Prepaid Payment Instruments: How has regulation impacted market outcomes?

by Amol Kulkarni and Renuka Sane.

Regulatory interventions often function as de-facto industrial policy, by favouring certain business models over others, effectively picking winners and losers. In this article we present an episode in recent Indian history where regulatory decisions of the Reserve Bank of India on prepaid payment instruments (PPI) significantly influenced competition and product evolution. PPIs are instruments that facilitate the purchase of goods and services, financial services, remittance facilities, etc., against the value stored therein (RBI, 2021). They saw a phenomenal growth of more than 100 times in volumes and more than 25 times in value between September 2012 and November 2024 when volumes had reached 584.78 million and the value Rs. 192.14 billion (RBI, PSI). By this time, the Unified Payments Interface (UPI) volumes and value were more than 25 times and 100 times that of PPI volumes and value. The data suggests that something happened between October 2016 and September 2018, which put the brakes on the PPI growth story and shifted the momentum towards UPI.

UPI enables transfer of funds directly between bank accounts, and does not require parking of funds in non-interest bearing accounts like PPIs. Some may argue that UPI was a superior product that led to reduced interest in PPIs. However, for others, the need to park and transact with only a limited amount in a PPI, ring fences them from larger amounts in a bank account reducing their total risk exposure. Nonbank transaction accounts can also improve access to digital payments for unbanked households (Toh, 2023). The argument that UPI winning over PPIs because the former is a better product would have more credibility if, during the specified period (Ocotber 2016 - September 2018):

• There were no regulatory interventions that adversely affected PPI operations,
• Regulations did not favour UPI,
• Exits of private players from the PPI space were dispersed as more players realised the futility of competing with UPI.

The article argues that this was not the case, and there is reason to believe that the policy and regulatory environment during this period contributed to the slowdown in the PPI growth trajectory, particularly those of non-bank PPIs, and favoured UPI.

The build-up of the PPI market

On 8 November 2016, the Government of India withdrew the legal tender status of Rs. 500 and Rs. 1000 denomination of banknotes issued by the RBI till that date (RBI, 2016). Such large-scale demonetisation gave a fillip for the demand of digital payments. Consequently, the volume of PPI transactions shot up from 127 million in October 2016 to 261 million by December 2016 and steadily rose to around 340 million by March 2017. The value of PPI transactions also surpassed Rs. 100 billion during this period (RBI, PSI). In the months following demonetisation, around 10 entities, all non-banks, received permission from the RBI to issue and operate PPIs (RBI, 2025). The number of non-bank PPI issuers increased from 37 to 55, and surpassed bank PPI issuers for the first (and only) time in this period (RBI, AR).

The draft PPI Master Directions: March 2017

A few months after demonetisation, on 20 March 2017, the RBI issued draft Master Directions on Issuance and Operations of PPIs in India for public comments (RBI, 2017). One of the stated objectives of the draft Master Directions was to encourage innovation in the segment in a prudent manner, taking into account safety and security along with customer protection and convenience.

By this time, three types of PPIs were regulated: semi closed PPIs with minimum KYC, semi closed PPIs with full KYC, and open PPIs. The key difference between semi-closed and open PPIs was that the former could be used to purchase goods and services at specific or clearly identified merchant locations, while the latter could be used for purchase of goods and services at any card accepting merchant location. Cash withdrawal was not permitted through semi-closed PPIs but allowed through open PPIs.

The draft Master Directions proposed two important changes:

1. Increase in the capital and networth requirements: Before the draft, PPI operators were required to maintain a minimum positive net worth of Rs. 1 crore at all times, along with a minimum paid up capital of Rs. 5 crores (RBI, 2016).
2. Limits on monthly fund transfers: Earlier there were no limits on monthly fund transfers. The 2017 draft directions proposed restrictions on the minimum amount outstanding at any point of time, the maximum amount that could be loaded on to a wallet in a month, and the amount that could be transfered out in a month.

Some key proposals of the 2017 draft directions were:

All figures in Indian Rupees

Issue	Semi closed PPIs with minimum KYC	Semi closed PPIs with full KYC	Open system PPIs
Minimum positive net worth to be maintained at all times	25 crores	25 crores	25 crores
Amount outstanding at any point of time	20,000	1,00,000	1,00,000
Maximum amount that can be loaded during any month	20,000	Cash loading limit: 50,000	Cash loading limit: 50,000
Monthly fund transfer limit	10,000	For pre registered beneficiary: 1,00,000 For other cases: 10,000	For pre registered beneficiary: 1,00,000 For other cases: 10,000

There was pushback from stakeholders on the proposals of the draft Master Directions (IGIDR, 2017; CUTS, 2017; IFMR, 2017; NASSCOM-DSCI, 2017). For instance, the Finance Research Group (FRG) at IGIDR called out disproportionate proposals around capital requirements, and transaction limits on consumers, and suggested rolling them back. Specifically, with respect to transaction limits, the FRG pointed out:

The intention for imposing transaction limits and restricting consumers from transacting with their own money is unclear. Every payment system in an economy is susceptible to fraud. However, we do not impose limits on the use of payment systems to pre-empt frauds. For example, the susceptibility of credit card transactions to frauds does not lead us to impose limits on individual credit card transactions. On the contrary, imposing transaction limits on consumers is contrary to their interests.

The final PPI master directions: October 2017

In October 2017, the RBI issued Master Direction on Issuance and Operation of PPIs, after examining comments and feedback received on draft directions (RBI, 2017A). Some key provisions of the Master Directions were:

All figures in Indian Rupees

Issue	Semi-closed PPIs with minimum KYC	Semi closed PPIs with full KYC	Open system PPIs
Minimum positive net worth at the time of application	5 crores	5 crores	5 crores
Minimum positive net worth by the end of third financial year of receiving final authorisation	15 crores	15 crores	15 crores
Amount outstanding at any point of time	10,000	1,00,000	1,00,000
Maximum amount that could be loaded during any month	10,000	Cash loading limit: 50,000	Cash loading limit: 50,000
Cap on amount that could be loaded during a financial year	1,00,000
Monthly fund transfer limit	10,000	For preregistered beneficiary: 1,00,000 For other cases: 10,000	For preregistered beneficiary: 1,00,000 For other cases: 10,000

The Master Directions had reduced networth requirements from Rs 25 crore proposed in the draft to Rs 15 crore. However, additional restrictions were imposed on transaction limits. For instance, the maximum amount which could be loaded during any month in a semi closed PPI with minimum KYC was reduced from Rs. 20,000 to Rs. 10,000. In addition, a new limit on maximum amount that could be loaded in a semi-closed PPI with minimum KYC during a financial year of Rs. 1,00,000 was included in the final directions. It is important to note that this had not found mention in the original draft proposal that was circulated for comments.

This effectively meant that the average amount that could be loaded in a semi-closed PPI with minimum KYC on a monthly basis was Rs. 8,333. Alternatively, for 10 months during a financial year, Rs. 10,000 could be loaded in a semi-closed PPI with minimum KYC every month, but for the next two months, no amount could be loaded, to comply with the annual limits. Coversations with stakeholders suggest that such restrictions potentially frustrated recurring payments and auto-debit mandates which rely on minimum balance being available in a wallet. Further, it restricted the use case of PPIs to very narrow set of transactions.

The impact of regulatory changes: the size of transactions

The proposals in both the draft and final Master Directions had an immediate and severe impact on the PPI market. Figure 1 shows the impact on the PPI transaction volumes, and the turning point when UPI overtook PPIs.

Figure 1: PPI and UPI transaction volumes

Figure 2 shows the impact of Master Directions on the PPI transaction values, and the turning point when UPI overtook PPIs - immediately after these Directions.

Figure 2: PPI and UPI transaction values

However, one must also note that PPI transactions were more than UPI's, for about a year since its launch in May 2016 till about October 2017, when the final master directions on PPIs came into effect. UPI got a fillip due to demonetisation but was still used less than PPIs for several subsequent months. This suggests that PPIs were relevant in a market with UPI.

