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Reserve Bank’s initiatives for electronic payments and banking

            As part of its public policy objective of promoting a safe, secure, sound and efficient payment
system, the Reserve Bank has taken several initiatives to develop and promote electronic payments
infrastructure. Towards this end, the RBI introduced the Electronic Clearing Service (ECS) and the
Electronic Funds Transfer (EFT) system in 1995, the Real Time Gross Settlement (RTGS) system in
March 2004, the National Electronic Funds Transfer (NEFT) system in November 2005 and Cheque
Truncation System (CTS) in February 2008. Let me present a brief overview of these payment-system
products launched by the RBI.

Electronic Clearing Service

            With a view to upgrading our payment system to the international standards, the Reserve Bank
took the initiative and set up Electronic Clearing Service in India, in the mid 1990s, which is the
counterpart of the automated clearing house (ACH) system in certain other countries. It has two variants –
ECS - Credit Clearing and ECS - Debit Clearing. While the Credit Clearing operates on the principle of
‘single debit-multiple credits’ and is used for making payment of salary, pension, dividend and interest,
etc., the Debit Clearing functions on the principle of ‘single credit-multiple debits’ and is used for collecting
payments by utility service providers like electricity, telephone bills as well by banks for receiving principal
/ interest repayments for housing and personal loans from the borrowers. At present, about 18 million
transactions flow through the ECS system every month. This facility is currently available at 70 centers in
the country. Settlement takes place on T+1 basis and the cycle gets completed on T+1. RBI is also in the
process of developing a National ECS system – about which I will talk a little later.

Internet Banking

            It may be recalled that pursuant to advent of internet-based banking in India, the RBI had
appointed a Working Group on Internet Banking in 2001 to address the issues relating to technology and
security, legal aspects, and the regulation and supervision of the internet banking activities of the banks.
The recommendations of the Group were accepted for phased implementation and detailed guidelines on
internet banking were issued by the RBI to the banks in June 2001, for adoption by the banks offering
internet banking facilities. Even though the Group had made the recommendations in the context of the
internet banking, these were to be applicable, in general, to all forms of electronic banking, to the extent
relevant. The banks are now permitted to offer internet banking facilities based on the Board-approved
internet banking policy and no longer require prior RBI approval. The product portfolio to be offered
through internet banking is also no longer confined to only the local currency products but even foreign
exchange services, for the permitted underlying transactions, can be offered through internet banking.
Operations on the Vostro accounts of the overseas banks and exchange houses, maintained with the
banks in India, are also permitted through the internet-based operations. Needless to say, the overarching
concern in providing internet banking would be the effective management of the incremental operational
risks acquired by the banks in using this new delivery channel for the banking services. 

Real Time Gross Settlement System

            The payment system in the country largely follows the deferred net settlement regime, under
which the net amount is settled between the banks, on a deferred basis. Such a dispensation entails an
element of settlement risk. Hence, as a step towards risk mitigation in the large value payment systems,
the RTGS was operationalised by the RBI in March 2004, which enables settlement of transactions in real
time, on a gross basis. Almost all the inter-bank transactions in the country and many time-critical
customer transactions are now settled through this system. RTGS is fully secured electronic funds
transfer system where banks and customers can receive payments on real time basis. The outreach of
RTGS transactions has also grown geographically. Out of about 75,000 bank branches in the country,
more than 48,300 bank branches now accept requests for remittance through RTGS system for customer
transactions as well as inter-bank transactions. A minimum threshold of rupees one lakh has been
prescribed for customer transactions to ensure that RTGS system is used only for large value
transactions and retail transactions take an alternate channel of electronic funds transfer. The daily
average of transactions is over 34,000 by volume and over Rs.2 lakh crore by value. The RBI also
provides collateralised Intra-Day-Liquidity (IDL) support to the member banks for the RTGS operations.
With the progressive expansion of the RTGS volume, a view needs to be taken on the continued need
and relevance of the high-value clearing system – since the two systems have a functional overlap on
account of the same value threshold and the target clientele.

National Electronic Funds Transfer System

            Yet another product innovation by the RBI was the National Electronic Funds Transfer System,
which was introduced in November 2005 as a more secure, nation-wide retail electronic payment system
to facilitate funds transfer by the bank customers, between the networked bank branches in the country. It
is a deferred net settlement system and is an improvement over other modes in terms of security and
processing efficiency. It provides six settlement cycles a day and enables funds transfer to the
beneficiaries account on T+0 basis. This facility is currently available at over 46,300 bank branches
throughout the country. The daily average of the transactions is over 80,000 by volume and over Rs.500
crore by value. It is envisaged that all the RTGS-enabled bank branches would also be NEFT-enabled
and the customer would have a choice between the RTGS or the NEFT systems, based on time criticality,
value of the transaction and willingness of the customer to pay different charges for the two systems. With
the introduction of NEFT, the Electronic Funds Transfer system, introduced in 1994 for retail funds
transfer, is now available only for Government payments. Let me also mention that using the NEFT
infrastructure, the system of one-way remittance from India to Nepal has been implemented by the RBI
since 15th May 2008.

