The Indian authorities just lately received the facility to determine which fee strategies and varieties of transactions can stay free or be charged after the Parliament handed a brand new invoice. And that has sparked widespread concern about whether or not UPI might proceed to scale if fees finally kick in.
So, in at this time’s Finshots, we take a look at the economics of scaling UPI, even when it isn’t free.
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Now onto at this time’s story.
The Story
Final 12 months on a trip to Thailand, I ordered a couple of necessities off a fast commerce app. The invoice was 14 baht. I paid 20, however they didn’t have change. So the supply govt pulled out his telephone, tapped a couple of occasions on the display, confirmed me a QR code and requested me to scan it.
It was my first day there, and communication was laborious as a result of he didn’t perceive English and I didn’t perceive Thai. Which meant I ended up utilizing Google Translate and found out that I wanted to obtain an app, hyperlink a pay as you go vacationer card and pay. And this isn’t only for vacationers. Thai residents have an analogous app the place they will pay with a bank-linked card or pay as you go card.
That’s after I realised how easy UPI has made our lives. You possibly can pay even in the event you don’t have a debit card linked to your account. Simply obtain any UPI app, hyperlink it to your financial institution and pay, all free of charge. You don’t suppose twice earlier than paying, even for small quantities.
For six years, that frictionless nothing has been the entire level of UPI. However because it seems, it’s additionally its greatest downside.
As a result of even in the event you weren’t paying something further immediately, somebody at all times was. And that somebody was you, simply not directly.
Let’s clarify how.
See, each time you ship cash on UPI, banks on each ends do actual work. They transfer funds immediately, test for fraud and preserve servers operating across the clock. None of that’s free. With card funds, this backend work is charged via a fee called MDR, or Merchant Discount Rate, paid by retailers to banks and card networks like Visa and Mastercard.
However with UPI, the federal government banned banks from charging MDR in 2020. That’s as a result of an Revenue Tax Act modification made it obligatory for companies incomes over ₹50 crore to supply digital fee choices. However when adoption is compelled and comes with a brand new value, retailers might merely cross that value on to clients, impose minimal buy or order values, or typically even refuse to conform. So zero-MDR turned a factor.
And since banks couldn’t sustainably carry the price of operating UPI with out being compensated, the federal government tried to fill the hole with an annual subsidy for UPI and RuPay debit card transactions. Which, in fact, was funded by taxpayer cash or in different phrases, you and me.
The entire thing went on pretty effectively till that subsidy stored shrinking. For context, at its peak in FY24, it was about ₹3,631 crore. However it dropped to ₹1,441 crore in FY25 and simply ₹435 crore in FY26 earlier than being revised up mid-year as a result of it wasn’t sufficient to cowl prices.
And whereas subsidies stored shrinking, transaction volumes didn’t. To place that in perspective, UPI processed over 24,000 crore transactions price ₹314 lakh crore in FY26, up roughly 30% in quantity and 21% in worth year-on-year. But, a parliamentary committee just lately discovered that the subsidy meant to maintain these transactions free covered barely 11% of what the industry was spending to maintain UPI operating between 2022 and 2025.
So you can say that aside from taxpayers, banks and fintechs had been additionally paying to maintain the nation’s hottest fee behavior alive.
That math lastly caught up with coverage this month when the Parliament passed a bill amending the Payment and Settlement Systems Act. It lets the Central Authorities notify which digital fee modes, classes of payers or payees and transaction thresholds can stay exempt from fees, changing the present blanket zero-MDR mechanism for UPI and RuPay.
Now, that doesn’t imply a shopkeeper will abruptly begin charging you for paying by way of UPI. The government has clarified that UPI will remain free for residents. However there may very well be a nominal MDR on a restricted set of service provider transactions sooner or later, maybe above a sure threshold.
And that would make an enormous distinction. Jefferies estimates that even when the edge had been transactions above ₹2,000, a payment as small as 0.15-0.3% could generate ₹5,000-10,000 crore by FY28, giving fee apps, banks and NPCI ( Nationwide Funds Company of India) further income.
However right here’s one thing that received us pondering. Everybody’s panicking about UPI being charged. Some customers on-line even say they’d cease utilizing it in the event that they needed to pay further. Very like how recharges on fee apps turned discouraging as soon as platforms began charging a payment.
So how do you scale UPI with fees?
Properly, India isn’t the one nation to attempt immediate, free-feeling funds at scale. Brazil has accomplished it too, with one thing virtually the alternative of what India is now making an attempt. In November 2020 Brazil’s central financial institution launched an immediate fee system referred to as Pix. However not like UPI, Pix by no means pretended that charges didn’t exist.
From day one, sending cash between two individuals, like splitting bills with a buddy, was free. However the second a enterprise was on the receiving finish, banks and fee suppliers might cost a small payment.
You’d suppose that ought to have slowed issues down. However fifteen months after launch, Pix had actually overtaken debit and credit cards mixed in transaction quantity. Inside a few years, greater than 140 million Brazilians or roughly eight out of ten adults, had been utilizing it and making over 4 billion transactions a month.
That’s proof that UPI can clearly scale with fees. The trick is that Pix wasn’t competing towards “free”. It was competing towards bank card charges of 2-3%, or typically increased. So even with a payment hooked up, Pix was nonetheless considerably cheaper than what retailers had been already paying to just accept a Visa or Mastercard.
Add immediate settlement and a central financial institution rule forcing each main financial institution to hitch the community, and also you get a system with each incentive to scale quick.
Brazil constructed its payment and free layers facet by facet, with out anybody having to unlearn something. Companies budgeted for a Pix payment the identical method they’d at all times budgeted for a card payment, besides it occurred to be a lot smaller.
India did the alternative. It educated a complete nation of retailers, over six years, to count on zero. Now it has to reverse that expectation with out breaking the belief that made UPI common within the first place. That’s a a lot more durable psychological promote than charging a payment from the start.
Moreover, in the event you bear in mind UPI additionally wasn’t truly free from day one. Between its launch in 2016 and 2020, service provider charges had been somewhere between 0.25-0.3%. And regardless of that, UPI scaled and overtook debit and credit card transactions both by volume and value by 2019.
Which signifies that India has additionally successfully run its personal model of the Brazil experiment for 4 years with a modest service provider payment which was effectively beneath card charges. And that didn’t lead to retailers mass-reverting to money.
The one distinction is that Brazil by no means needed to persuade anybody {that a} payment was truthful, as a result of there was by no means a “earlier than” to check it with. India does.
So yeah, the actual experiment isn’t actually about economics. It’s about whether or not a rustic can stroll again a promise of “free perpetually” with out the story turning into about betrayal slightly than sustaining a funds system.
Till subsequent time…
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