Ensuring health of banking sector top priority: Shaktikanta Das at India Economic Conclave 2021

What I have proposed to do today is that I would first highlight a little bit about the global perspective, then talk about the Indian context, and then come specifically to the financial sector: how do we look at the developments in this particular decade, the decade of the 2020s. I would also like to touch upon the activities and developments taking place in the digital financial space, digital lending, digital banking, etc., with particular reference to digital payments. Also globally, the measures initiated in the last decade after the global financial crisis were aimed at reducing leverage and improving the quality and quantity of capital in the banks, among others. As a result, before entering the COVID-19 pandemic, banks in India and banks worldwide were well capitalized and maintained high liquidity buffers, which, coupled with moratorium and asset classification freezes announced by central banks across countries, helped the banking system to stay resilient during these tough times. Measures taken by central banks and national governments such as reducing policy rates, capital, liquidity and regulatory relaxations, asset purchases, forex swaps, and government guarantees played a crucial role in preventing heavy sell-offs and protecting the balance sheets of banks. This collective endeavor resulted in stabilization of the financial sector and provided necessary liquidity support to maintain the flow of credit in economies across the globe. The rapid progress in vaccines has upgraded the global outlook, although we are not out of the woods yet, as fresh waves of newer variants of the virus bring fresh concerns. This is something about which we have to be very careful and watchful and take all the precautionary steps that we have been taking over the last year. While the global economy continues to reel under the impact of this unprecedented shock, the near-term financial stability risks have been contained on account of coordinated interventions by central banks and governments across the globe. The present pandemic underlines the imperative of strong capital buffers in the banking system. While capital reforms undertaken post-global financial crisis did provide space to cushion the immediate impact of the current pandemic, banks would need to shore up their capital position both to absorb some of the slippages as well as to sustain credit flow, especially when monetary and fiscal measures start unwinding. While part of the global regulatory reform agenda is still under implementation, the pandemic provides an opportunity to test and evaluate the efficacy of various reform measures. The learnings from the crisis could throw up new focus areas to be addressed in the design of the international regulatory architecture for banks and other financial sector entities.

Turning to the Indian context, we have to note that maintaining the health of the banking sector remains a policy priority. As I have stressed on several earlier occasions, the strength of the banking system depends on building its capital base while at the same time focusing on corporate governance and an ethics-driven compliance culture. Banks, as well as non-banking finance companies (NBFCs), need to enhance their skill set to identify risks early, measure them, mitigate risk proactively, and build up adequate provisioning buffers to absorb potential losses. They should also augment their internal stress-testing framework with severe but plausible stress scenarios. Upgradation of IT infrastructure and improving customer services, together with cyber security measures, are other key issues that also need attention on our part. We have reorganized RBI's supervision of banks, NBFCs, as well as urban cooperative banks (UCBs) under one umbrella and initiated a series of measures to strengthen supervisory oversight on these entities. Our focus is more on early identification of risks, putting in place a structured early supervisory intervention framework, and increasing focus on root causes of vulnerabilities rather than symptoms. We are also harmonizing the supervisory rigor across banks, NBFCs, and UCBs. The Reserve Bank has also been taking steps to provide all-round support to improve the resilience of these sectors. We have taken several measures in the last year and even before that. I have listed them out in my speech, a copy of which will be uploaded on the RBI website; you could have a look at it, but I am skipping the list of measures we have taken in the interest of time.

Now turning to urban cooperative banks, I would like to stress that they are registered as cooperative societies and have been under the dual regulation of the Reserve Bank and the state and central registrars of cooperative societies. The recent amendments to the Banking Regulation Act, 1949, as applicable to cooperative societies, have brought the functions of governance, capital, audit, and amalgamation of cooperative banks under the regulatory domain of the Reserve Bank of India. In the recent period, we have taken a number of measures to improve the governance structure in urban cooperative banks. We have also taken steps to implement system-based asset classification norms and bring them into the XBRL reporting infrastructure and under the supervisory action framework of the RBI. Last month, we set up an expert committee to examine these issues and provide a roadmap for strengthening the urban cooperative bank sector.

