Digital Banks

In November 2021, NITI Aayog had released a discussion paper titled ‘Digital Banks: A Proposal for Licensing and Regulatory Regime for India.’ The paper offers a template and roadmap for a Digital bank licensing and regulatory framework in India.

NITI Aayog has proposed to introduce a restricted digital business bank licence and a restricted digital consumer bank licence, at deepening financial inclusion using technology.

About ‘Digital Banks’ –

• Digital Banks or DBs referred in the discussion paper published by NITI Aayog, means banks as defined in the Banking Regulation (Banking Regulation Act) Act, 1949.
• In other words, these entities will issue deposits, make loans and offer the full suite of services that the Banking Regulation Act empowers them to.
• As the name suggests however, Digital Banks will principally rely on the internet and other proximate channels to offer their services and not physical branches.
• Digital Banks will be subject to prudential and liquidity norms at par with the incumbent commercial banks.

Potential Benefits of Digital Banks –

Cost-to-income ratio –

• • Estimates indicate that DBs have high cost efficiency. Webank (DB in China) for instance incurs a per account operation cost of $0.5. Compare that to traditional banks and (depending where we are), it may come up to 10-20 times higher.
  • In the Indian context, cost to income ratios of large and medium PSBs as also old private banks are more than 50%.
  • The new private banks, while they run a more efficient operation relative to their peers, still had a cost to income ratio as high as 43%.

Miscellaneous Benefits include –

• • The convenience of banking from the comforts of home.
  • 24*7 availability of access to banking functions.
  • Paperless banking.
  • Enables set up of automatic payments for regular utility bills.
  • Facilitates online payments for online shopping etc.
  • Extends banking services to remote areas.

Framework proposed by NITI Aayog –

• In the discussion paper, NITI Aayog has recommend a potential template, pathway and the operative steps under the applicable laws to be executed for enacting a DB licensing and regulatory regime for India.
• As a threshold issue, a two-stage approach is recommended –
  • • Stage-1 — Given the important role of credit in growth of economy and pressing public policy necessity for bridging the credit gap in the MSME sector, it is recommended that Digital business bank license be phased-in in stage 1.
    • Stage-2 — The RBI may consider introducing a “Digital Universal Bank” license in Stage 2 on the basis of regulatory experience gathered in Stage 1.
• For the implementation of the above approach, the following sequence is recommended –
  • • Step-1 — Introduce a restricted Digital Business bank license.
    • Step-2 — The applicant acquiring this restricted license (“Licensee”) enlists in the regulatory sandbox and commences operations as a Digital Business bank in the sandbox. RBI’s regulatory sandbox framework recognizes the need to offer relaxations to entities enlisted in the sandbox to facilitate experimentation.
    • Step-3 — If satisfactory performance of the Licensee is found, the initial set of restrictions can be progressively relaxed to advance the Licensee to a Full Stack Digital Business bank license.
• In the restricted phase, digital business banks may be required to bring in Rs 20 crore of minimum paid-up capital.
• Upon progression from the sandbox a full-scale digital business bank will be required to bring in Rs 200 crore.