WP/ 21/ 52 Indias Approach to Open Banking: Some Implications for Financial Inclusion by Yan Carrire-Swallow, Vikram Haksar and Manasa Patnam IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.2021 International Monetary Fund WP/21/52 IMF Working Paper Monetary and Capital Markets, European and Strategy Policy and Review Departments Indias Approach to Open Banking: Some Implications for Financial Inclusion Prepared by Yan Carrire-Swallow, Vikram Haksar, and Manasa Patnam Authorized for distribution by Prasad Ananthakrishnan February 2021 Abstract We examine how the development of the digital infrastructure known as the “India Stack” including an interoperable payments system, a universal digital ID, and other featuresis delivering on the governments objective to expand the provision of financial services. While each individual component of the India Stack is important, we argue that its key overarching feature is a foundational approach of providing extensive public infrastructures and standards that generates important synergies across the layers of the Stack. Until recently, a large share of Indias population lacked access to formal banking services and was largely reliant on cash for financial transactions. The expansion of mobile-based financial services that enable simple and convenient ways to save and conduct financial transactions has provided a novel alternative for expanding the financial net. The Stacks improved digital infrastructures have already allowed for a rapid increase in the use of digital payments and the entry of a range of competitors including fintech and bigtech firms. JEL Classification Numbers: G21, G28, O16. Keywords: Fintech, digitalization, open banking, digital payments, financial inclusion. Authors E-Mail Address: VHaksarimf, YCSwallowimf, MPatnamimf IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.3 Contents Abstract _2 I. Introduction _4 II. The Indian Financial Landscape _5 Launch of the Aadhaar Digital ID _6 Expansion of Banking Access _9 Further Efforts at DigitalizationFintech Mobile Money _11 Unique Payments Interface _13 III. The India Stack: Key Features _16 IV. Discussion of the Indian Open Banking Model _19 Digital ID (Aadhaar) _19 Payments (UPI) _19 Data sharing _21 V. Conclusion _23 References _24 Figures 1. Financial Service Access and Intermediation in India _5 2. Aadhaar Digital ID Enrollment _7 3. Indicators of access to financial services in India _9 4. International comparators of financial market development _10 5. India: Fintech Diffusion _12 6. Indicators of Retail Financial Transactions in India _15 Table 1. Open Banking design choices: India and selected other jurisdictions _174 I. INTRODUCTION 1 Over the past ten years, India has seen an ambitious overhaul of its digital infrastructure through the development of the so-called “India Stack.” 2 The main objectives of this initiative have been to promote financial inclusion through increased access to financial services, improve the delivery of public services and benefits, and increase competition in the Indian financial sector. The Indian approach has had early success in promoting large increases in the number of individuals with bank accounts 3 and access to digital payment services among Indias large previously unbanked population, earning praise for the speed with which financial inclusion has been increased (DSilva et al., 2019). Moreover, these measures have set in motion a significant expansion of digital payments, with a more gradual progression in active use of new bank accounts. Based on the experience of other countries, this can support an expansion of broader financial services provision, with products offered that leverage data harvested from payments activity. In Carrire-Swallow (ii) an inter-operable payments interface; (iii) digitalization of documentation and verification; and (iv) a consent layerstill 1 A revised version of this paper will appear as Chapter 11 in Open Banking, edited by Linda Jeng and published by Oxford University Press. The authors thank Linda Jeng, Elias Kazarian, Harish Natarajan, Kristel Poh, Damien Puy, Vishal Raina, Nilima Ramteke, David Rozumek, Tao Sun, Mario Tamez, and TengTeng Xu for insightful discussions and comments while remaining responsible for any errors or omissions. 2 The India Stack corresponds to a set of application programming interfaces (APIs), open standards, and infrastructure components that allow Indian citizens to obtain a range of services digitally. See also Saroy et al. (2020) for further discussion. 3 For instance, as we document below, the use of bank accounts increased from a low 35 percent of adult population in 2011 to 80 percent in 2017. 4 See “Non-Banking Financial Company - Account Aggregator (Reserve Bank) Directions, 2016,” available online at rbi.in.5 under constructionfor the management of individual data through regulated intermediaries. This paper begins with some context on the Indian financial landscape prior to the implementation of the India Stack reforms. It goes on to describe the reforms that have defined Indias approach to open banking and open data. Finally, it discusses the main design choices in the India stack and some potential implications, with some commentary about the applicability of elements of the Indian approach in other countries. II. THE INDIAN FINANCIAL LANDSCAPE Until as recently as 2011, access to financial services remained low in India (Figure 1), with only 35 percent of adults in India possessing a bank account, well below the average of other emerging market economies (Demirg-Kunt et al., 2018). Even fewer adults saved or borrowed with a financial institution, at 12 and 8 percent respectively. The financial sector landscape was dominated by the public sector, with 61 percent of banking assets held by public sector banks (IMF, 2019). Payments systems have an important role to play in promoting financial inclusion by facilitating the smooth operation and provision of financial services (BIS, 2016). The payments system in India had been gradually modernized through the establishment of the Real Time Gross Settlement (RTGS) system in 2004, and the passage of regulatory reform in 2007. 