pankaj agarwal

India’s Unique ID Project – Implications for Micropayment

One of the key policy issues that the Unique Identification Authority of India hopes to address with the envisioned UID is bringing Inclusion with Micropayments. The linked pdf is a working paper released by the Planning Commission and I suggest that the readers skim through it once. It starts off with a brief on the transformation that India has undergone from limited access to open access economy in the past twenty years. The report also gives financial exclusion levels in rural India and the lost economic opportunity that comes attached to it.

Some innovative policy initiatives undertaken to mitigate the problem of financial services in India are – no-frills account, branchless banking in the form of Business Correspondents (I have previously covered BCs here), liberalization of banking and ATM policies and the incorporation of National Payment Corporation of India (NPCI) which provides a national infrastructure for payments and settlements in the country. Technological advancements have been providing a solid base to leverage all the initiatives.

All these policies, however, are not able to match up to the impact that is expected by the administration. One of the main reason for that is the lack of identity documentation among the rural populace which makes it difficult for them to prove their identity to the banks. This bottleneck has limited the leverage that the banking innovations can provide in terms of access to the financial services. Another limitation is the small amount levels that are usually transacted by the population at low income levels, referred commonly as micropayments. This leads to high per transaction costs which inhibits the banking infrastructure development in the rural parts.

The Unique Identification Number (UID), which identifies individuals uniquely on the basis of demographic information and biometrics will clearly give the means to the individuals to establish their identity to public and private agencies across the country. It provides a renewed approach towards financial inclusion by integrating various reforms addressing the core issue. This technology provides a very effective avenue in creating a payment system that works efficiently even with low amount transactions by stimulating higher volume of transactions. The implementation of UID will accelerate the process of financial inclusion by providing a micropayments platform, streamlining the allocation and delivery of the government benefits and providing an effective way of banking to whom who have been ignored till now.

It directly addresses the following issues which are the main culprits for the low levels of financial access in India today:

  • KYC (Know Your Customer) Challenges– Banks follow customer identification procedures while opening new accounts to minify the risk of fraud and money laundering. UID with its authentication and KYR (Know Your Resident) standards will not only bring down the KYC costs for the banks but also reduce the documentation the poor are required to produce to open an account.
  • Limited Accessibility & High Costs to Poor– Indian banks cater to only 5% of the villages. In this scenario, should an individual from a bankless village need to make a transation, he will need to pay the cost of this financial distance in terms of his travel expense and the loss of daily wages. UID’s clear authentication will allow the banks to network with local BCs (Business Correspondents) through which customers will be able to make transactions. Technology for electronic transactions can be employed by the banks to remotely authenticate the customers thus reducing average cost per transaction. It will also decrease the customers’ dependence on cash by allowing individual transactions with each other as well as with firms outside the village. Multiple local BCs will provide a choice to the customers.
  • High costs to Banks– UID will mitigate the high customer acquisition costs, high transactions costs and other fixed costs that are faced in bringing financial services to the poor. This can be achieved through high volume low cost approach.

India, one of the fastest growing economies still lacks an effective strategic framework to directly tackle the high poverty levels. According to the World Bank figures, India reduced its poverty from 60% to 42% of population between 1981and 2005. The same time frame shows poverty reduction in China from 84% to 16%. This eminent contrast is brought by improper channelization of government benefits to the households that most deserve these policy benefits. Even though there is a drastic increase in government spending from 10.5% to 20% this fiscal year, the food, fuel and other subsidies need the infrastructure to make sure that they penetrate and target the aimed beneficiaries and to clear identify the Below Poverty Line (BPL) families. The complexity of beneficiary identification for a government policy reaches another extreme in a nation of 1.2 billion. This leads to improper identification of the vulnerable groups who need support. The limited quota of government ration cards, a form of poverty-assistance, entitles households to take advantages of government funded subsidies. But the allocation of these cards is skewed and more often than not leads to their subscription to well-off families. This Wall Street Journal article cites many cases advocating this skewness.

UID can provide a platform to address this problem by leveraging the crucial parameter in the whole poverty assistance process – Identity. The IDs of the households can have an authentic label making those households worthy of using the food and fuel subsidies. This model circumvents the limited ratio cards problem and provides all the BPL families their due benefits. Although the problem of poverty definition still persists with different frameworks employed by different institutions and countries to define it, but whatever be the final definition, UID project carries a huge scope in providing the appropriate identification measure.

UID project, if implemented in accordance will be the center to a ecosystem comprising of many addressed issues and enforced developmental applications. This project forms a concrete base supporting the infrastructure that directly addresses the needs of the worst 40% or so population of India.