The impact of regulatory changes: the number and type of players

Figure 3 presents the changes in the number of players in the PPI market. Between March and October 2017, i.e. between the draft and final PPI directions, licenses of seven PPI operators, all of which were non-banks, were cancelled. Of these, four voluntarily surrendered their license, perhaps owing to the restrictive regulatory framework proposed in the draft Master Directions (RBI, 2025). This shows the impact that the draft directions, which also reflected regulator's thinking, had on the the PPI market. Once the directions were finalised, licenses of 20 PPI operators were cancelled by the RBI, all of which were non-banks. Overall, we see that in this period, 16 players voluntarily surrendered their licenses, four ceased operations, five converted themselves to payments banks, and one license was revoked. Further for three years from 2018 to 2020, not a single permission was granted to non-banks for the issuance and operation of PPI (RBI, 2025). Given that licenses were being voluntarily surrendered, one may assume that very few or no fresh applications were received by the RBI. This was also the period during which the government began massively incentivising use of UPI through cashbacks and other schemes (Kulkarni, 2018).

The number of licenses issued went up only in 2021, potentially as a response to the creation of a new category of semi-closed PPI with minimum KYC which could be loaded only through bank accounts.

Figure 3: Non-Bank Licenses issued and cancelled

The regulations led to a shift in the composition of players as well. Earlier, the market saw both bank and non-bank entities offer PPI products. The commercial consequences of the regulatory changes were much larger on non-bank PPIs relative to bank PPIs. Consequently, the number of non-bank PPI operators reduced from 55 in 2016-17 to 36 in 2020-21, while the number of bank PPI operators increased from 54 to 56. In fact, it went upto 62 in 2019-20, possibily indicating the interests that banks retained in offering PPIs, which ideally should have not been the case, if UPI was a superior product. Of the non-bank PPI operators which continue to operate in spite of the regulatory changes in 2017, many are legacy operators enjoying a loyal user base, some are part of larger groups having deep pockets and providing financial or digital services, others have expanded into offerings like digital lending, some offer niche services like foreign exchange, money transfer, and transit payments, while few had to undergo change in management and control.

Figure 4: Bank and non-bank players

Further, non-bank issuers have faced more stringent compliance burdens, particularly around KYC norms, fund loading restrictions, and interoperability requirements. For instance, while non-bank PPIs must maintain an escrow account with a partner bank, bank operated PPIs can leverage their own deposit accounts, reducing costs and operational friction. Additionally, regulatory decisions such as restricting credit lines on PPI wallets have disproportionately impacted non-bank issuers, limiting their ability to innovate and compete with banks that can seamlessly integrate PPI-like functionalities within their broader suite of financial services.

RBI's review of its stringent conditions (late 2019-early 2020)

More than two years after the October 2017 Master Directions, the RBI decided to review some of the stringent conditions imposed on the PPI market, particularly those related to loading of PPIs. In December 2019, it decided to create a new category of semi-closed PPI with minimum KYC which could be loaded only through bank accounts. For such PPIs, the amount which could have been loaded through bank accounts during a financial year was increased to Rs. 1,20,000 i.e. Rs. 10,000 per month could be loaded in such PPIs. The RBI recognised that such leeway was necessary to ensure regular bill and merchant payments (RBI, 2019A). For other semi-closed PPIs with minimum KYC, the annual limit of Rs. 1,00,000 for loading was retained. However, this move appeared to be too little too late and perhaps failed to uplift the momentum in PPIs. Consequently, in January 2020, in addition to bank accounts, credit cards were permitted as a mechanism of loading semi-closed PPIs with minimum KYC having an annual loading limit of Rs. 1,20,000. This move, so far, has also failed to push PPI towards previously experienced growth rates.

Conclusion

The analysis of RBI regulation of PPIs over the past decade, changes in PPI volumes, value, and operators during this period, suggests that regulation has indeed impacted market outcomes for PPIs. While the RBI provided some relaxations, these were not enough to push PPIs back into high growth trajectory.

While it is difficult to pinpoint the exact regulatory requirement which might have impacted the PPI market most, it is clear that the restrictions introduced in October 2017 collectively contributed to a significant decline amongst industry's interest in PPIs as payment instruments. This was validated through interactions with key stakeholders as well.

One reckons that the RBI would have introduced such restrictions in the interests of safety and security of the payments market, prevent fraudulent actors from misusing the instrument, and obstruct unreliable entities from issuing and operating PPI instruments. It might not have predicted that the restrictions could have had such adverse consequences of reducing the attractiveness of PPIs as an instrument, and the users and market players, moving away from the PPI market. It is here where robust public consultations, and ex-ante cost benefits analyses can prove useful to estimate the potential impact of regulatory instruments, avoid disproportionate regulation, and ensure balanced market outcomes. While the RBI did invite suggestions on draft directions in March 2017, several new requirements, such as the annual cap on loading semi-closed PPIs with minimum KYC, were directly incorporated in the final directions of October 2017. This prevented stakeholders from providing their inputs on such new requirements.

The RBI should use tools like public consultations more often and thorougly. In any case, frauds and transaction failures are equally possible with UPI, as recent events have shown. In fact, with UPI, the entire bank balance of the customer is at risk, making them more susceptible than PPIs could ever have been.

Some may argue that with the advent of UPI, PPI was bound to lose market share. However, as this article shows, PPI was restricted by regulations, and did not get an opportunity to effectively compete with UPI, which on the other hand was booming on the back of regulatory relaxations, incentives, and zero fee mandates. One must also not forget that it was the non-banks which propelled UPI to unimaginable heights, and non-banks were also behind PPIs initial growth before the regulations hit them badly.

References

CUTS, 2017: Comments on draft Master Directions on issuance and operations of PPIs in India, 2017, https://cuts-ccier.org/pdf/Advocacy-Comments_on_RBI_Master_Direction_on_Issuance_and_Operation_of_PPIs.pdf

IFMR, 2017: Comments on draft Master Directions on issuance and operations of PPIs in India, 2017, https://dvararesearch.com/wp-content/uploads/2024/01/IFMR-Finance-Foundation-Comments-on-the-RBI-Draft-Master-Directions-on-Issuance-and-Operation-of-Prepaid-Payment-Instruments-in-India.pdf

IGIDR, 2017: Finance Research Group, Inputs on draft Master Directions on issuance and operations of PPIs in India, IGIDR, 16 April 2017, https://ifrogs.org/PDF/201703note_inputsToCpOnPpis.pdf

Kulkarni, 2018: Amol Kulkarni, (Not) the way to promote digital payments, CUTS Discussion Paper, February 2018, https://cuts-ccier.org/pdf/DP_the_way_to_promote_digital_payments.pdf

Mukherjee, 2025: Mukherjee, India: UPI enabled for prepaid payment via third-party apps, Coingeek, 7 January 2025, at https://coingeek.com/india-upi-enabled-for-prepaid-payment-via-third-party-apps/

NASSCOM-DSCI, 2017: Inputs on draft Master Directions on issuance and operations of PPIs in India, 2017, https://www.dsci.in/resource/content/nasscom-dsci-submission-rbi-master-directions-ppis

RBI, 2008: RBI Press Release regarding Inviting Comments on Approach Paper on Guidelines for PPIs dated 7 November 2008, at https://rbi.org.in/scripts/BS_PressReleaseDisplay.aspx?prid=19419

RBI, 2016: RBI Master Circular dated 1 July 2016 regarding Policy Guidelines on Issuance and Operation of PPIs in India, at https://rbi.org.in/scripts/NotificationUser.aspx?Mode=0&Id=10510

RBI, 2016A: RBI Press Release dated 8 November 2016 regarding Withdrawal of Legal Tender Status of Rs 500 and Rs 1000 Notes, at https://rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=38520

RBI, 2017: RBI Draft Master Directions dated 20 March 2017 regarding Issuance and Operations of PPIs in India, at https://www.rbi.org.in/Scripts/bs_viewcontent.aspx?Id=3325

RBI, 2017A: RBI Master Direction dated 11 October 2017 (updated as of 17 November 2020) regarding Issuance and Operation of PPIs at https://rbi.org.in/scripts/NotificationUser.aspx?Mode=0&Id=11142

RBI, 2019: RBI Notification regarding Introduction of a New Type of semi-closed PPIs dated 24 December 2019, at https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11766&Mode=0

RBI, 2019A: RBI Press Release regarding Statement on Development and Regulatory Policies dated 6 December 2019, at https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=48803

RBI, 2021: RBI Master Directions on PPIs dated 27 August 2021 (updated as on 27 December 2024), at https://www.rbi.org.in/Scripts/BS_ViewMasDirections.aspx?id=12156

RBI, 2024: RBI Notification dated 27 December 2024 regarding UPI access for PPIs through third-party applications, at https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=12756&Mode=0

RBI, 2024A: RBI Press Release dated 5 April 2024 regarding Statement on Developmental and Regulatory Policies, at https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=57639

RBI, 2025: RBI, Approvals/ Certificates of Authorisation issued by the Reserve Bank of India under the Payment and Settlement Systems Act, 2007 for Setting up and Operating Payment System in India, 9 January 2025, at https://rbi.org.in/Scripts/PublicationsView.aspx?id=12043

RBI, AR: RBI Annual Reports at https://rbi.org.in/Scripts/AnnualReportMainDisplay.aspx. There was a change in financial year from June to March from 2019-20. Also, data of bank PPI issuers for 2015-16 is not available.