5 The reform empowered Indias central bank, the Reserve Bank of India (RBI), to regulate and oversee all payment and settlement systems in 5 The Payment and Settlement Systems Act, 2007. Figure 1. Financial Service Access and Intermediation in India Source: Demirg-Kunt et al. (2018). Note: Compiled in 2011 using nationally representative surveys of more than 150,000 adults aged 15 and above in over 140 economies. In India, 3,000 people were surveyed. Emerging market peers are Argentina, Brazil, China, Indonesia, Kenya, Malaysia, Mexico, Peru, the Philippines, Romania, Russia, South Africa, Sri Lanka, Thailand, Turkey, Ukraine, and Vietnam.6 the country and also to provide settlement finality together with a sound legal basis for netting (BIS, 2011). Despite these efforts, a low level of bank penetration went hand in hand with the populations high degree of dependence on cash, with currency in circulation amounting to approximately 12 percent of GDP (Chaudhari et. al, 2019). Extensive use of cash took place despite several important constraints, including a high opportunity cost of holding cash and the limited availability of ATMs in India, at only 21 per 100,000 adults (IMF Financial Access Survey, 2018). A biproduct of reliance on cash for transactions is that they are often not recorded, thus generating no data for future use as a signal of company cashflow and consumer spending patterns. Starting around 2010, several government initiatives set the stage for the expansion of financial access, laying a technological foundation for further improvements in financial inclusion. 6 To explain the evolution of financial access and intermediation in India over the past decade, we document below the chronology of reforms and public sector initiatives beginning with the large-scale provision of a national digital ID. This sequence of reforms provided the basis for several elements in the financial sector development process. Launch of the Aadhaar Digital ID The Aadhaar identification system, launched in 2010, is a digital identity infrastructure with a very low unit cost of operations, to which all residents of India are entitled. 7 Individuals may obtain an identification number that is unique and linked at the time of enrollment to their biometric identifiersincluding photograph, ten fingerprints, and two iris scansas well as basic demographic data. 8 The twelve- digit number is randomly assigned at the time of enrollment, ensuring that no information about a person is contained in the number itself. 9 Crucially for the goal of universality and promoting inclusion, registration for Aadhaar does not require previous physical identification, whether state-issued or otherwise, although the capture of biometric identifiers can be physically challenging in some groups (e.g., the elderly). A motivating objective for introducing a national digital-identity system was to help improve the delivery of government services and reduce the leakages associated with its targeting (Sen, 2019). Aadhaar can be used to digitally authenticate individuals for a variety of public and private services, enabling biometric checks to reliably verify 6 The RBI has also been actively involved in bringing about technological improvements in the payment systems e.g., through the triennial Payment System Vision document and dedicated committees to guide the use of ICT for the benefit of banking in general. 7 While the universal ID system was announced and institutions created in 2009, the name Aadhaar was announced in March 2010, with the first number issued in September 2010. For details on the legal and institutional framework for the Aadhaar system that discusses how the Aadhaar ID is issued to residents, see World Bank (2017). It is important to note that the ID does not itself confer citizenship, rights or entitlements. 8 Only four demographic variables are mandatorily collected in Aadhaar including, name, address, gender, and date of birth. The biometric technology allows for bypassing fingerprint capture for manual laborers and the elderly, and has enhancements allowing for retinal and potentially facial recognition. 9 This contrasts with several other ID systems that have information encoded in the identity number itself (such as specific digits for gender, or a chronological order indicating the birthdate).7 the identity of the holder, thus reducing the chances of false identities and fraudulent claims to state benefits. The Aadhaar number can be used across the country to authenticate an identity at any location, including online. Interoperability is an important feature of the Aadhaar digital ID system that was not present by design in several other identity systems in India, such as tax cards, voting cards and drivers licenses. 10 These legacy systems are more limited in scope and restricted to specific use cases, with a non-universal coverage, rendering them inadequate for identifying individuals across government services (Misra, 2019). Prior to Aadhaar, nearly half of Indias 1.2 billion residents lacked a nationally accepted ID, often reflecting the absence of a birth certificate due to the incomplete coverage of the civil registry system. These limitations restricted the effective delivery of social welfare programs and banking services, which were often precluded by the complexity of verifying identity. The Aadhaar database contains basic personal data on almost all Indian residents, and a key focus of its governance has been to adequately protect user privacy while enabling the provision of efficient identification services. The Unique Identification Authority of India (UIDAI) is a public agency, not reporting directly to any other Ministry, that facilitates the collection of demographic and biometric data during Aadhaar enrollment (often by third-party intermediaries), verifies its uniqueness, and stores the information on a central identity repository. The UIDAI is given a public mandate to provide identification services of Aadhaar holders and may charge a fee for doing so that is deposited in a government account. In turn, it is subject to extensive regulation requiring it to protect individuals privacy, particularly by ensuring the security of their core biometric data. 11 Also, recent litigation in India has 10 Indeed, to the best of our knowledge, most identity systems around the world do not build in interoperability by design. 11 The UIDAI maintains that it stores data of all Aadhaar holders in safe and secure manner, using advanced security technologies, in a centralized repository. A separate law on the protection of personal data (the Personal (continued) Figure 2. Aadhaar Digital ID Enrollment Source: UAIDI. 0 0.2 0.4 0.6 0.8 1 1.2 1.4 2010 2011 2012 2013 2014 2015 2016 2017 Issued not linked to bank accounts Linked to Bank Accounts (Number of Aadhars issued and linked to bank accounts, cumulative in billions) Sources: UAIDI 1.2 Bn8 limited the scope of mandating use of Aadhaar data by the public sector and for financial service provision. Figure 2 reports the cumulative number of unique Aadhaar numbers registered to Indian residents since its launch in 2010. Within three years, about 600 million Aadhaar digital ID numbers had been issued, equivalent to roughly half the Indian population. And by 2017, over 90 percent of the Indian population possessed an Aadhaar