The next frontier

Digital-payment trail can improve risk assessment for lending

India’s fintech revolution must move beyond payments towards credit. Since the implementation of the merchant discount rate (MDR) on transactions on the Unified Payments Interface (UPI) platform will provide fintech firms greater visibility of revenue, they should invest in broadening their offers and work on greater financial inclusion. Speaking at the Global Fintech Fest last week, Prime Minister Narendra Modi also called for the next phase of fintech to expand credit, particularly by using digital-transaction histories to understand the needs of very small businesses. A day later, NITI Aayog Vice-Chairman Ashok Lahiri argued that the rich transaction data generated by UPI could improve credit appraisal and risk pricing, helping bring firms in the informal sector and micro, small and medium enterprises (MSMEs) into the formal credit system. The scale of the underlying payment network can make this possible. In August, UPI processed 24.51 billion transactions, worth ₹29.82 trillion, with volumes rising about 22 per cent year-on-year. UPI’s growing use by consumers and businesses is generating an extensive digital record of economic activities, which could potentially help lenders assess borrowers who remain poorly served by conventional credit systems. 

The problem is particularly acute for small businesses. A shop may have no audited accounts, substantial collateral or a long credit history, yet receive regular digital payments. Such transaction trails can provide information on turnover, frequency, seasonality, and cash-flow stability. Better information can reduce information asymmetry, allow more accurate risk assessment, and enable lenders to price risk more appropriately. The opportunity is substantial. MSME credit penetration remains low, at around 14 per cent, according to an estimate by Deloitte. The constraint is not simply a lack of demand. Insufficient traditional data, limited collateral, and the high cost of servicing small-value loans continue to discourage formal lending. 

This is where Unified Lending Interface (ULI) could complement UPI. Developed by the Reserve Bank  Innovation Hub, ULI is intended to enable the consent-based flow of financial and non-financial information from multiple data providers to lenders. Instead of relying predominantly on bureau scores, income statements and collateral, lenders could potentially use verified information such as land records, asset ownership and other financial data, alongside transaction histories. The potential gain is not merely faster loan processing. A better information architecture could make smaller borrowers more bankable and reduce the cost of extending credit in areas where conventional appraisal is expensive. 

There are, however, important limits. A UPI receipt is evidence of a financial flow, not necessarily of income or profit. It says little by itself about costs, margins, liabilities or cash transactions. Alternative data must, therefore, supplement, rather than replace, sound credit appraisal. Nor should a weak digital footprint become a new reason to exclude borrowers who continue to transact in cash. There is also a governance challenge. Reserve Bank of India Governor Sanjay Malhotra has rightly said that fintech companies treat customer data as a “fiduciary responsibility” rather than a business asset. ULI and data-driven lending will require consent, privacy protection, interoperability and safeguards against discriminatory or opaque algorithms. The objective should be to create a secure architecture that leads to inclusion in the formal financial system.