RBI, PSI: RBI Payment System Indicators (monthly) at https://www.rbi.org.in/Scripts/PSIUserView.aspx

Toh, 2023: Ying Lei Toh, How Much Do Nonbank Transaction Accounts Improve Access to Digital Payments for Unbanked Households?, Payment System Research Briefing, 29 November 2023, Federal Reserve Bank of Kansas City, at https://www.kansascityfed.org/Root/documents/9919/PaymentsSystemResearchBriefing23Toh1129.pdf

The authors are researchers at the TrustBridge Rule of Law Foundation.

Timeliness in government contracting: Evidence from the country's largest metro-rail network

by Anirudh Burman and Pavithra Manivannan.

Introduction

Infrastructure projects in India are plagued by delays (MOSPI, 2022). Proposed explanations include failures of government contracting for public procurement (Singh, 2010, Sinha and Vatsa, 2021, etc.). In this article, we measure delays in the procurement process of the largest metro-rail network in the country -- the Delhi Metro Rail Corporation (DMRC) -- which is considered a successful project. It fares well on global ranks on some parameters such as network length and ridership. The early phases of this metro rail project have been lauded for timeliness in execution and contract payments (Expenditure Management Commission, 2016).

We look at two distinct datasets to obtain a birds eye view and a procurement-oriented view of the delays in DMRC. We find that DMRC is prompt in stages of the contracting processes for which we are able to find evidence, but that the overall project implementation suffers from time overruns. We put this knowledge together to obtain insights into government contracting.

Our approach

As with contracts drawn between any two counterparties, government contracting is a pipeline that runs through four phases (Mehta and Thomas, 2022): (I) Contract specification and design, (II) Contract tendering and award, (III) Contract management and (IV) Contract closure. Flaws in government contracting shows up as inefficiencies in public procurement such as delays in infrastructure projects, which in turn, results in cost overruns, loss in revenues, vendor dissatisfaction and lack of competition when government wants to procure, and ultimately, deprives the public of the intended benefits.

We use three data-sets to understand the timeliness of government contracting in DMRC projects.

1. A data-set of the time taken by the various DMRC projects, sourced from the CapEx database published by the Centre for Monitoring Indian Economy (CMIE).
2. A data-set of tenders awarded by DMRC, hand-constructed from the 'Contracts Awarded' section of the DMRC website;
3. A data-set of payments made by DMRC, hand-constructed from the 'Vendor Payment Details' section of the DMRC website and from an RTI application.

The first data is sourced from the CMIE CapEx database. The CapEx database records the date of significant events for each project. We collect data for the three operational metro networks constructed by DMRC, that is, Phase 1, 2 and 3. This data-set consists of project level information such as, the date of announcement of the project, initial completion date, actual completion date and time overruns.

The second dataset is a hand-constructed data-set consists of tender level information for awarded contracts of DMRC, such as the department calling for tenders, nature of work, date of publication of Notice Inviting Tender (NIT), date of issue of letter of acceptance and value of the contract. This data-set covers this information for 892 tenders for a period of 5 years (2016-2020). DMRC categorises these tenders into 7 heads: Civil and Architecture Works, Electrical Works, Operations and Maintenance, Rolling Stock, Track Works, Signalling and Telecom and Property Development.

In addition, we categorise the contracts for IT services and housekeeping works as 'Miscellaneous' and the procurement done by DMRC for other metros in the country as 'For Other Metros'. The highest number of contracts were awarded for Operation and Maintenance works (623) and the least for Rolling Stock (2). Table 1 shows the typology of procurement undertaken by DMRC during our study period.

Table 1: Typology of DMRC Procurement

Category	2016	2017	2018	2019	2020	Total
Civil and Architecture Works	17	28	9	15	9	78
Electrical Works	5	1	3	5	13	27
Operations and Maintenance	0	65	167	200	191	623
Rolling Stock	0	0	0	2	0	2
Track Works	12	2	0	1	3	18
Signalling and Telecom	8	1	0	0	3	12
Property Development	0	5	3	10	5	23
Miscellaneous	4	14	23	8	13	62
For other metros	5	7	17	8	10	47

Our second hand-constructed data-set consists of monthly bill payment status of DMRC. Pursuant to government communication (vide D.O.18(18)/IFD/2019 dated 05.11.2019), DMRC uploads its monthly vendor payment details on its website since December 2019. This data gives us periodic information about the bill submission date and the bill payment date of DMRC vendors. Since the website does not archive its data we obtained our data partly from the DMRC website and partly vide an RTI application made for this purpose. Our data-set consists of 20,654 bills for the period between November 2019 to August 2021. The payment period is unknown for about 1,550 bills in our data-set, which we discard in our analysis.

We restrict our study to benchmark DMRC's performance against the timelines prescribed by its internal guidelines (DMRC Procurement Manual, 2016 and General Conditions of Contract, 2019) and the Central Government procurement guidelines (General Financial Rules, 2017 and the Manual for Procurement of Works, 2019). We do not employ a comparative analysis with other procuring entities for two reasons: One, availability of data in government portals such as the CPPP (Central Public Procurement Portal) and websites of the procuring entities are often sparse and sporadic. Second, a deeper understanding of the fundamental functioning, internal rules, processes and organisational structure of each entity is required for a meaningful comparison and it warrants a separate study.

Findings: Time overrun in DMRC project implementation

In the CapEx data, we are able to see that, between 1995 to 2021, there were three projects announced, implemented and completed by DMRC. These are the Phase 1, Phase 2, and Phase 3 lines. These have been operational from 2006, 2011 and 2021 respectively. From this data, we are able to locate various timelines for all three phases, including the date on which the Phase was announced, to the date on which they were completed and commissioned for public use for fully operational metro lines. We calculate the time overruns as the difference between the date projected initially as the completion date for a Phase and the date on which it was actually completed and operationalised. These are presented as project delays in Table 2.

Table 2: Project delays (in months)

Phase 1	15
Phase 2	32
Phase 3	102
Source: CMIE Capex Database

Findings: Timeliness in contract award by DMRC

High-income countries, countries with greater political accountability, and countries with greater economic freedom process public works procurement in a more timely manner (Djankov and Bosio, 2020). Each of these countries does infrastructure procurement following its own regulations to award contracts. In India, works procurement is guided by the Manual for Procurement of Works, 2019. According to Clause 5.6 in this manual, the time taken by Ministries and Departments from the date of opening the tender to the date of awarding of contract is 90 days.

We estimate the actual time taken by DMRC to award tenders (Table 3). This is calculated as the time taken from the date of opening of the tender to the date of issuing of the acceptance letter. We find that, on an average, DMRC takes 91-92 days to complete the tendering process.

Table 3: Time taken to award tenders (in days)

Year	No. of tenders	Average time taken
2016	51	101
2017	123	98
2018	222	103
2019	249	81
2020	247	89
Average	178	92

Findings: Timeliness in making vendor payments by DMRC

Payment delays are endemic in public contracts in India. DMRC has sought to avoid payment delays by including provisions for both interim and final payments within its Procurement Manual and General Conditions of Contract, 2019 (GCC). Depending on the type of contract, payments may be made at different stages of the procurement cycle. At Clause 11, the GCC provides for set timelines for the scrutiny of invoices and payments to be made by the procuring entity:

• Interim payments: A contracting firm may apply to the respective project engineer of DMRC requesting for an 'interim payment certificate'. This certificate will be issued based on achieved milestones or prescribed payment schedule in the contract, if any.
1. Within 21 days of the request, the project engineer must issue the interim payment certificate specifying the amount due to the contractor.
2. DMRC is mandated to make 80% of the certified payment amount within 7 days of issue of the certificate.
3. The balance 20% is to be made within 28 days of issue of the certificate.
• Final payments: Once the project engineer certifies that the contractor has completed all his obligations related to a particular work, the contractor is entitled to apply for a 'final payment certificate' with the required supporting documents.
1. Within 28 days of receiving this request, the project engineer must issue the final payment certificate stating the final amount due.
2. DMRC is mandated to pay the amount certified in the final payment certificate within 56 days of issue of this certificate.

