunity to address the existing limitations in financial inclusion. The Aadhaar can help poor residents easily establish their identity to banks. As a result, banks will be able to scale up their branch-less banking deployments and reach out to a wider population at lower cost.
An efficient, cost effective payment solution is a dire necessity for promoting financial inclusion. The Aadhaar and the accompanying authentication mechanism coupled with rudimentary technology application can provide the desired micropayment solution. This can bring low-cost access to financial services to everyone, a short distance from their homes.
The key features of Aadhaar-enabled micropayments outlined are as follows:
- UIDAI Know Your Residence (KYR) suffices for Know Your Customer (KYC): Banks in India are required to follow customer identification procedures while opening new accounts, to reduce the risk of fraud and money laundering. The strong authentication that the UIDAI will offer, combined with its KYR standards, can remove the need for such individual KYC by banks for basic, no-frills accounts. It will thus vastly reduce the documentation the poor are required to produce for a bank account, and significantly bring down KYC costs for banks.
- Ubiquitous BC network and BC choice: The UIDAI's clear authentication and verification processes will allow banks to network with village-based BC's such as self-help groups and kirana stores. Customers will be able to withdraw money and make deposits at the local BC. Multiple BC's at the local level will also give customers a choice of BC's. This will make customers, particularly in villages, less vulnerable to local power structures, and lower the risk of being exploited by BC's.
- A high-volume, low-cost revenue approach: The UIDAI will mitigate the high customer acquisition costs, high transaction costs and fixed IT costs that we now face in bringing bank accounts to the poor.
- Electronic transactions: The UIDAI's authentication processes will allow banks to verify poor residents both in person and remotely. Rural residents will be able to transact electronically with each other as well as with individuals and firms outside the village. This will reduce their dependence on cash, and lower costs for transactions. Once a general purpose Aadhaar-enabled micropayments system is in place, a variety of other financial instruments such as micro-credit, micro-insurance, micro-pensions, and micro-mutual funds can be implemented on top of this payments system.
- The Aadhaar-enabled micropayments solution is just one of the many developmental applications of the Aadhaar.
The Aadhaar-enabled micropayments solution is just one of the many developmental applications of the Aadhaar.