The Level One Project Guide uses the term “participation” to refer to entities who are direct members of a payments scheme: the Digital Financial Services (DFS) Providers. The payments scheme is the entity which writes and maintains the rules that bind these scheme participants. Note that participation is not necessarily the same as governance, which is discussed separately in this section. (See Issue: Governance.)
Country regulators have a choice as to what categories of entities are allowed to be DFS Providers in a country.
Option “A”: Only banks, or bank-controlled or sponsored ventures, should be DFS Providers
Banks are the traditional provider of financial services, and the regulatory frameworks and enforcement mechanisms are in place and understood; the ability to control risks such as fraud and money laundering may be better. Banks may have “deeper pockets” than other categories of participants, and may be better able to handle the financial burden of managing problems when things go wrong.
Conversely, bank regulation is typically too heavy and expensive to easily enable these providers to reach the unbanked. Indeed, the regulatory requirements to manage low value or basic digital financial services need not be as demanding as those to regulate banking in general. In most countries banks have proven to be unsuccessful in reaching and serving the poor; the bank business model in particular does not currently translate well into non-branch banking models, given high compliance and operational costs.
Option “B”: Banks as well as non-banks should be DFS Providers
Allowing new types of enterprises to act as DFS Providers will enable players with existing service relationships with the poor (particularly Mobile Network Operators (MNO’s)) to leverage these relationships to deliver financial services at a lower cost than banks. Encouraging new categories of entrants with new business models will enable innovation and higher competition; in particular, various not-for-profit service provider categories may be enabled and may be willing to serve the poor with lower levels of financial return. New categories of DFS Providers may be more willing to embrace new technologies, particularly phone technologies for authentication and fraud control.
Of note, however, is that non-bank providers may bring an undefined and undesirable new level of risk exposure to consumers and to the financial systems in general; mechanisms to regulate and properly supervise these entities may need to be put in place. Also, the model of using banks as sponsors for non-bank providers is established and works well in places, perhaps making direct participation by non-banks unnecessary.
The Financial Inclusion Perspective: Option “B” is preferred.
The better choice is to enable both banks and non-banks providers to act as DFS Providers. The benefits of enabling multiple types of providers, including providers with existing relationships with the unbanked, surpass the challenges of regulating these entities. We expect that the inclusion of multiple categories of participants, many of which will have lower cost structures than existing banks, will drive down costs in the marketplace. Note that this has an important connection to the question of how interoperability is achieved in the country. (See Issue: Interoperability.)
The regulation of participants has two components: qualification (what standards need to be met to participate?) and ongoing monitoring. This may be done through law and regulation, or through the private operating rules of the payment scheme. In either case, a role-based approach is preferred, where a role or function is regulated, rather than a specific entity type. Qualification metrics (such as financial standing, size, years in business, caliber of management etc.) should apply to all participants, or, if tiered in some manner (such as size), should apply to all enterprises in that tier. The ongoing monitoring of participants should be done with a heavy emphasis on frequent, automated, self-reporting, with occasional audits; some elements of reporting should be made publicly available; other elements should be made available to the participant group as a whole.