The banking and payments sector has undergone a seismic upheaval as a result of digitization and the increasing usage of mobile technologies. The latest entry in the digital payments market is the so-called neobank, which is a virtual bank that operates solely online and does not have typical physical branch networks.
In the Indian context, despite their name, neobanks are not directly controlled by the banking regulator, the Reserve Bank of India (RBI), because the RBI does not provide licences to operate virtual banks. By prohibiting outsourcing of essential managerial operations, the recently issued outsourcing rules for co-operative banks have hampered co-operative banks' capacity to collaborate with neobanks to serve the unbanked or underbanked sectors. Indian neobanks are unable to provide key banking services because banks are not permitted to outsource core management functions such as internal audit, compliance, and decision-making functions such as determining compliance with know your customer (KYC) norms, sanctioning loans, and investment portfolio management. Banks may contractually impose compliance with the recently implemented master directive on digital payment security measures on neobanks, which must also comply with existing data protection rules in their position as an intermediary under the Information Technology Act, 2000.
The RBI established payment banks in 2014 to promote financial inclusion through a “secure, technology-driven environment” by offering modest savings accounts and payments or remittance services to the underbanked population. The RBI emphasised that payment banks will not be virtual or branchless banks. With the pandemic approaching, the RBI should consider fully adopting virtual or branch-banking services and subjecting such services to proper checks and balances under the RBI's supervision.