Now I would like to turn to the banking sector and the way ahead, especially in this decade from 2020 to 2030. The Reserve Bank is striving towards a more competitive, efficient, and heterogeneous banking structure. The licensing policies for universal banks, small finance banks, and payments banks are a step in this direction. Presently, we have about 10 small finance banks and six payments banks operational. I foresee four distinct sets of banking landscapes emerging in the current decade. The first set will be dominated by a few large Indian banks with domestic and international presence. The second set will be several mid-sized banks with economy-wide presence. The third set would encompass small private sector banks, small finance banks, regional rural banks, and cooperative banks which may specifically cater to the credit requirements of small borrowers. The fourth segment would consist of digital players who may act as service providers directly to customers or through banks as their agents or associates. In fact, digital players would increasingly emerge as critical pieces across all segments.

Let me now dwell upon the interplay and synergies that could be exploited by these four segments. While they compete with each other to move up the ladder, each of these segments needs to comprehend the future needs of society and respond to the growth in the Indian financial sector. IT systems need to be developed to handle exponential surge in the number of transactions. The example of the Unified Payments Interface (UPI), which took three years from 2017 to 2019 to register a monthly count of 1 billion transactions but doubled to 2 billion a month in a short span of another year, clearly stands out in this regard. This demonstrates the need for scalability of systems and platforms in such a way that it can be easily scaled up, not incremental scalability, but exponential scalability. India is on the way to becoming Asia's top financial technology (fintech) hub, with an 87% fintech adoption rate against the global average of 64%. The fintech market in India was valued at 1.9 trillion rupees in 2019 and is expected to reach 6.2 trillion rupees by 2025 across diversified fields like digital payments, digital lending, peer-to-peer lending, crowdfunding, blockchain technology, distributed ledger technology, big data, regtech, to name a few. In a world where fintech companies are leading in terms of volume of digital transactions and playing a more active role in the banking and finance industry, it is important that commercial banks adapt to technological changes and work in tandem with these entities so that in future they are part of the ecosystem rather than competing with fintech companies for business. A meaningful collaboration and coexistence in providing affordable and efficient value-added services would help both worlds.

From the regulatory perspective, it is the RBI's priority to foster effective regulations with continuous knowledge acquisition so that we stay ahead of the curve. The Reserve Bank's endeavor is to ensure that regulations do not constrain innovation; rather, they should encourage and nurture innovation without compromising the need for financial sector stability, cyber security, customer protection, etc. Optimality in regulation and supervision is indeed the key. With this objective in mind, we have recently constituted a working group on digital lending, including lending through online platforms and mobile apps. Overall, an orderly growth of fintechs will benefit all stakeholders in the financial sector. While we are on fintech and technology, it would be extremely relevant to touch upon the developments in our payment systems where India has shown remarkable progress in recent years. As the adage goes, the best way to predict the future is to create it. At the Reserve Bank, this is our unwavering approach when it comes to future payment systems. With our commitment to foster innovation and provide state-of-the-art and safe experience to users, we have placed ourselves in the forefront of payment systems on a global stage. India has emerged as one of the leaders when it comes to payment systems, perhaps akin to the recognition that India has gained on the COVID-19 vaccine front. Sustaining this position is both challenging and exciting. The growth rate of Indian payment systems has been indeed phenomenal, creating new records with each passing day. Digital payments volumes in India increased at a compounded annual growth rate of over 55% in the past five years, from 5.9 billion in 2015-16 to 34.3 billion in 2019-20, almost six times in five years. Retail payment systems such as UPI and other enabled payment services like AePS have changed the entire dynamics of retail payment systems as they are being used at every nook and corner of the country. Last year, and this is very important, when many other nations were writing checks to provide stimulus to the people, we in India processed 274 crore digital transactions. I repeat: 274 crore digital transactions to provide direct benefit transfers (DBT) to the people straight into their bank accounts.

24/7 and interoperability are two key hallmarks of our payment system, and it will continue to be so. Interoperability is the key if the existing infrastructure has to be leveraged to its maximum or optimal use. RBI's recent initiative in setting up a Payment Infrastructure Development Fund (PIDF) to expand the reach of digital payment infrastructure into less penetrated regions is aimed at making payments more inclusive. The emphasis of the Reserve Bank is on operationalizing all our payment systems around the clock, 365 days a year. I am happy to say that with 24/7 NEFT and RTGS systems, we are among a few countries that provide the facility to transfer any amount at any point of time during the day and at any point of time during the year. The success of UPI in India has attracted immense admiration from the international community. Several countries across the globe have expressed interest in developing a system on similar lines which could provide a basis for stronger bilateral business operations and greater economic partnerships. The UPI system also has the potential to unfold into a cheaper and faster alternative to available means for multilateral cross-border payments as well. It would be appropriate to mention that our RTGS (and this is very important) also has multi-currency capabilities, and with 24/7 operations now, there is a scope to explore whether its footprints could be expanded beyond India. With the Reserve Bank at the forefront of nurturing innovation, the day is not far when we will experience cheaper, faster, and safer cross-border remittances. Also, the indigenous RuPay card network has shown astounding growth across strata and has a significant market share. With RuPay having international presence now, our homegrown card network could make a mark in the global financial landscape going forward.