Cheque Truncation System (CTS)

            The latest electronic payment product introduced by the RBI is the Cheque Truncation System,
which was launched, on a pilot basis, in the National Capital Region of New Delhi on February 1, 2008,
with the participation of 10 banks. At present all the banks are participating in the system through 53
direct member banks. The main objective of the CTS is to improve the efficiency and substantially reduce
the cheque processing time in the system. The traditional clearing system requiring the physical
presentation of cheques in the clearing house for payment and settlement, inevitably entails
consequential inefficiencies in terms of clearing time and infrastructure required. The enormity of the
logistics needed for physical cheque clearance can be gauged from the fact that we cleared about 1.46
billion cheques in the country during the year April 2007 to March 2008. In contrast, the main advantage
of cheque truncation is that it obviates the physical presentation of the cheque to the clearing house;
instead, the electronic image of the cheque would be sent to the clearing house. The CTS would enable
the realisation of cheques on the same day, and provide a more cost-effective mode of settlement than
manual and MICR clearing. Smaller banks, which may find it unviable to set up the infrastructure, could
utilise the services of service bureaus set up for this purpose by a few larger banks.

Once the CTS become fully operational, the system would be the largest in the world and would leapfrog
the country from the paper-based instruments to a fully electronic mode of payment and settlement.
Necessary amendments have been made to the Negotiable Instruments Act, 1881, which provides legal
recognition to the electronic image of the truncated cheque. These amendments provide a legal basis for
the cheque truncation system. .

National Electronic Clearing Service (NECS)

            The National ECS is a product being developed by the RBI to enable centralised processing of
the  ECS transactions, in contrast to the existing ECS system that has decentralised operations at 70
locations, spread all over the country. Under the National ECS, the processing of all the ECS transactions
would be centralised at the National Clearing Cell at Nariman Point, Mumbai and sponsor banks would
need to only upload the relative files to a web server, with online data validation facility. Destination banks
would receive their inward clearing data / file at a central location, through the web server. The National
ECS would leverage the Core Banking platform of the commercial banks, to enable around 50,000 core-
banking-enabled branches of the various banks, to avail of this service. The system would facilitate end-
to-end seamless posting of the NECS transactions in a straight-through-processing (STP) environment.
This would help the users and member banks to send, receive and process the data files at one
centralised place, thereby improving the efficiency of the payment system.

Mobile banking

            As you are no doubt aware, with the rapid growth in the number of mobile phone subscribers in
India, the banks have been exploring the feasibility of using mobile phones as an alternative channel of
delivery of banking services. A few banks have also started offering, through the mobile phone,
information-based services like balance enquiry, stop-payment instruction of cheques, record of last five
transactions, etc. Considering that the use of this technology for the banking services is relatively new
and calls for appropriate safeguards to ensure security of financial transactions, the Reserve Bank has
formulated the ‘Draft Operating Guidelines for Mobile Payments in India', through a consultative process
and placed them on the RBI’s website in June 2008 for public comments.  It is expected that the
guidelines when operationalised, would help strengthen the operating environment for mobile banking in
the country.

Satellite Banking

            The availability of reliable communication network is an important prerequisite for facilitating
electronic modes of payment. However, the non-availability of the terrestrial communication link in many
parts of the country, particularly the hinterland and hilly areas, poses a major constraint in securing
greater penetration of electronic payment services in such areas. For such difficult terrain, which is not
connected by terrestrial links, the satellite connectivity is considered to be the appropriate mode of
connecting the branches in these areas, as also as a fallback system. In this background, a paper was
prepared by a member of the Board for Payment and Settlement Systems of the Reserve Bank on the
use of satellite communication technology to facilitate penetration of payment services to the rural areas
which are denied these facilities due to non- availability of reliable communication links. A Technical
Group constituted by the Reserve Bank has since examined the proposal and recommended the use of
satellite connectivity as it would facilitate integration of the rural branches with the core banking solution
platform of the banks and help them providing efficient funds-transfer facility to their customers.

