NextBillion - An Initiative of the William Davidson Institute at the University of Michigan

The Economist magazine carried a recent article which described the effects of the Universal Payment Interface (UPI) for Indian users of digital finance: “Money zips instantly from one bank account to the other, without any need to set up a pesky digital wallet or download some new app. At least outside China, there is no simpler way to shift money today.”

Even a year ago, a favorable parallel like this between digital finance in India and China would have been unlikely. But the digital infrastructure offered by the so-called “India stack,” of which the UPI is the payments layer, has enabled rapid recent growth in digital payments. From almost zero a year ago, the monthly volume of transactions processed through the UPI had grown to 155 million in January 2018 – this is already higher than the volume of transactions made through most of the country’s previously established digital payment streams. So, is digital finance in India, like the proverbial tortoise in Aesop’s fable, starting to catch up with China, which has bounded ahead at hare-like speed in this area?

First, let’s put India’s numbers in perspective. While the recent growth of digital payments has been extremely rapid, it is from a low base: The entire cumulative volume of UPI transactions in the 10 months prior to the end of January 2018 is roughly equivalent to only one day’s worth of digital transactions at the non-bank payment providers in China in 2016. In that year, the latest for which official numbers are available, the People’s Bank of China reported 185 billion non-bank digital payment transactions – the equivalent of 12 transactions every month for every one of China’s people. Some US$18 trillion changed hands this way, a value larger than China’s GDP.

Of course, any comparison like this needs further perspective. Although China and India have roughly the same size population, China’s economy is some five times bigger at nominal prices than India’s, or 2.5 times bigger at purchasing power parity. To be sure, the higher Chinese level of income per capita accounts for some of the higher digital payments usage. Related to income but more important, the proportion of adults banked is also much higher in China, which matters because most digital payments are funded directly (in India) or indirectly (in China) from bank accounts. The number of banked adults was already almost 80 percent in China in 2014, compared with 53 percent in India, according to the World Bank’s FINDEX. (The 2017 FINDEX measure is likely to show that India’s percentage of banked adults has risen considerably since the last survey). Another measure contributing to the differential in digital usage is, of course, the adoption of smartphones. Smartphones are required to access the popular apps Alipay and WeChatpay, the duopoly which competes fiercely for China’s non-bank payments market: In 2015, 58 percent of Chinese had smartphones, compared with 17 percent of Indians at that time, according to Pew Research. As with bank accounts, though, the Indian smartphone user penetration is likely to have risen substantially since then, thanks to cheap handsets and low-cost data subscriptions, which have disrupted the Indian market.

Financial regulators’ philosophies differ

While all these measures help to explain the differential in usage of digital financial services in these two countries to date, there is another factor at play which may be the most important. China’s financial regulators have long taken a “wait and see” approach to intervening in innovation, allowing digital innovation to proceed apace. By contrast, Indian regulators have been much more wary, especially to allow non-banks into the business of storing value or making payments. As a result of this hands-off approach, leading Chinese payment provider Alipay was able to get started back in 2004. Now a service of AntFinancial, an affiliate company of the Alibaba Group, Alipay originally started offering a mobile wallet to allow customers to pay for Alibaba’s burgeoning e-commerce solutions. WeChat, one of China’s largest social networks owned by tech giant TenCent Holdings, saw the opportunity to enter the payment sector later, in 2013. Since then, the competition between these well-funded giants for domination in the mobile payment space has fueled the hare-like rollout and adoption of these payments in China. By 2016, the overall volume of non-bank mobile payments was already challenging that of payment cards, which had been in the hands of most Chinese people for longer. It was, in fact, the widespread availability of bank accounts that enabled these new private providers to go “over the top,” creating highly convenient, generally safe and usually free payment applications funded out of individuals’ bank accounts. This is the story the Digital Frontiers Institute (DFI) tells in our new course Leading Digital Money Markets, in which China is the first stop on a global tour of innovation hotspots in digital finance.

So what’s the conclusion here? Is it simply that Indian regulators should have allowed more innovation, sooner, in digital payments than they did? Maybe in part: However, the pace of regulatory enablement in India has picked up under the recent Reserve Bank governorship of Raghuram Rajan. In 2015, the RBI first licensed payment banks, which are essentially e-money issuers. Some are not much different in business model from Ant Financial. Indeed, that same year, Ant Financial bought a stake in PayTM, one of India’s largest digital payment providers, which in 2017 became a payments bank.

But as we discuss in the course, to look only at what government regulators allow or disallow would be to miss the broader picture about how they also influence the development of market infrastructure. In China, the infrastructure for mobile payments is privately owned. The majority of mobile payments were and still largely are within the networks of the two dominant providers, that is, between customers of the same payment service provider. Non-bank mobile payments bypassed China’s officially regulated bank-based National Payment System (CNAPS) altogether until recently, with each payment provider integrating bilaterally with all Chinese banks to allow clients to transfer funds in and out of their mobile wallets. Only now are Chinese regulators forcing the two internet payment giants (and others) to process all their transactions through a new centralized internet payments clearing house which forms a part of CNAPS – in part to improve the visibility of the system and give greater control. The strong interests of the incumbents, coupled with their size, has not made this an easy or fast process, even in a society as controlled and disciplined as China’s.

Tortoise catching up?

By contrast, in India, the digital payments infrastructure is collaborative, run by and through the National Payments Corporation of India (NPCI). NPCI is a bank-owned utility company that operates all the central payments infrastructure and that also developed the UPI, linked to other layers of the India stack developed and managed by government agencies. This approach has created a level playing field so that all kinds of digital payment providers can participate. U.S. superplatforms Google and Facebook (through WhatsApp) have quickly become important players in the Indian digital payments market because they can offer app-based access to any bank account in India through the UPI. It is highly unlikely that new foreign entrants would encounter similar opportunity to break into the Chinese market today.

So, while the Chinese digital payments “hare” continues to bound ahead today, now exporting its services to other markets, what used to be the Indian “tortoise” is accelerating. This raises a question about long-run outcomes: Will a Chinese duopoly-like structure continue to promote market development without negative effects on pricing or entry – or is an Indian-style level playing field the best guarantor of sustained digital innovation?

Whether you bet on the hare to keep going or the tortoise to catch up, India and China represent “ground zero” of the emerging digital finance revolution. Digital finance professionals need to understand the implications for their own markets. DFI’s Leading Digital Money Markets course will explore these questions during a 12-week online tour which includes not only China and India, but also developed world models of payment innovation coming out of Silicon Valley and elsewhere – as well as detailed analysis of Africa’s specific brand of mobile money, exemplified by Kenya’s M-Pesa and its South Asian variants. The course starts on April 9, and applications close on March 30. Visit our website for more information, or to register.

David Porteous is a co-founder and chair of the Digital Frontiers Institute, and the chair and founder of BFA, a NextBillion partner.

Photo by Snapwire via Pexels.