The Reserve Bank is intensely involved in developing an ecosystem which should not only nurture future technologies but also stimulate the technological aspirations of the financial community in India. On these lines, to enable the growth of fintech in India, the Reserve Bank in August 2019 entered into the elite class of select few countries which have their own regulatory sandbox ecosystem, where any regulated or unregulated entity can come and live-test their innovative products or services in a controlled environment. This is a collaboration between the regulator, the innovators, the fintechs, the financial services providers, and the end users (customers). We should ensure that Indian consumers continue to receive the best-in-class financial services. Additionally, the Reserve Bank has also created our own innovation hub, the Reserve Bank Innovation Hub. This hub will collaborate with financial sector institutions, technology industry, and academic institutions to exchange ideas and contribute to the development of prototypes related to financial innovations. The Bank for International Settlements (BIS) and several central banks have also set up such hubs to stay ahead of the curve in technology absorption. While doing all these, we need to be watchful of the risks associated with certain technological innovations. That being said, while we are working on introducing a digital version of the fiat currency, the Reserve Bank is also assessing the financial stability implications of introducing such a central bank digital currency (CBDC). As the underlying technology is still developing, we are exploring ways for a clear, safe, and legally certain settlement finality which is most crucial for a secure and efficient payment system. It also needs to be appreciated that there are not many practical instances of operationalization of CBDCs across the world. This calls for utmost precaution so that we can produce a safe and robust model of CBDC in India. It is a work in progress at the Reserve Bank of India.

Enhancing cyber resilience is another important aspect when it comes to digital innovations. As we are expanding our operating hours and allowing for increased access and increased interoperability, there are persisting threats of cyber attacks to our systems. Experience shows that even the most efficient and protected systems can get compromised, which could expose stakeholders to disproportionate risks. The Reserve Bank is constantly creating awareness of such incidents and encouraging banks and non-banks to establish and maintain capabilities to avert such attacks. One must also know how to ring-fence such attacks when they occur and swiftly repair and restore the systems to normalcy. Cyber crisis-proofing of systems by undertaking periodic tests as well as drills is indeed very essential. With increased digitization and development of fintech, the traditional ways of credit evaluation are expected to be replaced by new-age credit evaluation methods that focus on a slew of non-financial and reliable transactional data. Many fintech firms have already adopted such an approach, but it is expected that in times to come this may become more mainstream than remaining a niche. This will further facilitate the cause of financial inclusion in India. At the same time, however, it throws up a host of new challenges in terms of concerns of data privacy, consent, and security. Ethical behavior of stakeholders in the payments value chain is important to surmount these concerns. The ability of financial sector entities to respond to these challenges may become a key factor in the determination of their competitive advantage.

Let me now conclude this intervention. You would have seen that I highlighted a lot on digital activities and developments in the digital space, because that is the future. Both conventional banks and new entities will have a lot to do in this area in the current decade. In the dynamic world of financial services, and more so after the pandemic, fintech is expected to challenge the financial sector with innovations and its exponential growth. Harnessing fintech for customer services will effectively control costs and expand banking and non-banking businesses. The increased use of digital payments brought about by COVID-19 could fuel a rise in digital lending in the current decade as companies accumulate consumer data and enhance credit analytics. This in turn presents a new and complex trade-off between financial stability, competition, and data protection, thereby warranting new regulatory frameworks and new ways of monitoring. It is imperative for financial sector regulators to monitor global developments and formulate policy responses to the risks and opportunities that are ahead of us. Going forward, banks need to address the financing needs of new sunrise sectors without undermining the traditional sectors of the economy. This conclave gives us an opportunity to look back on what has been accomplished and deliberate on what still needs to be done. I wish to reiterate that we at the Reserve Bank are fully committed to using all our policy tools to secure a robust recovery of the economy from the debilitating effects of the COVID-19 pandemic. The Reserve Bank remains devoted to building an enabling environment to develop the financial sector and create necessary preconditions for growth while preserving price and financial stability. Thank you very much, thank you for your patience.