TL;DR:
An ID system that reduces costs and friction
Free bank accounts
Government benefits sent directly to bank accounts
Accessibility
Free and instant bank to bank transfers
Open banking APIs to power financial apps
In 2005, the Indian government led one of the largest social welfare programs by guaranteeing 100 days of employment for all with the Rural Employment Guarantee Act. The program, along with many others serving the 300 million people living below the poverty line, required sending money at massive scale and faced many challenges in terms of fraud, corruption, and theft. The reason being that most of these payments were physical, given that only half of India’s 1.3 billion people had access to banking services. There was a dire need for a more efficient way of disbursing money. The solution? National IDs and bank accounts for all, leading to the fastest and more impressive financial inclusion scheme the world has ever seen.
Chapter 1: Money in your bank account
Biometric IDs for everyone
The Indian national ID system (Aadhaar), launched in 2009, is now the largest biometric ID system in the world. The 12-digit unique number issued by the Unique Identification Authority of India (UIDAI) takes a person's biometric details, such as iris scan and fingerprints, and demographic information, like date of birth and address. The goal of using biometric information is to weed out duplicates. Today, over 99% of the Indian population over 18 has an Aadhaar number, which is now required to do most things like get a passport, a phone contract, file taxes, etc.
It's not to say that Aadhaar doesn't have its own set of challenges: massive data leaks, concerns for the privacy of biometric information, etc. From a financial inclusion standpoint however, it's a step in the right direction to reduce KYC and fraud costs in the nation. The US SSN system in comparison is largely compromised due to a slew of breaches (e.g. Equifax, Capital One), significantly increasing systematic risk and the cost of KYC for financial institutions.
Free Bank Accounts
In addition to national IDs, the Indian government launched a financial inclusion program dubbed Jan Dhan in 2014 which forced national banks to offer bank accounts for free, with no minimum balance and an overdraft facility of up to $140. Compare that to Bank of America's core banking product which costs $144 a year and has overdraft fees of $35. The result? A Guinness World Record for the most bank accounts opened in one week (18 million). Bank account ownership jumped from 50% to 80% from 2014 to 2017.
One of the main reasons the Indian government was able to do this so efficiently is their control over the banking sector. In India today, 83% of consumer deposits are managed by government owned banks. This is not to say that nationalizing banks is a good thing - studies show there is a negative correlation between government ownership of banks and economic growth. Jan Dhan accounts are not profitable and would simply not exist in US's private sector. One solution to incentivize banks to offer free bank accounts would be for the US government to subsidize the cost of administering them.
Direct transfer of benefits to consumers
Direct Benefit Transfer (DBT), which involves digitizing government payments, is a huge opportunity to increase efficiencies and support financial inclusion. By having consumers link their bank accounts to Aadhaar, the Indian government can send money to their directly bank accounts, saving millions. For example, consumers could get an advance directly to their bank account when buying natural gas which is a safer way to heat and cook. This led to a decrease in costs of administrating the subsidy program by about 11%. Every year, close to $60 billion are being sent through DBT covering 59 different welfare schemes. The US is making strides here with the EBT card which gives users a debit card storing government subsidies on food. However, the card has poor user experience, is separate from a user’s core banking, is limited to just the SNAP program, and puts a label on anyone using it in public.
Accessibility
In order to help 1.3 billion people manage their finances digitally, you need to meet them where they are. Accessibility is paramount in financial inclusion. The Indian government employed several strategies here. Text based banking enabled those without smartphones to quickly check their checking account balances the way they would check their airfare balances. Agent networks quickly decreased the distance between rural households and the nearest “ATM”. Payment machines that read out loud the transactions for confirmation helped those who are visually impaired (20% of the world's visually impaired are in India) or can’t read well. The government also incentivized rural penetration by giving clear targets to each bank in their respective geographies, pushing them to service rural communities. Considering demographic accessibility in the design of Indians financial scheme was paramount to enabling the massive adoption.
Chapter 2: Apps for everything
Now that consumers had bank accounts, they needed a way to easily pay and send money. Enter Rupay and UPI.
India’s own Visa
Forget Visa. In 2012, the Indian government launched their national payment network called Rupay. Incredibly, it’s now the #1 network in terms of cards issued, and #2 by volume. Given 90% of credit card transactions and almost all debit card transactions are domestic in India, it made little sense for merchants to pay the high transaction fees to foreign networks like Visa and Mastercard. Rupay charges 23% lower transaction processing fees on average by leveraging a flat fee structure. A Rupay card is available for free to any bank account holder. Given most national banks have backed the program, RuPay offers free ATM access at any bank. This also made it easy for merchants to start accepting RuPay via their acquiring bank. In 2019, 7 years later, Rupay represented 58% of the country's card issuance market. It is also expanding to other countries which have a large number of indian citizens such as the UAE.
Universal Payment Interface
Enter UPI in 2016, one of the most sophisticated public payments infrastructure in the world. Unified Payments Interface (UPI) is an instant real-time inter-bank payment system developed by National Payments Corporation of India. Anyone can make payments using UPI through a UPI app by simply providing a QR code or their cell phone number. Oh, and UPI is basically free and supports over 142 banks. In comparison, US bank to bank transfers via ACH take 2-3 business days (note the range here). Zelle instant payments, launched in the US in 2017 by a cooperation of banks, is a step in the right direction, but is building further walls around banks instead of bridges to the developer community. Reason being: banks are not incentivize to open up APIs to the broader application ecosystem.
Demonetization
The explosion of digital payments in India was largely due to the cash shortage caused by demonetization. In November 2016, the Government of India announced the demonetization of all ₹500 and ₹1,000 banknotes. All such notes were to be deposited back into banks to fight against dark money and tax evasion. Almost 90 percent of the money supply was wiped out. Unfortunately, new notes were not printed fast enough, ATMs ran out of money, and banks started putting ration on how much consumers can withdrawal, leading to a severe shortage of cash in the economy. In order to perform every day transactions, consumers turned to digital wallets.
APIs powering digital wallets
By launching UPI, the Indian government created a foundation for open banking infrastructure that powered an entire generation of consumer apps aiming to improve the financial health of consumers. Hundreds of UPI apps launched leveraging UPI’s APIs to move money for the consumer. Since UPI made it very easy to integrate with payments, banks and private companies lined up to get market share. Leaders include PhonePe, PayTM, Google Pay, SBI Pay, PayZapp, Pockets. PayTM, the leader in the space, is now valued at $10 billion. Whatsapp has also recently launched spreading fear and controversy in India given its massive penetration as a communication app. In under 3 years, UPI grew to a monthly volume of 800 million transactions a month.
Closing thoughts
The Indian government had a large hand to play in the rise of financial technology solutions in India. It laid the foundational pieces, such as a national ID system, free bank accounts, instant and free bank to bank transfers, and open APIs. In many ways, India is well ahead of the US in terms of banking and payment services today. However, not all of the initiatives or the way they were implemented were positive (e.g. demonetization causing strife and economic downturn, data leaks with national IDs, etc.). But the results are remarkable, given the complexity and scale of the endeavor.
If India, a country 4x the size of the United States, with a 66% rural population and 22 major languages, can overhaul their entire identification and banking system in under 10 years… what can the US do?
Further reading