Demonetisation, Cashless Economy and PayTM

Disclaimer: This was written with specifically activists, grassroots movements in mind and is all set to be translated into Hindi after undergoing editions.

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Almost everyone remembers Narendra Modi’s full-page cover ad in leading newspapers, where PayTM congratulated him on the boldest ever financial decision made in Independent India. And almost everyone was stunned by the fact that the Prime Minister could actually endorse a private entity. Rewinding back, the date was 9th of November, an evening after Modi took the decision to demonetise Rs. 500 and Rs. 1000, stripping these bills of their legal tender pushing millions of Indians in a state of chaos with serpentine lines almost in every nook and corner of the country outside of banks and post offices either to exchange old denominations with new ones or deposit currencies in old denominations. With numerous fatalities resulting from this move, the Government is bent on marketing the rhetoric of cashless economy and has even announced a spate of tax exemptions and rewards for those going on to digital transactions. Recently, Chandra Babu Naidu, CM of Andhra Pradesh, who is often credited with floating the idea of demonetisation way back in 2013 expressed his utter helplessness in trying to get the situation under control, and the story is afloat across the political spectrum, but for the ruling dispensation, who sees this move as glorious in order to curb black money, counterfeiting, terror funding and tax evasion. But, for the last, the first three are misplaced as eminent economists from left as well as right have called demonetisation as sickly implemented bringing vainglory to the plan and extreme hardships on the common citizenry, which continues unabated even today. The logics have changed from the four parameters that demonetisation was supposed to effectuate towards going cashless, or digital. PayTM is one such intermediary that seems to have captured the imagination of the country. But, would this be the future of cashless economy, or would Indians be able to sink going cashless is too early to state at the moment. Let us turn our attention to what exactly is the scheme all about.

To begin, let us try and understand what is digital money. Ely, B.  in his Electronic Money and Monetary Policy: Separating Fact from Fiction says, “Digital money or electronic money is the money balance recorded electronically on a “stored value” card, often called “smart cards” that have a microprocessor embedded which can be loaded with a monetary value.” But, that is one form of such money, while the other form is network money, where the software allows the transfer of value on computer networks, particularly the Internet. Just like a travellers’ cheque, a digital money balance is a floating claim on a private bank or other financial institution that isn’t linked with any particular account. this money is issued by both public and private institutions and is raising concerns about the futuristic ability of central banks to set monetary supply targets, to which we would turn later. So, how does one envisage cashless economy for India? And before that, what exactly is cashless economy? Cashless Economy is when the flow of cash within an economy is non-existent and all transactions have to be through electronic channels such as direct debit, credit and debit cards, electronic clearing, and payment systems such as Immediate Payment Service (IMPS), National Electronic Funds Transfer (NEFT) and Real Time Gross Settlement (RTGS) in India. Since, India has been a cash-rich economy, post demonetisation, the government has launched itself into the cashless drive. But, before venturing any further, we must have to deal with statistics. In India, cash-to-GDP ratio hovers around 12%, which is enormously high and is attributable to lack of banking access resulting in high cash transactions; almost zero costs incurred in cash transactions; and a large unorganised sector with overwhelming majority of retailers, suppliers and service providers banking on cash rather than going the digital way.

Pros and Cons of cashless economy for India:

The cashless economy has its own advantages. The transaction costs are coming down and will further go down. Once a substantial part of transactions are cashless, it would bring down the cost of printing, managing and moving money around. Further, the cashless economy automatically solves the problems of cash out on long holidays, risk of carrying currency notes etc. Further, the lesser use of cash strangulates the grey economy, prevents money laundering and increase tax compliance. Increased tax base would result in greater revenue for state and greater amount available to fund the welfare programmes. Lastly, Cash being material, can be prevented from circulation but electronic channels alleviate this friction and increase circulation of currency.

But, it also has its series of disadvantages, and for a country like India, these are gargantuan, for the basic prerequisite to going cashless is Internet literacy, and whatever may be ascribed to India being a IT giant, its large swathes of population are still bereft of the basic of network and communication technology. Even if India is touted as the largest growing smart phone market in the world, the permeability isn’t much to hope for as a significant population of the country resides in pockets where networks either are weak or do not have any presence. Apart from this, hacking and cracking pose a serious danger as digital wallets, how much ever secured they are touted to be are vulnerable to security breaches where encryption-decryption keys could be easily manipulated and therefore used for vested and malicious intent. The third important danger to be factored here is biometric usage in accessing cashless-driven economy, where rates of failure are high with concomitant hardships faced by the consumers. These cons counter the pros in making cashless economy a distant dream and there is indeed a long way to venture before the Governmental claims can make this happen and turn this into a reality through a magical wand.

