The rapid evolution of India’s digital payments landscape has been anchored by the Unified Payments Interface (UPI). Since its inception, UPI has functioned as a public digital utility, facilitating frictionless transactions across millions of merchants. However, as the ecosystem matures, the challenge of achieving financial sustainability—balancing cost-recovery for stakeholders with the goal of mass adoption—has come to the forefront. A recent report by IIT-Bombay researchers, Ashish Das and Pragya Das, has ignited a significant debate regarding the proposed Merchant Discount Rate (MDR) structure, arguing that the financial burden on the system should be re-evaluated to protect the integrity of this essential infrastructure.
The Core Argument: Rethinking Bank Compensation
The prevailing sentiment among many financial stakeholders is that the infrastructure providers—predominantly banks—require compensation for the risks and costs associated with payment processing. However, the IIT-Bombay report challenges the current allocation of revenue. Under the existing framework, banks that issue and acquire transactions command the majority of the revenue share. The researchers argue that this model fails to account for the indirect financial gains banks accrue through Current and Savings Account (CASA) deposits.
Data cited in the report suggests that banks generated a net interest margin exceeding Rs 4.85 lakh crore from CASA deposits in FY26. From this perspective, the report classifies the current push for higher MDR as a form of “disproportionate” compensation. The researchers propose that instead of relying on fees extracted from merchant transactions, banks should designate a small fraction—approximately 3%—of the interest savings derived from CASA deposits to fund the maintenance and technological upgrades of the UPI ecosystem. This approach essentially treats UPI as a fundamental utility, akin to Core Banking Solutions (CBS), which banks provide as a baseline service to remain operational and competitive in the modern financial sector.
Structural Reform of the MDR Framework
The report advocates for a significant reduction in the MDR, recommending a move from the proposed 0.40% to a more modest 0.08%. The authors suggest a specific breakdown of this fee: 0.06% for third-party application providers (TPAPs) like Google Pay or PhonePe, and 0.02% for Payment Service Providers (PSPs). By lowering the aggregate rate, the researchers intend to alleviate the financial strain on merchants, particularly smaller enterprises that might otherwise be deterred from adopting digital payment channels.
Furthermore, the study raises critical questions regarding the rationale behind applying credit card-style MDR models to UPI. It notes that the current fee caps—such as the Rs 300 charge on transactions exceeding Rs 75,000—may violate the principle that service charges should remain aligned with the actual cost of providing the service. By imposing an ad valorem fee structure capped at a reasonable limit (suggested at Rs 40 per transaction), the report seeks to prevent “bill shock” for merchants and ensure that the convenience of UPI is not hampered by prohibitive costs.
Targeting High-Volume Merchants for Sustainability
A key feature of the researchers’ proposal is a progressive approach to transaction fees, specifically targeting larger commercial entities. The report suggests that the financial sustainability of the UPI platform can be achieved by limiting charges to merchants whose annual turnover exceeds Rs 50 crore—roughly Rs 4 crore per month. This strategy acknowledges that while the UPI ecosystem requires funding, the burden should not fall on small-scale retailers or local vendors who form the backbone of the Indian retail sector.
By focusing on this high-turnover segment, the report posits that the ecosystem can still generate approximately 90% of the revenue projected under the NPCI’s model. This would effectively insulate the majority of small merchants from fee volatility, maintaining high levels of public trust in UPI. The authors emphasize that, as a public infrastructure, UPI’s primary objective should be the facilitation of economic productivity. When transaction costs become a source of user dissatisfaction, the overall economic gain of digitizing the informal economy risks being negated.
Broader Policy Implications and the Path Forward
The debate also extends to other facets of consumer finance, with the researchers calling for a reduction in credit card MDR and a re-evaluation of fee-free ATM withdrawal allowances. The argument here is that if the banking system is nudging consumers toward digital payments as a superior alternative to cash, maintaining extensive infrastructure for cash withdrawals while simultaneously charging high fees for digital alternatives creates a contradictory policy environment.
Moreover, the report recommends the continuation of the Payments Infrastructure Development Fund (PIDF) to assist payment aggregators in onboarding new merchants. This aligns with the broader goal of formalizing the Indian economy. If the regulatory authorities accept the view that UPI is an essential service, the requirement for merchants with high turnover to offer it as a payment option could be mandated, ensuring that digital payments are omnipresent in the Indian retail market.
Balancing Innovation and Public Interest
The conflict between the NPCI’s drive for a self-sustaining revenue model and the academic call for lower, cost-based fees highlights a fundamental question for India’s digital future: should digital payment systems be treated as profit-generating business units or as essential public infrastructure?
If the recommendations of the IIT-Bombay report are adopted, the focus would shift from extracting transaction-based rents to leveraging the institutional financial advantages that banks already possess. By tapping into the interest margins generated from CASA deposits, banks could maintain the UPI ecosystem as a high-quality, free-to-use utility for the masses, while still capturing reasonable revenue from large corporate entities.
Ultimately, the goal for Indian regulators is to maintain the momentum of digital adoption. If fees are introduced too aggressively, there is a risk of pushing merchants back toward cash, thereby reversing years of progress. A balanced, equitable fee structure that protects small businesses while ensuring a stable revenue stream for service providers remains the most viable pathway for the continued evolution of India’s digital payment ecosystem. The coming months will likely see intense discussions between the central bank, the NPCI, and industry stakeholders as they attempt to reconcile these differing perspectives into a sustainable, long-term policy framework.
Disclaimer: This content is auto-generated for informational purposes only.
Source: Read Original News