We look at the vendor payments data-set of DMRC to analyse the adherence to these timelines. We find that, on an average, DMRC takes about 4 days to clear its dues from the date of submission of the bill by the vendors (Table 4). For the data-set in our study, the maximum days taken by DMRC to make its payment is about a year.

Table 4: Time period for clearance of dues (in days)

Year	No. of bills	Average time	Median time	Minimum time
2019	1326	5	2	0
2020	9887	4	3	0
2021	7891	4	4	0
Total	19104	4	3	0

Payment delays by public sector enterprises in India to their vendors far exceeds their procurement values (Manivannan and Zaveri, 2021). We find that DMRC is an outlier in terms of maintaining payment discipline to its vendors, and in adhering to the timelines provided in its GCC.

Discussion

The public discourse on government infrastructure procurement focuses on delays and time overruns being an indicator of poor government contracting. In this article, we have analysed the capability of a procurement-intensive public sector enterprise to keep up with its timelines in two stages, that is, in contract award and payments. We find that DMRC takes about 3 months to award a contract, and about 4 days to clear its payment dues to vendors. Regardless of this exemplary performance on awarding contracts and paying vendor dues, we also find that the overall project implementation by DMRC failed to meet scheduled timelines to complete. All three phases took a longer time than originally expected. In fact, we observe that the overall project time delays increased from the Phase 1 project to the Phase 3 project.

Executing infrastructure projects on time has been a continuous concern and challenge in India. Our analysis about DMRC timeliness in awarding contracts and in making payments provides evidence against the popular perception that public projects are delayed due to delays in decision-making by the public authorities and their inability to make timely payments. Instead, we speculate that these are because of other factors for overall project delays, some of which could be misaligned allocation of scope and risk in procurement contracts and poor contract management. A deeper analysis into each project, procurement practises, financial and institutional structure of DMRC may help in understanding the reasons for its timely performance in certain procurement processes and the potential causes of time overruns. These learnings can then be adopted by other procuring entities to achieve better procurement and project outcomes.

References

Ministry of Statistics and Programme Implementation Infrastructure and Project Monitoring Division, 434th Flash Report on Central Sector Projects, January 2022.

Ram Singh, Delays and Cost Overruns in Infrastructure Projects: Extent, Causes and Remedies, Economic and Political Weekly, Vol 45, No. 21, May 2010.

PC Sinha and Ananys Vatsa, Delays in Project Completion in India, Indian Journal of Projects, Infrastructure and Energy Law, January 2021.

Erica Bosio and Simeon Djankov, Timely procurement of public works, World Bank Blogs, February 2020.

Department of Expenditure, Ministry of Finance, General Instructions on Procurement and Project Management, October 2021.

Expenditure Management Commission, Recommendations of the Expenditure Management Commission, December 2015.

Department of Expenditure, Ministry of Finance, Manual for Procurement of Works, 2019.

Delhi Metro Rail Corporation Ltd., General Conditions of Contract, November 2019.

Pavithra Manivannan and Bhargavi Zaveri, How large is the payment delays problem in Indian public procurement?, The Leap Blog, March 2021.

Charmi Mehta and Susan Thomas, Identifying roadblocks in highway contracting: lessons from NHAI litigation , The Leap Blog, July 2022.

Charmi Mehta and Diya Uday, How competitive is bidding in infrastructure public procurement? A study of road and water projects in five Indian states , The Leap Blog, March 2022.

Anirudh Burman is an Associate Research Director and Fellow at Carnegie India. Pavithra Manivannan is a Senior Research Associate at XKDR Forum and Chennai Mathematical Institute. We thank Susan Thomas for valuable comments and discussions.

Instant cross-border payments vs. current account inconvertibility

by Ajay Shah and Bhargavi Zaveri-Shah.

The Reserve Bank of India announced a project that may potentially link an Indian payments system, UPI, with PayNow, a peer-to-peer payment system operated by the Monetary Authority of Singapore. A UPI-PayNow linkage will facilitate instant peer-to-peer cross border payments. It would be a striking solution to the long-standing problems of high transaction costs faced by cross-border transactions. It would help increase India's internationalisation.

In this article, we examine the legal foundations for making this project a reality for the end consumer and merchant. We argue that connecting Indian payment systems with cross-border payment systems would face significant procedural complexities involving current account transactions. While UPI-PayNow connectivity is desirable -- as is connectivity between diverse cross-border payments systems -- barriers to convertibility on the current account can render this connectivity illusory.

Current account inconvertibility

What does a desirable cross border payments system look like? It should allow economic agents to make and receive payments with high speed and low cost. It should impose the minimum inconvenience upon every user. In the field of international trade, there is a clear distinction between tariff barriers and non-tariff barriers, in recognition of the idea that there can be substantial barriers to trade even when an overt tariff barrier is absent.

As per India's commitment to the IMF's Articles of Agreement, Indian residents enjoy full current account convertibility. This means that Indian residents should be able to exchange Indian currency, free of restrictions, for any foreign currency of their choice at market determined or pre-fixed (in case of managed currency regimes) rates. Article VIII(2) of the IMF's Articles of Agreement codifies the obligation of full current account convertibility for its members, thus:

Subject to the provisions of Article VII, Section 3(b) and Article XIV, Section 2, no member shall, without the approval of the Fund, impose restrictions on the making of payments and transfers for current international transactions.

Section 3(b) of Article VII deals with the replenishment of scarce currency. Section 2 of Article XIV deals with transitional arrangements. None of these provisions, which are more exceptional in nature, apply to normal circumstances.

A multilateral treaty such as the IMF's Articles of Agreement is given binding effect by enacting domestic law to that effect. In India, the International Monetary Fund and Bank Act, 1945 ("IMF Act"), was enacted to give effect to the IMF's Articles of Agreement. However, at the time of its enactment, the IMF Act excluded the said Article VIII(2) as India was not a fully current account convertible country at that time.

When India graduated to current account convertibility in 1993, the Foreign Exchange Regulation (Amendment) Act, 1993 amended FERA to reflect a more liberalised current account regime. However, it allowed the RBI to wield considerable discretion in introducing frictions for making and receiving cross-border payments on the current account. At the same time, the IMF Act was not amended to give binding effect to the said Article VIII(2) of the IMF's Articles of Agreement as domestic law.

After FERA was replaced by the Foreign Exchange Management Act, 1999, more transactions in foreign exchange became feasible for Indian residents than was once the case. However, the economic notion of full current account convertibility of being able to buy and sell foreign exchange, free of all restrictions, for current account transactions, was not realised in the new law. The FEMA, six years after the 1993 announcement, allows the Central Government to impose restrictions on current account transactions. The current account is less restricted than the capital account. But in 2021, Indian residents continue to face barriers to realising the benefits of `full current account convertibility'. Several barriers, both substantive and procedural, exist that make current account transactions difficult or costly for the average Indian retail consumer and merchant, that are not found in countries that have current account convertibility. These barriers are of two types:

1. Some hurdles are explicitly imposed by the foreign exchange law and its ad hoc enforcement.
2. India has restrictions on capital account convertibility. To ensure that the payments ostensibly made or received for current account transactions are not applied towards settling obligations arising from restricted capital account transactions, banks are appointed as gatekeepers. Banks, in turn, have implemented an elaborate procedural machinery to effectively vet each foreign exchange transaction made by a consumer. This creates frictions that hinder current account transactions.

The IMF Articles of Agreement envisage this possibility and attempt to pre-empt it. Article VI(3) of the IMF Articles of Agreement, which allows members to impose controls necessary to regulate international capital movements, specifically provides that, "no member may exercise these controls in a manner which will restrict payments for current transactions or which will unduly delay transfers of funds in settlement of commitments."

There is a third set of rules and regulations under FEMA that violate the spirit of current account convertibility, even if not the strict text of the IMF's Articles of Agreement. These rules and regulations mandate exporters and earners of foreign exchange to repatriate their foreign exchange earnings within a certain period after their realisation. While this period is generally in the range of six to nine months, again, like all other provisions of FEMA, this too is amenable to revision by the RBI and the Central Government.