Anyways, moving on, what are the prerequisites of bringing about a cashless economy? Enabling access to banking is a pre requisite to promote cashless economy. A robust payments mechanism to settle a digital transaction is also needed, though the National Electronic Funds Transfer and Real Time Gross Settlement services. The Reserve Bank of India will also have to shed some of its conservatism, part of which is because it has often seen itself as the protector of banking interests rather than overall financial development. This part is definitely undergoing a sea change as the role of RBI seems to have undergone precisely that under the Chairmanship of Urjit Patel. The expansion of telecom and smart phones would provide a digital shift to the economy in near future. The private sector the driver of this change. Government is also mulling to provide incentives for electronic payments for example waiver of tax when electronic settlements are used, which it has already initiated. But moving back the circle, the question remains whether India is ready for this cashless transition? Looking at the reports published by the Economic Times, while the jury is still out whether government’s move at demonetisation to arrest black money would backfire, one thing is certain that it has brought digital in the centre of payments debate, and as banks and vendors are trying to capitalise on the country’s severe cash crunch, the verdict of going cashless would all boil down to the people. As ET asked, will this shove finally make people conscious of the cost of cash?

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Consider this Trilogue,

At a fish vendor, an erudite lady buys fish and wants to transact the purchase with the vendor using her debit card. An esquire is in the queue eavesdropping on the conversation.

Lady: So, do you accept payment through cards?

Vendor: Not by cards, but you could PayTM me. 

Lady: Isn’t it true that while suing PayTM, you are being charged 1.5% as surcharge that goes to the Government? 

Man: No, it isn’t 1.5%, but hovers between 1.5% – 2.5% depending upon the volume of purchases. 

Lady: So, it goes to the Government, right?

Vendor: (exasperatedly) To the Government? No, it goes to the company. 

Lady: But, isn’t PayTM a Government undertaking? 

Vendor: (shockingly) From all that I am aware of, it is not Government-owned or Government-run,  but the money goes to the company. 

Man: PayTM has nothing whatsoever to do with the Government, as it is a purely private company/corporation/institution. 

Lady: (anguished) Then why is it that the Modi Government is advertising for a private corporation? 

The trilogue isn’t fictional, but happened a couple of days back in Delhi’s upmarket INA, and narrated by a colleague of mine, who incidentally happened to be the esquire in the conversation.

But, it needs to be noticed here that Paytm had scrapped the merchant transaction fees for offline transactions (i.e. while using Paytm for payments at physical shops) back in Feb 2016, which means the merchant also need not bear any extra cost while accepting payments through Patym.

Welcome to the world of PayTM.

PayTM, owned by One97 Communications, is a digital payments platform that allows you to transfer cash into the integrated wallet via online banking, debit cards, and credit cards, or even by depositing cash via select banks and partners. Using the money in the PayTM wallet, you can pay for a number of goods without using cash. PayTM Wallet, as mentioned above, is the digital payment instrument where you can transfer money from your bank account or credit card to use for transactions on the platform. You need to set up an account using your mobile phone number and email ID to setup a PayTM account and transfer cash to the wallet. You can add up to Rs. 10,000 in a month in the Wallet; if you want to increase the monthly limit, then you can get the KYC (Know Your Customer) processor done. With this, you can have up to Rs. 1 lakh in the PayTM Wallet at any point of time. No, the obvious question is: is this digital wallet safe and secure? PayTM – which is an RBI-approved wallet – says it keeps the money you put in the Wallet is “protected under Escrow account with a reputed bank.” PayTM uses Verisign-certified 128-bit encryption technology, which means that the secret key used in transactions is a sequence of 128 bits and does not reveal anything about the password length or contents. The platform is PCI DSS 2.0 certified, which means it does not store credit card data in unencrypted form. Technicals aside, PayTM could be used for online as well as offline payments. By online would mean, payment over the internet, and by offline would connote scanning the Quick Response (QR) code/barcode along with an OTP, One Time Password to realise the payments at a vendor’s.

PayTM is an e-commerce fin-tech web portal with services in online shopping based out of NOIDA in the National Capital Territory of Delhi. Owned by One97 Communications, Vijay Shekhar Sharma is the CEO of the firm. In March 2015, Indian industrialist Ratan Tata made personal investment in the firm. The same month, the company received a $575 million investment from Alibaba Group of China, after Ant Financial Services Group, an Alibaba Group affiliate, took 25% stake in One97 as part of a strategic agreement. Paytm borrowed 300cr from ICICI Bank in March 2016 as working capital. These three make up for the chief funding sources of the firm.

