Published in Sep-Oct 2022
AURORA: Where are fintechs at today in terms of their business proposition and what are the factors that are potentially inhibiting their growth?
NADEEM HUSSAIN: Fintechs are about changing the customer journey. Most banks in Pakistan have a terrible customer journey. They do not focus on customer UI/UX, and although most of them have updated their front-end operations, the backend journey remains unchanged. For example, although a customer may apply online for a credit card, it will take two months before a bank will give the approval, because the backend is not automated. The only area where the backend is automated is payments and therefore there is good payment traction from the banks. Conversely, fintechs are very user-friendly. They have excellent UI/UX that tries to address the customer’s problem. The banks are not as receptive to the customer lens as they ought to be despite the fact that they have a huge opportunity in the shape of their existing customer data. Fintech mainly comprises four components: payments, lending, savings and investment. However, other than the payment aspect, the customer journey still remains very convoluted although digital lending is gaining traction.
A: How so?
NH: The customer journey in terms of person-to-person has significantly improved over the last 10 years, but the B2B customer journey within the SME or corporate sectors has not. The result is a huge disparity between the solutions created for individuals for payments versus those for business, where we are still living in the dark ages.
A: How has the payment ecosystem developed?
NH: To make payments there are three kinds of licences. The traditional bank licence, which all the commercial banks have as well as three telco-owned micro-finance banks. Then the State Bank of Pakistan (SBP) came up with a licence called the Payment System Operator and Payment System Provider (PSO/PSP), which went a step further. Here entities could start operating in the payments space with a lower capital amount relative to what is required from banks. However, the real revolution came when the SBP came up with the Electronic Money Institution (EMI) licence and for the first time, which allowed non-bank entities to have an open loop wallet, whereby they could carry out transactions with businesses other than their own. An example of a closed loop wallet would be Bykea or Careem using the wallets to pay their riders. The SBP has approved 10 EMI licences and another six to eight are in the pipeline. As a result, large players with a large customer base, but which did not have a banking licence, can operate in this space. The biggest change came with the introduction of Raast by the SBP. Raast is a payment system owned and settled by the SBP. Furthermore, by the end of this year, the SBP will allow Raast to carry out pull transactions – and this is very important. Push transactions are about transferring money – I can instruct my bank via my app to transfer money to your bank account. With the pull transaction, I can also instruct my bank to make regular payments to another entity on a monthly basis – in other words, a standing order or direct debit. This is what will make Raast a game-changer as far as accepting payments at a B2B level – as well as at the kiryana store level – because it also offers a solution for merchants. So the payment ecosystem in Pakistan for fintech is looking good. With the introduction of Raast, payments have become even more favourable for end customers. However, the business feasibility for EMIs is going to be tough, especially because all money transfers under Rs 25,000, as per SBP regulations, are not subject to a fee. Businesses will have to figure out how to make money other than making transfers that do not exceed this amount.
A: Will they be able to figure this out?
NH: They are working on various solutions. The SBP is acutely aware of this issue and is waiting for the industry to come up with solutions. The second component of fintech is lending. Traditional commercial banks are slow when it comes to lending. They make their money lending to the government or through treasury bills and Pakistan Investment Bonds (PIBs) and are not very motivated to develop new customers. The result is that the entire commercial banking stream – all 36 commercial banks, including Shariah-compliant banks – accounts for less than two million active loan customers. Credit cards, personal loans, auto and mortgage financing all fall within this two million. If we add the microfinance industry, we have another 8.5 million, taking it to a total of about 11 million active loan customers in a country of 220 million. By far too little. However, a new category of lenders has recently entered the market, some of whom are legitimate and some not. The legitimate ones have to obtain a licence from the Securities and Exchange Commission of Pakistan (SECP) and are permitted to lend money within that regulatory framework. The SECP has granted licences to several nano-lenders or Buy Now, Pay Later (BNPL) lenders. The good news is that this new category of lenders will, in a couple of years, attract more than 10 million active loan customers. The problem is that 20% of these lenders are regulated and 80% are not. The SECP is going after the latter, one by one, but in the meantime, five others crop up and the result is that today there is a plethora of unregulated lenders. There are two main reasons why lending must be regulated. One is customer data protection. If you are regulated and you misuse the customer’s data, your licence will be at risk. Two, some unregulated lenders indulge in predatory pricing, which means they charge 400% or more per annum. Although the regulators have not put a cap on the interest level charged, they ask that it be kept at a reasonable level. The lenders who fall within the regulatory framework will be a great asset to the industry and it is very important that the SECP take a more active role in shutting down unregulated lenders because they are giving the industry a bad name. As we grow the fintech market, we need to be very careful about consumer fintech protection. When you deal with a bank, you can approach the branch manager but with fintech, everything is done through an app and customers do not see anyone. This is why it is extremely important that customers know that they will be protected if their data is misused or if they experience other problems. Most of the apps have call centres and that is their first port of call; however, they need to know that they can approach either the SBP or SECP. It is vital that customers feel secure and protected when they use financial apps and in this respect, the industry has significant room for improvement and the regulators should be working with the industry to further enhance customer protection.
A: What is the potential for lending?