Barriers to instant peer-to-peer cross-border payments

While the technicalities may differ across transaction type, the bank in question, the merchant and the jurisdiction of the counter-party involved, the hurdles that consumers and merchants face when making cross border payments for current account transactions can be broadly classified into three categories:

Legal restrictions on current account transactions

In exercise of the power conferred on the Central Government under the FEMA, the Central Government has enacted the Current Account Transaction Rules, 2000. These rules prohibit some current account transactions altogether. For example, they prohibit remittances for "hobbies" or the purchase of banned magazines. They also mandate the prior approval of the Central Government for certain types of current account transactions, such as remittances for cultural tours or publishing advertisements in foreign print media. For a third set of transactions, the rules impose caps that may be revised by the RBI from time to time. This effectively means that authorised dealers in foreign exchange must check the rule book when undertaking current account transactions, for they may fall in any of these categories. Particularly, since the restrictions are imposed by rules and legislation made by agencies (not the Parliament), the frequency of revisions is likely to be higher and allow for lesser transition time as they often take effect overnight.

Restrictions linked to payment instruments

Several restrictions against current account convertibility operate through rules about the payment instrument or payment service provider even when it is used for current account transactions.
The Current Account Rules, 2000 impose restrictions on the usage of international credit cards (ICCs) from an Indian issuer. Some of these are in the letter of the law. For example, the rules explicitly prohibit the usage of an ICC for making payment to foreign airlines in a currency other than INR. Other restrictions manifest themselves through enforcement processes. For example, there have been instances of the RBI having issued enforcement letters to holders of ICCs for availing cloud computing services by a foreign company not having operations in India. The basis of the enforcement actions was that the ICCs were meant to be used for current account transactions 'while on a visit outside India'. The outcomes and due process underyling the enforcement actions undertaken by the RBI are rather opaque. The RBI does not issue reasoned orders for its enforcement actions, unlike most other regulators in India. Owing to this opacity, we are not able to know whether holders of ICCs actually ended up paying fines for having used their credit cards for certain current account transactions and the legal foundations of such enforcement actions.
Similarly, until 2015, Indian residents could use the services of online payment gateway service providers (OPGSPs) for the receipt of export proceeds of upto USD 10,000. Later, in order to promote online e-commerce, the RBI allowed Indian importers to use the services of OPGSP to make payments of upto USD 2,000 for imports. Additionally, the RBI mandated OPGSPs that wish to facilitate cross border payments from or to India to set up liason offices in India.

Transaction vetting by banks

RBI has vested banks with the responsibility of acting as gatekeepers for ensuring that payments ostensibly made for current account transactions are not used for engaging in capital account transactions. Technically, this requires banks to vet every single cross border transaction in order to judge its compliance with the FEMA.
To make cross border outward remittances easier for Indian individual residents (as distinguished from corporate bodies and other artificial juridical entities), the RBI issued a `Liberalised Remittance Scheme', which sets annual caps on the amount of foreign exchange that Indian residents can repatriate outside the country, for both capital and current account transactions. This means that making outward remittances requires a payer to fill up atleast one form swearing compliance with the limits and the terms and conditions of the LRS.
Counter intuitively, the friction is exacerbated for inward remittances in the INR denominated bank account of the recipient. To comply with the letter of the law, banks have put in place a system that requires the beneficiary to furnish the bank with a whole bunch of information, such as the purpose of the inward remittance, the bill numbers where the remittance is on account of exports, etc. This form is required to be filled up and submitted for every transaction. Depending on whether the recipient bank is a public sector bank or not and its operational efficiency levels, these forms may require to be furnished in hard copy by visiting a bank branch. It may involve a couple of phone calls from bank representatives asking this, that or the other clarification. For a first time or the occasional recipient of a foreign payment, this practically puts inward remittances on a T+1 settlement cycle!

Current account convertibility means that there is no difference between going onto an e-commerce website and buying from an Indian merchant vs. buying from an overseas merchant. But Indian residents are often asked to perform know-your-customer checks, uploading images of identity documents, when buying from an overseas merchants. In contrast, domestic purchases only require supplying money and not the burden of KYC procedures. This violates globally accepted notions of full current account convertibility, and will be a significant hurdle to making instant cross-border payments a reality for the average Indian consumer.

The problem of convertibility on the current account

Current account convertibility means that cross-border transactions, for the purpose of current account activity, are as frictionless as domestic transactions. Many people believe that India is fully current account convertible; it is sometimes claimed that India has achieved current account convertibility in 1993 and is now inching towards convertibility on the capital account. This is an inaccurate depiction of where India is. There are explicit prohibitions, restrictions or tarriff barriers. There are procedural barriers that drive up the cost of cross-border transactions. There are threats of ad hoc enforcement or disparity across payment instruments or payment service providers.

At first blush, UPI-PayNow connectivity is a sweet and logical idea, there is the possibility of obtaining a quantum leap in reducing transactions costs for cross-border payments. However, it requires the invisible infrastructure of current account convertibility, which is at present lacking in India. The project of building UPI-PayNow connectivity is a great opportunity to re-open these questions and remove all the frictions, whether on paper or in practice, described above. Our objective should be to make India-Singapore payments on the current account as frictionless as (say) payments between the UK and the US.

This situation is not unique to the UPI-PayNow connection. The `fintech revolution' is limited by infirmities of financial regulation in numerous dimensions. Many ideas that first appear eminently sensible tend to break down when placed into the Indian policy environment [example: regulatory sandbox].

Ajay Shah is a researcher at xKDR Forum and Jindal Global University. Bhargavi Zaveri-Shah is a doctoral candidate at the National University of Singapore.

Should consumers be restricted from storing their card data on the internet?

by Renuka Sane, Ajay Shah and Bhargavi Zaveri.

Over the last few months, there have been a number of cases of leaks of personal data from different service providers such as Juspay, MobiKwik, Dominos, and more recently Air India. This has led to concerns about protecting customer data, and calls for better regulation of data storage and cyber security.

One response to the problem of data breaches has been a prohibition imposed in March 2020 by the Reserve Bank of India (RBI) on payment aggregators (PA), payment gateways (PGs) and merchants from storing consumers' card data on their servers. Effectively, this means that every time a consumer uses a merchant's website, such as a food ordering or a taxi-hailing application, she will have to re-enter her 16 digit card number and other payment details to complete the transaction. This also hinders recurring payment transactions, such as subscription based services and automatic debit instructions issued using credit or debit cards.

In a new paper, we argue that a blanket prohibition on the storage of card data by consumers is problematic. We recommend less intrusive approaches to address concerns about breaches of card information stored by consumers on websites, such as better security standards, tokenisation and liability frameworks.

Why is the current approach problematic?

The card data storage prohibition impacts every consumer who transacts on the internet. It affects every business that accepts payments using a credit card, a debit card or a prepaid instrument (PPI). We estimate that the prohibition affects a transaction value of about Rs.3 billion per month. Customers who make payments using data stored by them on the websites of their merchants, online marketplaces as well as utility bill payment services will be deprived of the ease and convenience of saving detailed information of their payment mechanism and instruments on the websites of merchants. They will now have to invest time and effort in making alternate arrangements in making payments. A few seconds of effort multiplied by millions of transactions adds up to a serious burden upon the economy. Many people will find this additional effort to be too much of a burden, and millions of transactions might be disrupted, which is also a cost to the economy.

Besides the loss to consumers, the prohibition could potentially favour certain technologies in the payments industry, such as the Unified Payments Interface (UPI) and net-banking, since the prohibition does not apply to them. It is one thing for some payment instruments to be preferred by consumers because they are seen to provide better security features (such as non-storage of details). But when state actions tilt the competitive playing field in favour of some players or technologies, or when state actions shape the design of products or processes, this raises concerns about central planning.

The RBI has not demonstrated how the potential benefits of the card data storage prohibition outweigh the costs this imposes on customers and payment intermediaries through direct channels (millions of transactions where additional seconds are spent on supplying information every month) and indirect channels (government influence upon the technological choices of society, and the costs incurred by firms in changing over from one technology to another).

Traditionally, such concerns were a part of the new field of public administration, regulators and state capacity in India, where researchers and thinkers were exhorting regulators to work in better ways and proposing modifications of laws. These concerns now connect into an emerging jurisprudence about the minimum standard of processes that regulators must rise to, before using the coercive power of the state.