However, reckoning the cost implications involved in creating satellite connectivity for the bank branches,
the Reserve Bank is considering provision of financial incentive to the banks for adopting this technology.
Under the proposal, the RBI would be bearing a part of the leased rentals for the satellite connectivity,
provided the banks use it for connecting their branches in the North Eastern States and in the under-
banked districts in the rest of the country. A discussion paper on this scheme was placed on RBI website
in June 2008 for public comments.

I may add that the satellite communication link is the most disaster-proof, since the satellite, up in the sky,
continues to function even in the face of major natural disasters on earth, such as floods or earthquakes.
It is, therefore, ideally suited for use as a back-up communication link for the major centers in the country,
where a disaster can otherwise disrupt the terrestrial connection.

The challenges ahead

            We have no doubt covered considerable ground in modernising our payment and settlement
system. The banking system too has made considerable investment in the related infrastructure to
upgrade the payment system. However, there are several challenges that need to be effectively
addressed if the full benefits of the achievements so far are to be reaped.

One of the main challenges in the payment system area is to promote large-scale use of the electronic
modes of payment across the country and requires addressing the constraints that impede the adoption
of this mechanism. To my mind, the primary reason for slow pace of adoption of the electronic modes of
funds transfer, particularly in the retail segment, is the lack of education – particularly on the part of the
bank staff at the branch level that have interface with the public. A survey conducted by one of the
Regional Offices of the RBI in the recent past revealed that in the limited sample covered, there were
several bank branches in the State which were not even aware of the National Electronic Fund Transfer
system. The banks, therefore, need to make concerted efforts to increase the degree of awareness at the
level of the branch staff so that the electronic fund transfer services percolate down to the level of the
public in a significant manner.
           
The other side of the coin is the lack of customer education and awareness about the features and
benefits of the EFT, which precludes wider adoption of this product and leads to carrying on with the
traditional modes of payment.  I would, therefore, like to urge upon the banks to launch a systematic
educational campaign for their clients to educate them of the suite of electronic products offered by them.
This would not only reduce the avoidable paper work in the operation of the banks but would also improve
the quality of customer service and eventually, business volume.

In so far as the RBI is concerned, with a view to promoting the electronic payment culture and to make it
more user-friendly, the RBI has intervened and mandated reasonability in pricing of transactions effected
through ATMs and compulsory use of electronic mode for transactions above a specified threshold. The
service charge levied on banks by the RBI for ECS, EFT / NEFT and RTGS transactions has been waived
until March 2009, so that this benefit of reduced costs is passed on to customers, and the right incentive
framework is created for the use of electronic retail payment products. Similarly, the limits set for ECS and
EFT / NEFT transactions were also dispensed with in November 2004 with a view to expanding the user
base. This, of course, is apart from various measures taken by the RBI for strengthening the payment
systems infrastructure in a variety of ways.
Although the share of electronic payment products is improving in the overall retail segment, the share of
public sector banks in this area is very low even as the number of branches offering the electronic
payment facility is increasing. It is, therefore, necessary to make these products available across all
bank branches. There is also a need to focus on expanding the geographical reach of the electronic
payment services so as to include the segments of the population not yet touched by it. It is difficult to
achieve financial inclusion without encompassing rural-India in the payment system out-reach and the
banks that do so first, will reap the rewards of the ‘first-mover advantage’ in terms of higher market share,
with the concomitant increase in business and revenues. And as we all know, the electronic payment
medium is not only speedier and more efficient, but is also more environment friendly as it reduces the
reliance on paper required for effecting payments. It is our vision that electronic products reach a level of
50% by volume and 95% by value of the aggregate payment system transactions in the country, by the
end of March 2009.

Then, there are also some nagging efficiency issues in the payment system. Whilst the current clearing
cycle of T+1 basis for the cheques payable locally, compares favourably with the best in the world, it is
necessary to look into the entire cheque collection cycle – from the time a customer deposits a cheque at
a branch till the point of realisation of credit in his account. There is perhaps scope for continuous
improvement in overall collection cycle. Going by the number of complaints received, it appears that
customer-service in this area is not very customer-centric.

Conclusion

The payment and settlement system constitutes the backbone of the financial sector and enables
conclusion and settlement of financial contracts. The country has made phenomenal progress in
enhancing the reach and improving the efficiency of the national payment system – in which the RBI and
the banking system have been equal partners. Creating a world-class payment system in the country is a
long, arduous but an exciting journey in which we have to constantly keep striving to better our past
achievements. I am sure the banking community present here would make dedicated and systematic
efforts in this direction to meet the challenges ahead and actively contribute to realising our vision for the
payment system that we have set for ourselves.