For decades, the inner workings of the banking industry in India had just one focus: transactions. It was an inside-out approach that kept the product at its core. But today, it has moved to an outside-in system, using customer financial data for new product/service possibilities.
This change in the financial plumbing of the country is due to the emergence of open banking, which happened through a combination of the Aadhaar digital ID system, Unified Payments Interface (UPI) and Account Aggregators (AA).
The Core of Open Banking in India
The foundation of open banking in India began with the Aadhaar system. It mapped users’ information and allowed for easy, presence-less identity verification through electronic Know Your Customer (e-KYC).
In 2016, when the National Payments Corporation of India (NPCI) introduced UPI, it built upon this foundation. The cashless and easy-to-use mode of payment supported interoperability. It allowed both non-banks and banks to operate with each other.
The technology that enabled this transaction between users of banks or non-banks was API. The application programming interface was the conduit that allowed data flow between systems. It both authenticates and authorises the user and the bank or non-bank.
The use of API by banks is not new. They had been used to sharing information, but the birth of UPI was the first time APIs were used for monetary transactions. A user could now access their bank account through an app like Google Pay and transfer money to any other bank or non-bank right from their smartphone.
The Rethink of Banking
Together, Aadhaar and UPI became the hub of open banking. Slowly, the prevalence of digital payments grew. The surge in online banking and mobile payments was further driven by demonetisation, a decision that reissued 86% of India’s legal tender. The severe cash crunch exploded the mobile wallet segment, and that necessitated a re-think of traditional banking.
Up till now, an individual’s financial data was siloed. Some frameworks allowed sharing of information between financial information providers (FIPs) and financial information users (FIUs), but they still left gaps. The fragmented data couldn’t be effectively used to identify the true financial needs of the customer. Nor could it be optimised to deliver more comprehensive services.
But with more customers relying on online or mobile banking, they began granting access to personal data to third parties. This drove the realisation that a simplified method of data exchange could lead to disruptive innovation in financial services and products.
It led to the creation of Account Aggregators (AA), a new solution that consolidated, stored, and distributed access to user data. It brought a wide and open picture of a customer’s financial history, which helped open banking reach the next phase.
Poised for the Next Growth Phase
Account aggregation brought together the financial information of customers, which was until now spread across different entities. With explicit consent from customers on what and with whom they could share financial data, AAs became the intermediary between FIP and FIU.
They democratised access to financial data and empowered customers to view all their financial information on a single platform. This sharing of customer-permissioned, bank-held information with third parties became the final piece in the open banking puzzle.
The true effectiveness of the open banking ecosystem was finally visible with more customers using digital financial services. For instance, it made payments easier and faster with seamless transmissions between different banks, simplifying the life of customers.
It also brought about greater financial transparency. But most of all, open banking gave rise to marketing and cross-selling opportunities, like in the case of neobanks. Moreover, it unbundled the delivery of financial services, leading to the creation of fintech companies.
And it was all powered by APIs because they allowed the creation of financial products and services that offered an improved and tailored customer experience. It was not just India, countries around the world became cognisant of the value of APIs, with 87% saying they “have some form of open APIs in place, laying the foundation for further development of open banking.”
Impact of COVID-19 on Open Banking
COVID-19 inadvertently pushed banking to greater heights. The ensuing pandemic that necessitated the “great lockdown” forced even the most hesitant customers to embrace digital channels. As a result, there’s been an exponential rise in digital payments, with UPI reaching an all-time high of 2.8 billion transactions in June 2021.
Coupled with the need for more paperless processes, it boosted open banking further. Furthermore, customers now desire financial institutions to manage their finances better, including planning for eventualities like another pandemic.
To offer such personal financial management and more solutions that meet the needs of the post-covid-era customer, a more collaborative approach to open banking is essential. Partnerships with fintech firms and tie-ups with product segments will become pivotal for banks. It will not only widen their customer reach but also bolster their support mechanisms.
The Future of Open Banking
Another use case of open banking that’ll evolve in the coming time is plug-and-play models. Call it a platform approach, or banking-as-a-service, the result remains the same – it allows different participants to work together and create a service for customers. The impact of this will go beyond just fintech companies. Every business will be able to venture into financial services.
Take, for example, Dunzo. With access to a plug-n-play service, like GLaaS, the delivery app can lend loans to their riders to buy a new vehicle.
Another example could be Razorpay, offering loans to businesses right from their platform. By lending, Razorpay satiates the working capital needs of their customers, which helps the sellers’ business grow. An increase in seller sales consequently raises Razorpay’s commission on transactions.
In a nutshell, any business with a sizable number of customers could offer financial services like lending to create new revenue streams. And all they would need is an API embedded in their platform that handles the financial nuances, including compliance.
Unlocking Endless Possibilities
Open banking facilitates a range of services that add value to both providers and customers. And India’s hybrid model that requires the active participation of both market and regulatory authorities is particularly built for it.
Having said that, there are wrinkles that need smoothening. One is the natural hesitation of banks to share customer data. They have been the primary custodians for a long time and view its protection as a responsibility. That perspective needs to change. Customer data has to be seen as an asset meant to be commercialised.
Another is the risk associated with data sharing. Regulations governing financial privacy and data security are either too ambiguous or overly rigorous. Grievance redressal is one more factor. As the open banking ecosystem embraces more intermediaries, assigning liability and protection to the customer becomes difficult. The implementation of the Ombudsman Scheme for Digital Transactions (OSDT) is a step forward in this area.
The customers’ own resistance may prove to be the biggest hurdle but the easiest to overcome. The average person is naturally suspicious of emerging technologies, more so when they are connected to finances. Consequently, they are sceptical of any innovation in the field. Nevertheless, there is a simple solution. Educate users that their permission is mandatory and their privacy is a priority, and businesses can unlock endless opportunities in open banking.