NH: Huge; officially we only have 11 million active borrowers. The third component in the fintech ecosystem is savings and here too a lot more work needs to be done. Typically, Pakistanis do not use banks to save. The amount of cash in circulation proportionate to the total money deposits works out to about 32%; basically, in excess of seven to eight trillion rupees. Pakistanis prefer to save gold, or they use the committee system (community saving), and in rural areas, livestock is seen as a form of saving. The challenge is to find a solution that is scaled to meet these three methods of saving. We need solutions that enable people to buy Rs 100 worth of gold through an app along with the security that the gold they have bought is safe. The committee system needs to be institutionalised, so that people who prefer to save in cash start to put their money into the banking system. As for livestock, we need to tokenise this, so that in the case of a buffalo worth Rs 250,000, it is apportioned in a way that people can have partial ownership of the animal by contributing in small denominations. The same applies to real estate. It is about tokenising an asset category that is outside the reach of the average Pakistani. Pakistan’s savings ratio proportionate to our GDP is six to seven percent – one of the lowest in the region. The fact is that if I put money in a bank, I get a negative return. We need to come up with asset categories that people are comfortable with and which give them a customer journey that allows them to easily, through their phones, find the solution that best suits them.
A: What about investment opportunities?
NH: This is the fourth component. There are less than 60,000 active brokerage accounts in Pakistan. We have not educated the general population about either risk-free money market accounts, where you get a better return compared to putting money in a bank, or low-risk shares that can be bought through an asset management company. This is one area in terms of financial education where we have not done well. We need to gamify apps so that people become more comfortable. Let them invest Rs 1,000 in an asset management company and become familiar with this asset category.
A: What is the total number of people who use fintechs to make payments?
NH: There are more than 20 to 25 million active wallets between JazzCash and Easypaisa and if you add the other EMIs, I would say 30 to 40 million people are using fintech apps to make payments on a regular basis.
A: Would this be considered a small proportion of a potentially larger market?
NH: You need to take into account the demographics. There are only 90 million unique phone numbers in Pakistan, so that would be the total size of the market. Let’s say 100 million, and then take out the lower end and people under the age of eight, that would leave about 70 to 80 million people, and we are already talking about 40 to 50 million people using the apps and that is a good penetration. Within the fintech ecosystem, the biggest piece that is missing is the solution for small businesses and even large corporates. Fintech companies should be working with the SBP to come up with solutions to improve interaction between businesses. Yes, there are Know Your Customer (KYC) issues, but they can be worked around. Here we have failed the market, but that is where the biggest opportunities are.
A: Why the failure?
NH: Because no one has come up with a solution, despite the fact that the market opportunity exists. They may think that the regulatory solution is too difficult. However, whoever is prepared to do the work and find the solution will have a huge opportunity. Another issue the industry needs to look at is the use case scenario, with respect to the 50 million active wallets that exist, because so far the use case is mainly restricted to paying bills. Although this is good, if you look at the hierarchy of payments on a monthly basis at the household level, in addition to paying rent, utilities, transport and school fees, groceries need to be bought – and buying groceries is usually a weekly, if not daily, occurrence. Yet, unless retailers have an EPOS (electronic point of sale) machine, digital is going to remain a small component in the way customers make payments. Whether it is a QR code or tap and pay, we have to find solutions, so that people can even pay their pan wala digitally. The biggest use case in Pakistan – the wallet – has yet to be scaled. People are working on this and until this is overcome, we will remain stuck where we were 15 years ago.
A: Isn’t one of the problems the fact that merchants don’t want to be documented and forced into the tax net?
NH: This is not necessarily the biggest challenge. The telco companies between them have close to 90,000 unique branchless banking agents and all of them pay taxes on these transactions. Granted, they may not be paying tax on the total income of their store, but they pay tax on their branchless banking transactions, so to that extent, they are already documented. A few years ago, I suggested to the then chairman of the Federal Board of Revenue (FBR) that they consider giving a three-year tax holiday to kiryana stores and tax them only on their digital transactions and then after three years, start taxing them on the rest. In this way, about a million new taxpayers could be brought into the net. In my opinion, these stores will be very interested if credit is provided to them based on their digital transactions. The small storekeepers do not benefit from any credit from the distributors or the FMCGs and are perpetually in a situation of negative working capital. I think some kiryana stores will be prepared to accept to pay some taxes if they can benefit from the lending aspect and improve their turnover.
A: Is there a need to build capacity in terms of HR and the ability to innovate?
NH: This is one of the challenges as we grow the fintech industry. Most universities do not offer a degree in the subject and there is a need to run courses on the ecosystem, the regulatory framework, and how money is raised. Citibank built an entire framework for the IBA on consumer banking in 1996 when the industry started to take off. Similarly, the universities should teach a minor in fintech and the rest can be done by the companies themselves.
A: To what extent have fintech companies been affected by the current economic climate in terms of raising capital?
NH: Last year, the landscape for raising funds for fintechs was phenomenally successful. Currently, things have slowed down but I think that in six months’ time, traction on this score will resume. Last year, Pakistan raised $400 million worth of capital – fintechs and other start-ups – an amount we were unable to raise for the last 10 years combined. I think we will end up with about $200 million this year and get to $400 million plus a year from now. Pakistan is a great place to invest because our penetration of the addressable market is still low and the opportunity for profitability and acquiring more customers is there.
Nadeem Hussain was in conversation with Mariam Ali Baig. For feedback: firstname.lastname@example.org.