The card data storage prohibition does not meet the proportionality test laid down by the Supreme Court for delegated legislation. In Internet Mobile Association of India v. Reserve Bank of India (2018), the Supreme Court struck down the RBI circular that effectively prohibited exchanges facilitating transactions in virtual assets and virtual currencies on the ground of proportionality. The RBI has not demonstrated the manner in which the card data prohibition meets the requirements of this test.

The proposal also did not undergo an open transparent public consultation process. In September 2019, the RBI had issued a Discussion Paper on Guidelines for Payment Gateways and Payment Aggregators. Indeed, in its press release dated 17th March, 2017, issued along with the PA/PG Guidelines, the RBI explicitly stated that the said guidelines were 'based on the feedback received' on this discussion paper. However, the discussion paper did not contain its proposal to impose a complete prohibition on card data storage by merchants. On the contrary, the discussion paper proposed giving consumers a choice to save their card data on the websites of merchants, with a default setting of declining to save such data. The imposition of the card data storage prohibition, despite its exclusion in the discussion paper, is thus presented to the merchants and the consumers as a fait accompli. This violates the norms of a responsive public consultation process emphasised by the Supreme Court in Cellular Operators Association of India vs. TRAI (2016). In this case, the Supreme Court reprimanded the Telecom Regulatory Authority of India for not taking into account the arguments of telecom service providers while making a regulation imposing penalties for dropped calls. The court ultimately struck down the regulation.

The consequences of a deficient consultation process manifest themselves in the form of repeated clarifications on the scope and implementation of the data storage prohibition. As we explain in the paper, the scope and implementation of the card data storage prohibition have undergone revision twice in a span of a year. This reflects the weaknesses of RBI's consultation process conducted in 2019.

Alternative approaches

We argue that while a payment transaction will always involve a non-zero probability of fraud and data leakage, a prohibition is not the answer to these concerns. The path to sound policy analysis involves the application of data security standards, liability frameworks and tokenisation. Data breaches are largely associated with risks that can be classified as 'operational risk'. Operational risks are best dealt with through technology design by merchants and intermediaries in the transaction cycle. PAs and PGs are already required to abide by higher data security standards, than those applicable to other firms in India. If these standards are found to be inadequate, then the RBI must demonstrate the inadequacies of these standards, instead of resorting to a prohibition. The RBI has the authority to require its regulated entities (such as PAs) to ensure that the merchants connecting to them adhere to higher standards.

Similarly, the regulatory framework must incentivize an efficient and dynamic approach to risk management by firms. The rules governing the allocation of losses between various stakeholders - consumers, merchants, card (or other payment system) operators, and PAs/ PGs, shapes these incentives. The rules should be designed so that they a) minimize inconvenience to the consumer, and b) incentivise payment system operators and PAs/PGs to minimize the risk of loss of consumers' data and money. A stable loss allocation rule creates incentives for a dynamic approach by the firms, who continuously respond to emerging threats, and to the improved possibilities for fraud prevention that are made possible by technological change.

Another way to implement better security is through tokenisation, where the card account number is masked by a single-use randomised number (or character) of the same length. With tokenisation, each card number is now represented by a token. The original number need not be stored in the databases of merchants, PAs or PGs. In January 2019, the RBI permitted card networks to offer tokenisation services to any third party app provider. The RBI should consider expanding the scope of the permitted tokenisation offerings, so that payment system intermediaries can make appropriate choices.

Conclusion

This paper has engaged in a deep dive into one regulation-making project at the RBI, and argued that there were critical flaws in this work. The RBI has sought to address concerns of data security in payment systems through a regulatory strategy which assumes that it possesses deep knowledge of products, technology and consumer behaviour. Policy analysis works better under a more humble approach, where it is assumed and understood that firms and their customers understand consumer preferences and technology the best.

Regulators in India wield substantial legislative, executive and judicial powers, and a substantial literature has demonstrated the repeated failures of the work taking place in these organisations. An emerging Indian jurisprudence has started questioning the working of regulators and the checks and balances surrounding the powers of officials in regulatory agencies.  These developments require regulators to demonstrate high standards of analysis and evidence before intervening into the working of the economy.  This paper shows one example of these difficulties, and serves as an example in envisioning how better legal foundations would generate improved state capacity.

The problems of public procurement and payment delays: A review of the recent literature

by Sourish Das and Rabia Khatun.

Introduction

'Public procurement'- the purchase of goods and services by the state from private enterprise -- tends to be a large part of economic activity in any country. The World Bank estimated that globally, public procurement in 2018 amounted to USD 11 trillion or 12 percent of global GDP(Bosio and Djankov, 2020). In India, these estimates are higher at 30 percent (Khan, 2017) and recent budget announcements suggest that these estimates are likely to increase.

Such magnitudes have a large multiplier effect on economic activity and economic growth. But the multiplier effect is dampened by the 'marginal cost of public funds' or MCPF which is the cost incurred by a rupee of public spending (Kelkar and Shah, 2019). In an ideal world, public procurement works well, and goods/services that are available in the private market for Rs.1 are purchased for Rs.1 by the government. In the real world, public procurement processes introduce an additional friction, an inefficiency, where the government pays Rs.A when purchasing something worth Rs.1. Every deficiency of public procurement procedures drives up the A.

There is a friction in taxation (the MCPF which Kelkar and Shah (2019) refer to as a cost of Rs.3 upon the economy when the government obtains Rs.1 as taxes). Similarly, there is a friction in contracting-out (the government pays A when obtaining services worth 1). These two come together in shaping the overall effectiveness of government action. A government that wishes to purchase (or contract-out)goods/services worth Rs.1 ends up with a true total cost for society of 3A. On the taxation side, this motivates research on understanding and reducing the MCPF. On the expenditure side, this motivates research on understanding and improving public procurement so as to obtain a reduced value for A.

The conventional processes of government do not produce information about these two elements of inefficiency. Researchers have to create mechanisms through which these estimates can be obtained. For example, there is a widely held perception that delays of payments are a persistent problem in public procurement. Such delays in payment translate into higher costs of doing business by the private enterprises that render services or deliver products to government or public sector enterprises, and raises the MCPF of public procurement. As has been happening elsewhere, the perception of the higher cost of doing business with the public sector is increasingly occupying the public discourse in India as a critical element of what is driving stress in the financial health of the corporate sector. At present, we have informal estimates about the difficulties faced in public procurement in India. As an example, Sahu (2020) recently estimated the size of the delayed payments from the Union government as totalling Rs.9.5 lakh crore, an estimate that was culled from public sources. The data presented included pending dues to road projects at NHAI, from power generating companies and power grid, in the sugar and fuel ecosystem, food distribution at FCI and to the micro, small and medium enterprises. But beyond such broad, aggregate estimates, there is little that is understood about the mechanics that drive this quantum of delay. What needs to be set right to solve the problem is not well understood.

In the present literature, two key features emerge. One is the issue of late payments by the state. This has become increasingly recognised as a major problem after the Financial crisis of 2008 and after the European debt crisis of 2009. Perhaps as a consequence, almost all of the studies are based on data from countries of the EU. A second central concern appears to be the effect of such late payment by governments on the financial health of firms, particularly Small and Medium Enterprises or SMEs. SMEs have been in the policy headlights over the last decade as a critical base of employment growth. Any factor influencing their financial health has also been highlighted as an important area of reform. SMEs are particularly affected by any adverse impact of payment delays.

In this article, we survey the literature on delays in payments by government and their consequences. We find it useful to classify this literature into two lines of thought about delayed payments in public procurement: (1) these hurt the profit of the private sector and increases the probability of bankruptcy, particularly for smaller businesses; and together (2) such delays have a significant negative impact on economic growth. Additionally, this literature shows pathways for setting up measurement systems that can then be used to regularly monitor the impact of public procurement processes on economic agents and the economy. Four papers appear to be the basis of understanding, which are Connell (2014), Checherita et al. (2016), Obeng (2016), and Conti et al. (2020).

Much of the work uses two components to measure late payments: payment delays and the duration of payment delays. Payment delay is calculated over agreed contractual period and it is the ratio of absolute delay (in days) to the agreed contractual period. Payment duration refers to agreed contractual period plus the absolute delay in days over agreed contractual period and is the sum of agreed contractual period plus payment delay. The data for payment delay and payment duration is obtained from Intrum Justitia, a private credit management firm which conducts an annual written survey among several thousand firms in 29 European countries. The survey results are published as the annual European Payment Index Report. Among other statistics, the survey reports the average annual payment duration and the average annual contractual payment period, both of which are further disaggregated into consumer, business-to-business, and public sector debtors terms.

