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After demonetization, the COVID-19 pandemic has been a major accelerator for the mass adoption of digital payments among consumers and merchants. The volume of digital payments has been increasing year-on-year with 7422 crore transactions in FY 2022, up by 33% from FY 2021, according to the Ministry of Electronics and IT (MeitY). The comfort with digital payments has been increasing, with UPI being the most popular mode, and this is reflected in the recent figures released by the National Payments Corporation of India. In October 2020, India processed over 2 billion monthly UPI transactions valuing INR 3.86-lakh crore. In October 2022, processed UPI transactions crossed the 7 billion transactions mark.
In a country with 6.3 crore MSMEs, where micro-transactions are an important part of the economy, a series of measures by FinTech players, namely digital acquisitions, low-cost payment devices, new payment methods such as UPI, QR, and differentiated technology and operational platforms are serving the needs of India’s ever-growing MSME sector.
Digital payment platforms had a majorly positive impact on the MSME sector post the pandemic. It has provided consumers with contactless and cashless methods of payment, which helped MSMEs with easy record keeping, and convenience, also is relatively inexpensive to adopt.
Role of digital payments in MSME digital lending
In the past few years, there has been a lot of focus to facilitate the growth of MSMEs in India. Recently, the Federation of Indian Export Organisations (FIEO) launched a B2B digital marketplace for MSMEs to help them expand into global markets. RBI has also issued a framework for geo-tagging of payment system touchpoints to create a robust payment infrastructure and has been running various initiatives to increase the penetration of digital payments among India’s small merchants.
The shift towards digital modes by MSMEs is creating a verifiable digital trail of financial transactions for new-age FinTech lenders to assess the creditworthiness of the MSMEs and extend credit. Digital transaction data is acting as a surrogate for traditional cash flow statements. Regular online transactions highlight the business’s financial health and showcase its ability to upgrade and be competitive in the dynamic business environment.
Cashflow-based lending models facilitate inclusive and easy access to credit as MSMEs. Those merchants who were previously staying away from availing of formal credit due to a tedious and lengthy application process or were unable to qualify for a loan from traditional lenders can now benefit from hassle-free digital transactions and data-based lending decisions. This is especially beneficial for thin-file customers or new to credit customers who do not have a previous credit history. Availing loans through a cash-flow and digital payments-based model helps build the credit history of the MSME borrower, making them eligible for formal credit from financial institutions in the future.
Future of Digital Payments Based MSME Lending
The growth in retail electronic payment systems including National Electronic Fund Transfer (NEFT), mobile banking, and the development of payment acceptance infrastructure is likely to boost digital payment transactions from INR 2,153 lakh crore in FY20 to INR 7,092 lakh crore in FY25, as per the India Trend Book Report 2021 by the Indian Private Equity and Venture Capital Association (IVCA) and E&Y. Another report by KPMG states that the digital payments market in India is expected to grow at a compound annual growth rate of 22 percent during the FY 2020-2024 period and will be worth INR 4,323.63 trillion by FY 2024.
Currently, most of the large NBFCs and even new-age FinTech rely on financial statements to estimate the credit worthiness of MSMEs. As Indian MSMEs move towards becoming digitally savvy, the credit offerings too are evolving to meet various business needs of the customers. We are already seeing how lending decisions are being made based on risk assessment of alternative data sources. The assessment basis the digital transaction data will help bridge the MSME credit gap, which will ultimately create a positive multiplier impact on the lives of India’s small merchants. Thus, a new segment of underserved and unserved customers will get an entry point into the formal credit system and strengthen India’s financial inclusion story.