Let us focus on how PayTM works and how it earns its share of monies or profits? Once a user registers on PayTM, it creates a escrow account (virtual code) against which a ledger is made with an entry of Rs.10k (Rs. 20k till Dec. 31, 2016). Whenever a buyer adds some money to PayTM wallet, a debit entry is created in the ledger account with the amount entered by the user. Suppose, a buyer enters Rs. 1000 and keeping the maximum limit of wallet to Rs.10k then in the ledger a debit entry will be created with Rs.1000 and the balance will be shown as Rs.9000. Now suppose the user makes a transaction of Rs. 500 from the wallet, then a credit entry is created in the ledger with Rs. 500 and making the balance amount to Rs.9500 and wallet balance to Rs.500. Suppose the user receives a cashback of Rs.50 into his PayTM wallet. In this case again a debit entry of Rs.50 is created on the ledger leaving the balance in the escrow to Rs. 9450 and wallet balance to Rs. 550. PayTM is more about escrow economy. PayTM does recharges and bill payments. While Government entities may not entertain commissions to PayTM they surely hook the customer to PayTM’s wallet for payments because PayTM gives CashBack on all of these in the form of Wallet Cash which can only be redeemed against any payment made via its network and can be withdrawn into one’s bank account. It is important to note here that PayTM negotiates hard on the Settlement time to these vendors i.e. there is a time lag in which you pay PayTM and PayTM pays the Vendor. Assume Your Due date for payment of Light Bill is 1st of the Month – You pay it by that date, PayTM will release the same money to the vendor by say 8th of the Month (Your Electricity will not be disconnected because PayTM has given confirmation to the vendor that the payment has been settled) and thus PayTM in turn will make money out of the interest that it earns out of the lying deposits in the wallet.

How is PayTM any different from normal debit or credit cards? It is not feasible to physically carry point of sale (POS) machine to swipe the card at every location. Thus Payment Gateway comes to the rescue, The payment gateway, or PayTM in this case acts as a virtual POS on the webpage/portal to accept money. Lets assume a customer made a purchase of 1000 INR on the website of the merchant, the merchant did some 9 similar transactions in the week i.e. Total Value of Weekly sale is 10,000 INR, now at the time of settlement from the payment gateway (PG) to the seller the PG will get a discounted amount from the bank, since the PG has a higher bargaining power with the bank on account of its large transaction volume the bank agrees to cut down Transaction Discounting Rate (TDR) from 2% to 1.5% (assume). Thus the PG will receive (10,000 * (1-1.5%*(1+14.5%))) = 9828.25 INR and will further discount it by 1% (assume) to pass it on to the merchant i.e. the merchant will finally get about 9715 INR (9828.25 * (1-1% * (1+14.5%))). Thus in the whole process, the Card Issuer made the same amount of money, the bank made slightly lesser money on account of customer acquisition and the payment gateway made some money. It is not about promoting PayTM at all, it is as I said the escrow economy which economically/financially is better at cost-effectiveness that I (used metaphorically) would be most benefitted by. The larger picture is thus to be considered vis-a-vis debit/credit cards, where banks are charged higher by the issuers, even if these are bank-owned cards. For instance, a MasterCard issued by the SBI would have a charge that the SBI would be mandated to pay the MasterCard, which itself acts as a payment gateway.

To end this, I did mention about how the Central Bank, Reserve Bank of India in our case would be finding it challenging to decide on monetary supply with an economy that is increasingly going cashless. If electronic money is issued through the conversion of banknotes or sight deposits, it does not change the money supply and price stability is not endangered. However, if electronic money is issued as a consequence of credit, private issuers have incentives to supply additional amounts of electronic money as long as the difference between the interest charged on the credit and the one paid on electronic money covers the credit risk premium, the provision of the payment service, and possibly also the cost of refinancing. Given the low marginal cost of producing electronic money, its issuance could in principle proceed until the interest rate charged on the credit extended for the provision of electronic money is equal to the credit risk premium. This, by lowering the level of interest rates, could in turn endanger the maintenance of price stability. The risk of overissue would be limited by two factors which increase the costs of issuing elec- tronic money, thereby limiting its supply: first, in a competitive environment, electronic money balances could be remunerated; second, and more importantly, a redeemability requirement could oblige the issuer to possess central bank money. An even stronger measure, which could be con- sidered in the light of future developments in electronic money, would be to introduce a coverage requirement on electronic money, i.e. to request issuers of electronic money to cover part or all of their liabilities with base money. Another way to limit the risk of overissue would be to require rapid clearing of electronic money balances in central bank money. Thus, it appears that there are several reasons to assume that the risk of overissue of electronic money can be contained. However the issuance of electronic money may have an impact on the conduct of monetary policy, as I have been claiming for quite a time now. Or else, switch to bitcoins!!!

blockchain-ledger

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4 thoughts on “Demonetisation, Cashless Economy and PayTM

  1. इस लेख का हिन्‍दी अनुवाद भी प्रकाशित हो तो बहुतों के लिए उपयोगी होगा।

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