The impact of delayed payments in public procurement on the health of firms

Connell (2014) attempts to estimate the economic effects of late payments that firms face in some European countries (Greece, Italy, Portugal, Spain) regarding delays in payments in Business to Business (B2B) and Government to Business (G2B) transactions with two questions:

1. How can the cost to firms associated with government late payments be approximated? This cost is estimated as the short-term financial cost of firms associated with late payments. In order to calculate this, they use the volume of claims against the public administration, the average annual interest rate for loans to non-financial corporations and the average government payment delays expressed as a fraction of a year.
2. Do liquidity constraints associated with payment delays put the firms out of business? A panel regression is run between payment delays and the firm's exit rate. This was done for B2B and G2B transactions separately. The exit rate is defined as the ratio of death firms to the total number of active firms. The regression controls for size of the firms involved, country fixed effects to control for national time-invariant characteristics, and business cycles variables to control for changes in financial conditions.

The paper finds that payment delay is statistically significant and negative across all the countries studied, with higher payment delays being seen with higher exit rates. The estimated financial cost as a percentage of GDP in 2012 ranges from 0.19 percent in Greece to 0.005 percent in Finland. A one point reduction in the payment delay ratio would reduce exit rates by about 2.8 or 3.4 percentage points in a B2B transactions. As expected, these effects are exacerbated with business cycle effects. The results also show that bigger firms, with a larger number of employees, are more likely to survive the deleterious effects of payment delays. In G2B transactions, a one point reduction in the delay ratio leads to a decrease in exit rates of about 1.7 to 2 percentage points. The effect is lower than payment delays in B2B transactions which is suggested as being due to the different representations of SMEs in these different types of transactions. The overall findings of this study suggest that payment delays in commercial transactions by the public administration and private entities have detrimental effects on the health of a firm, and exacerbate the burden of already financially constrained firms which ultimately push them out of business.

Delayed payments in public procurement and its impact on the economy

Checherita et al. (2016) analyze the impact of government payment delays on private firms and on economic growth. They argue that increased delays in public payments can affect private sector liquidity and profits and hence ultimately economic growth. This study defined payment delays by including various measures of the accounts payable data from government accounts (as defined in ESA 1995 code AF.7) along with the other measures of payment duration defined earlier. In addition to the short-term impact of payment delays from government on real GDP growth, the study also analyses profit growth measured by economy wide gross operating surplus, and bankruptcy measured by the probability of default (using Moody's measure of distance to default) over the period spanning 1993 to 2012.

Using a panel regression analysis, they find a negative relation between delayed payments and growth. The results show that a one standard deviation change in delayed payments reduces the growth rate by 0.8-1.5 percent, and a one percent increase in arrears reduces growth by 0.6-0.9 percent. The paper finds a statistically significant impact of delayed payments on the growth rate of operating surplus of firms. A one standard deviation increase in delayed payments reduces profit growth by 1.5-3.4 percent. Finally, their results suggest that delayed payments reduce the distance to default. In similar work, Fiordelisi et, al. (2012) show that economic growth in Italy would have been an additional 0.38 per cent if the government paid its trade loans within 30 days.

Obeng (2016) investigates the impact of payment delays caused by a liquidity crisis in the European Union, using changes in the pattern of late payments among EU companies between 2005 and 2014. The paper finds the following features about payments delays during the financial crisis: payment delays increased across the board; delays had a higher negative impact on SMEs, low profitability firms, and low liquidity firms; significant variation in how delays increased depending upon the sector that the firm operated in. The paper analyses the variability of firm late payments under different macroeconomic conditions using data for 54,277 EU firms over the period 2005 to 2014 from the AMADEUS database, a commercial European firm database. A fixed effects regression model to estimate the impact of selected macroeconomic shocks on payment delays finds that the financial crisis has a significant negative impact on payment delays of accounts receivable, even after controlling for firm characteristics such as profitability, liquidity, size, sector, country, credit collections, and credit period.

This literature establish that impact of delayed payments by the government on firms and economy is negative and significant. The next strand of the literature asks what can be done to reduce the economic cost of delayed payments, and to improve the MCPF of public procurement.

Conti et al. (2020) analyze the regulatory framework of the EU (called the Directive on Late Payments or DLP) concerning delayed payments by government. This paper focuses on G2B commercial relationships, starting by investigating the impact of the DLP on firm survival, employment and investment. They use sector level data for a sample of 23 EU countries (and Norway) from 2008-2015, using 38 two-digit sectors from the Structural Business Statistics(SBS) database (an Eurostat firm database which provides information on European firms). The authors construct the exit rate of firms for a given sector in a country as the ratio between the number of enterprises that cease activity and the stock of active enterprises in a given year and for a given country-sector unit. A difference-in-differences analysis finds that after the introduction of the Directive, the exit rate of firms decreased in sectors that sell a larger fraction of their output to the government. They also find that there is an increase in employment in those sectors more connected with the government, and conclude that more discipline in government payment terms can have considerable positive effects on economic activity.

Implications

The results of the above studies present the first empirical estimates of the quantum of the negative impact on the economy when the government delays payments for procurement transactions.Some indicative estimates of the economic impact include:

1. One standard deviation worsening in delayed payments reduce firm profit growth by 1.5-3.4 percent.
2. One point reduction in delayed payments reduce firm exit rates by 1.7-2.0 percent.
3. One standard deviation worsening in delay of payments reduce economic growth rate by 0.8-1.5 percent.
4. Paying trade loans in 30 days imply an additional 0.33 percent economic growth.

Even with the caveat that these are values estimated for countries and firms operating in the countries in the EU, where contract performance and enforcement tend to be some of the best in the world, these are useful benchmarks to frame the impact of problems of public procurement for us in India. Such an exercise is particularly pertinent for the current times, where the COVID-19 pandemic has resulted in a severe reduction in GDP growth and there is a large scale loss of jobs. One estimate puts the reduction in the Indian economy at 23.9 per cent in the April to June quarter of 2020 (Choudhury, 2020).

India has followed the global response to such a systemic shock, with the state becoming the saviour of last resort and rolling out economic interventions in the form of income support schemes and various public expenditure programs. However, the present situation of the Indian fiscal conditions place constraints on the credibility and sustainability of new spending. What the above literature suggests, in addition to these recent interventions, is that India would do well to find ways and means to clear her dues to direct and indirect suppliers, particularly given that a large fraction of Indian enterprises are micro, small and medium enterprises. Sahu (2020) reports that INR 5 lakh crore out of the reported INR 9.5 lakh crore of dues from the government was due to MSMEs. If reducing the delays in payments can reduce the distress related bankruptcy of such firms by even one percent, it can have a material impact on the health of these firms and continued availability of avenues for employment. More importantly, such an action will improve the confidence of small traders and vendors across the country in participating in G2B transactions. If payments can be made on time, it will reduce the MCPF and strengthen the channels through which the state can deliver a positive impact on economic growth at the time when it is most required, and to those who need the support the most.

One path suggested in international literature is to put in place a regulatory framework on public procurement. However, there is no clear evidence that indicates that this can be successful in reversing payment delays. For example, Banerjee et al. (2020) show that e-governance reforms of the MNREGA system does deliver a positive impact on reduced leakage in social benefit programs but fails to reduce payment delays. Further, Roy and Uday (2020) analyse the link between the presence of a legal framework and the corruption and they find no correlation between the two.

Conclusions

What the existing studies show is the importance of establishing systems through which the impact of the public procurement processes can be understood. Unlike in the various EU countries where these studies have been carried out, there are no systematic empirical studies that have been done in India to quantify the economic cost of delayed payments on firms and the economy. A first step towards solving the problem of delayed payments and the overall processes of public procurement would be to facilitate opportunities to gather information of the impact of these process on the operational health of firms. Such information needs to developed for India and made largely available to the research community to get a sound empirical understanding of the process of public procurement and how to improve the cost of doing business with the Indian State.

References

Abhijit Banerjee, Esther Duflo, Clement Imbert, Santhosh Mathew and Rohini Pande (2020), 'E-governance, accountability and leakage in public programs: Experimental evidence from financial management reform in India', American Economic Journal: Applied Economics, 12(4).

Cristina Checherita-Westphal, Alexander Klemm, and Paul Viefers (2016), 'Governments payment discipline: The macroeconomic impact of public payment delays and arrears'. Journal of Macroeconomics, 47: 147-165.

