Embedded finance is a game-changing opportunity for existing financial institutions and incumbent stakeholders, especially post the pandemic, which led to an automatic push for rapid adoption of digitisation. The formal credit flow to different segments of our economy, especially micro, small and medium-sized enterprises (MSMEs) and individuals has historically faced challenges, owing to high distribution costs faced by financial institutions, assessment of creditworthiness, KYC checks, and hurdles in catering to specific credit needs such as smaller loan amounts and tailored credit products for such segment.
In this context, Open Credit Enablement Network (OCEN) has emerged as a new credit paradigm and protocol infrastructure, which will assist in facilitating interactions between loan service providers (LSPs) like fin-tech and e-commerce players, and mainstream lenders such as banks and non-banking financial companies (NBFCs).
OCEN is an open protocol system, which involves the acquisition of financial information of customers by LSPs for the benefit of financial institutions. OCEN also proposes to integrate the relationship between lenders and marketplaces by allowing lenders to provide financial assistance in real-time to interested customers. OCEN proposes to digitise the end-to-end process of lending, and, in this regard, poses key questions with respect to the preparedness of India’s regulatory landscape to usher in such an initiative.
A key element in ensuring the success of OCEN is customer KYC checks. Realising the difficulties faced by private entities owing to regulatory restrictions and practical considerations, the Reserve Bank of India (RBI) has permitted additional modes of offline KYC, namely (i) digital, and (ii) video-based KYC, under the Know Your Customer—Direction, 2016 (KYC Directions). Under the KYC Directions, an approved entity can disburse loans amounting up to only Rs 60,000 in a year to a person registered through Aadhaar OTP-based (i.e. non face-to-face mode) KYC process.
For OCEN to achieve its potential, the RBI may consider an increase in this limit, which may, in turn, benefit relevant stakeholders. The average ticket size for loans availed by individuals and MSMEs is approximately Rs 2.5 lakhs and Rs 10 lakhs, respectively. An increased limit would integrate a higher number of eligible and interested borrowers to avail of OTP-based Aadhaar KYC processes and provide an impetus to lending as well. Additionally, this would help in shifting the approach from an ‘organisation-centric’ to an ‘individual-centric’ one, which in turn promotes greater user control on sharing of data.
OCEN will be enabled by certain NBFC account aggregators (AAs), with some AAs having already received in-principle regulatory and operational licenses from the RBI, pursuant to the introduction of the RBI Master Direction on NBFC-Account Aggregators. To ensure the success of OCEN, such AA’s and their functioning would need to be harmonized with the proposed provisions of the Personal Data Protection Bill, 2019 (PDP Bill). The PDP Bill, in its current form, recognises all forms of personal financial data as ‘sensitive personal data’, and is restrictive from a lenders’ perspective in so far as enabling access to consumer data such as credit, and other relevant financial history, which are crucial considerations.
A key structural barrier to lending is the customer-acquisition cost, which is often high, as qualified lenders and borrowers are not connected with each other. Here, the LSP model proposed to be utilised by OCEN may prove useful for lenders in terms of driving down operating costs and identifying cost efficiencies.
After the success of the United Payments Interface mobile payment platform, OCEN provides the Indian economy with an attractive opportunity to move into the next phase of digitising its financial services sector. With OCEN, lenders will be in a position to leverage quick and standardized credit data for a more proactive and effective approach to compliance, credit decisions, disbursement, assessment of creditworthiness and risk management functions. This data standardisation will also be instrumental in significantly reducing operating costs related to extensive back-end processing functions. For smaller NBFCs and other financial institutions, OCEN could prove instrumental in levelling the playing field in terms of identifying new market opportunities, particularly in the MSME and individual borrower space.
The introduction of OCEN is likely to be a game-changer and would result in an integrated and efficient relationship between lenders and marketplaces and a big step towards effective financial inclusion. A new medium of easy access to credit, being introduced in times of economic distress, ought to bring about positive disruption in established lending principles, creating a win-win for the stakeholders alike.
This article was originally published in CNBC TV18 on 17 June 2021 Co-written by: Zubin Mehta, Partner; Sagar Manju, Principal Associate; Saurav Roy, Associate. Click here for original article
Contributed by: Zubin Mehta, Partner; Sagar Manju, Principal Associate; Saurav Roy, Associate
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