Erica Bosio and Simeon Djankov (2020), 'How large is public procurement?', World Bank Blogs, 5 February.

Franco Fiordelisi, Davide Mare, Nemanja Radic, Ornella Ricci, Philip Molyneux, and Thomas Weyman Jones (2012). 'Government late payment: the effect on the Italian economy', Doctoral Dissertation, School of Economics and Business, Loughborough University, UK.

Gaurav Choudhury (2020), 'India's GDP contracts 23.9 per cent in Q1FY21 as lockdowns, restrictions bludgeon economy', 1 September.

Isaac Kwame Essien Obeng (2017), 'Delaying payments after the financial crisis: evidence from EU companies', Acta Universitatis Agriculturae et Silviculturae Mendelianae Brunensis, 65(2): 447-463.

Maurizio Conti, Leandro Elia, Antonella Rita Ferrara and Massimiliano Ferraresi (2020), 'Government late payments and firms survival: evidence from the EU', Technical report, Societia Italiana di economica pubblica, Working paper No. 753.

M. H. Khan (2017), 'Public procurement issues with government of India', Lal Bahadur Shastri National Academy of Administration (LBSNAA).

Prashant Sahu (2020), 'Forget stimulus, clear your dues: Rs 7 lakh crore unpaid dues to industry by central govt depts and PSUs', in Financial Express, 8 September.

Shubho Roy and Diya Uday (2020), 'Does India need a procurement law?', The LEAP Journal blog, 19 August.

Vijay Kelkar and Ajay Shah (2019), 'In service of the Republic: the art and science of public policy', Penguin Allen Lane.

William Connell (2014), 'Economic impact of late payments', Technical report, Directorate General Economic and Financial Affairs (DG ECFIN), European Commission.

Rabia Khatun is an independent researcher and Sourish Das is associate professor at the Chennai Mathematics Institute. The authors would like to thank Susan Thomas for comments and suggestions on the article.

A glitch in the payments at the U2 concert, and lessons for design principles

by Sanjay Jain, Rajeswari Sengupta, Ajay Shah.

On 15 December 2019, for the first time, U2 was to perform in Bombay. The organisers of the concert came up with an elegant vision for how 50,000 people would be fed: This would be done through an all-electronic payments process.

It was supposed to be all pretty and perfect. Along with the tickets, everyone got a card that contained an RFID tag. The card had to be activated by scanning the inbuilt QR code using the android QR code app. This took customers to a URL. On the website customers were required to register (with a name, phone number etc) and then pre-load the card. It was announced that the pre-loading could be done exclusively via a particular payments app. Once this step was completed, customers would need to tap their cards at any of the physical kiosks at the venue in order to update the card with the online balance.

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Customers were informed that food and beverages could only be purchased at the concert venue using the RFID card, no refunds would be available and that there would be physical kiosks at the venue for topping up the cards. While those counters would accept both cash and cards for payment, the food and beverage sellers would only accept the RFID card.

Thus, a key part of the design vision was coercion of the customer by forcing all payments for purchases to be done only through one mode.

Failures in consumer protection

The cashless monopoly electronic payments mechanism had unhappy features from the viewpoint of a consumer. The design was complex, requiring customers to first do an online transaction for loading the RFID card and then a physical transaction at the venue for getting the amount to the card, even before the card could be used for purchases. In other words, two additional steps were required to potentially save time during a future purchase transaction.

The minimum recharge amount for the card was Rs.500. Customers were forced to do this without any upfront knowledge about the prices of the goods sold at the venue.

To load Rs.1000 into the wallet, the customer was charged a fee of Rs.100. On this fee, there was a GST of 18%, so the payment went up to Rs.1118. This was a total cost to the consumer of 11.8%, as compared with paying cash.

To add insult to injury, the money left on the card was not refundable. What was not spent would be confiscated by the payments vendor. Customers were thus required to estimate their expenses without knowing the prices of the goods up front. This disrupted the biggest benefit of digital payments i.e. the ability to make a purchase without planning for it beforehand.

Even in the best case scenario where the design envisioned by the organisers worked, customers were left with an experience worse than a cash payment, for a significantly higher price. Even in its conception, this was not a very attractive grand scheme.

Failures in system operation

In the event, the grand scheme collapsed because it just did not work. There rapidly emerged two classes of customers at the venue.

One class was represented by customer X who had pre-loaded the RFID card with Rs.500 using the app before arriving at the concert venue. At the venue she found that her F&B spend would be (say) Rs 1000. Despite having taken the trouble of registering and pre-loading the card prior to the concert, she now had to stand in two long queues at two separate kiosks: one to first update the card so that the online transaction of Rs 500 was fed into the card, and the other to top-up the card with Rs 500 so that she could make her F&B purchases.

There were thousands of such customers who went from one queue to another even before their registered cards could be used. The queues at the payment counters soon became longer than the queues at the F&B counters.

The other class was represented by customer Y who had not registered or activated her card before the concert. At the venue she had to first activate her RFID card using mobile data connectivity, load the minimum amount of Rs.500 online, and then stand in the queue to update the card so that she could use it for purchases. In case she wanted to top-up the card, she would have to stand in the queue again.

Given the large fees (11.8% plus the possibility of non-refund), users were careful to avoid putting too much money into the card, and thus ran the risk of undershooting.

At first the hassles were only about standing in multiple queues. Things got worse when the systems at the kiosks for updating the registered RFID cards stopped working. This meant that thousands of customers who had pre-loaded their cards could neither use their cards to make purchases nor get refunds.

The venue was swamped with a large number of queues for one thing or another.

The mobile data network crashed at the venue with thousands of people trying to access it. This meant that thousands of customers who had not pre-activated their cards, were unable to do so, let alone update the same and use for purchases.

Despite the utter chaos, the merchants inside the stadium stood firm, in unison, in refusing to sell goods to the customers using any other payment mechanism.

The net result was that thousands of people were left without food and beverages despite possessing all reasonable modes of payment and despite there being multiple merchants selling the desired items. Money -- the bridge between buyers and sellers -- broke down due to the framework of coercion around only one technical standard that was permissible.

This was a mess-up at multiple levels:

• Poor product experience, requiring multiple redundancies such as to transfer from online payment to the RFID tag,
• Poor planning on the part of the organisers and not factoring in the possibility of collapse of data network at a venue filled with thousands of data users,
• Fleecing of the customers with a steep 10% load charge and forfeiting unused balances,
• Coercion of customers by not giving them alternative payment options.

Learning about design principles from this episode

Many an engineer can come up with a grand scheme that sounds nice. For an engineer, it is easy to build, and easy to work with simple monolithic systems that are designed by someone and imposed on everyone. The engineer's job is easier, operating in such a world, than in the messy real world of multiple technologies. However, social systems and the interactions of a large number of people are complex, and the best laid plans of designers are likely to go awry.

We are in favour of innovation, and trying out shiny new ideas. Offline instant digital payments through RFID tags sounds like a great idea, particularly when you anticipate a crowd and poor network conditions. However, innovations can and do fail. The wise path is to never have a single point of failure, to always ensure that customers can access other options, that the failure is not as damaging as it was at the U2 concert. Payment is an enabler, and not the final product, and when the payments system actually hampers transactions, it is a tragedy.

The problems of a single centrally planned solution, inside one stadium, help us in thinking about central planning more generally. Each new innovation must face the market test. It is always better to have organic evolution, where many rival solutions slug it out in the marketplace, with no coercion that helps or hinders any one solution. This will give more robust solutions (no single point of failure), let the market evolve towards numerous solutions that fit numerous work environments (e.g. decentralised data works better when communications systems break down, centralised data has its own advantages for certain situations, etc), and prevent any one vendor from ripping off the consumer. It is good to have competition between multiple technologies, and multiple technology choices that fit the very diverse array of use cases that are seen in India.

We have traditionally extolled the role for cash as a way to protect individual privacy and freedom. We must also respect the remarkable UX of physical cash transactions, and contrast this with the hoops that many digital schemes want to force consumers to jump through. The cashless dystopia of the U2 concert teaches us that cash has one more important function: In a disaster zone where IT infrastructure has broken down, cash is the way to get transactions done. Physical pieces of paper will be important for a long, long time.



Sanjay Jain is at CIIE.CO, IIM Ahmedabad.  Rajeswari Sengupta is a researcher at IGIDR, Bombay. Ajay Shah is a researcher at NIPFP, New Delhi.