Across the world, small businesses struggle to access credit and tap into formal financial markets. In India specifically, the micro small & medium enterprises (MSME) credit gap, which is the credit demand that is unmet by the financial system, is estimated to be about $250B, almost 10% of GDP. MSMEs are at the heart of India’s economy, accounting for over 30% of India’s GDP growth and employing over 100M people. Yet only 11% of MSMEs have access to formal credit and more than 60% of all credit demand is unmet.
Why is Indian MSME credit penetration so poor? The are several structural challenges that have created barriers to entry:
- High Risk: Most potential borrowers have poor or non-existent credit scores or other relevant data, and hence collection and repayment become a challenge for lenders
- High Cost to Serve: Acquisition, underwriting, and collection costs make it cost-prohibitive for lenders to target smaller borrowers
- Limited Access: Most lenders can’t even access a vast majority of prospective borrowers through existing online and offline channels
To understand this problem better, let’s take the example of Rajni – a real street vendor that takes a loan in the morning, buys her supplies, converts them into sales at a small profit, and retires the loan at night. She is able to get this loan from informal moneylenders even today but at an interest rate of roughly 3-5% a week, which annualizes to about 150-300%! The digital public infrastructure necessary to improve her situation has been in the works since 2013, and now the pieces are finally in place to attempt a solution.
The Open Credit Enablement Network (OCEN) is an open network which codifies the flow of credit between borrowers, lenders, and credit distributors under a common set of standards. It was created by iSPIRT, a non-profit think tank that was key in implementing Aadhar and UPI. By allowing platforms and marketplaces to connect with banks and non-banking lenders to digitize the process of originating, underwriting and servicing a loan, OCEN aims to democratize credit access to small business and vendors, such as Rajni, across the country.
To understand OCEN, we first have to understand India Stack, the technological foundation upon which OCEN is built. India Stack, which was initiated by iSPIRT, is the moniker for a set of open APIs and digital public goods that aim to unlock the economic primitives of identity, data, and payments at population scale.
The first layer, the identity layer, was implemented through the Aadhaar project. In essence, the Aadhaar project sought to give every Indian a foundational digital identity so that they could unlock all of the benefits of the formal economy. The project achieved its objective in stunning fashion – in just 5 years, more than one billion Indians had received an Aadhaar card. This makes it one of the most successful rollouts of any tech product anywhere in the world. Today, 1.27 billion Aadhaar cards have been issued, covering more than 94% of the country’s entire population.
The second layer, the payments layer, was implement through Unified Payment Interface (UPI). UPI is India’s homegrown real-time mobile payments system, designed to enable interoperability between money custodians, payment rails and front-end payment applications. It was intended to continue the journey of financial inclusion that had begun with the goal of providing every Indian citizen with a bank account, now enabling them to take part in a digital economy that was rapidly becoming smartphone-enabled. As an interoperable payment rail, UPI obviates the need to fund any kind of intermediary wallet as users can make real time payments directly in and out of their bank accounts, at essentially no cost. Since its launch in April 2016, UPI has been nothing short of a runaway success story, growing from an ambitious idea to becoming the world’s 5th largest payment network by volume, behind only Visa, Alipay, WeChat Pay, and MasterCard.
The third and final layer, data governance, was enshrined in a policy framework known as the Data Empowerment and Protection Architecture (DEPA). The ‘data’ layer of India Stack aims to restore the ownership and control over user data to its rightful owners. At its core, there are three main pillars that make up the DEPA framework. The landmark Personal Data Protection Bill which, for the first time ever, gives Indian citizens a numbers of rights pertaining to their data. An electronic consent artifact, which establishes a standardized and programmable digital template for capturing user consent to share their personal data with third parties. And finally new category of regulated entities known as Account Aggregators (AAs) that are tasked with playing the role of traffic cops in a typical data value chain by providing an interface to facilitate the ‘easy sharing and consumption of data from various entities with user consent.
At a core level, the driving vision of India Stack is of open networks. The idea behind open networks is to establish a level playing field for members of a digital ecosystem. Building on this vision, OCEN is an open network which standardizes the building blocks that make up a typical credit cycle. Using these standards, various participants in the credit ecosystem can seamlessly connect with one another without needing to build bespoke APIs and infrastructure.
This enables the embedding of data-driven digital lending into online marketplaces and tech platforms. Imagine a consumer goods marketplace with millions of customers and thousands of suppliers. For such a company, offering order-financing for end consumers and working-capital financing for suppliers seems like a no brainer – it deepens the value add of their offering to consumers, allows more commerce to flow through its system as a result of better-funded suppliers, and results in direct revenue for the company through loan origination fees.
OCEN helps implement this by introducing a common set of standards for all players in the ecosystem. By supporting this shared interface, companies can easily integrate with every other participant in the ecosystem that is using the same rails. In addition to removing friction and duplication of effort in the developer experience, this model also has the added benefit of democratizing the ecosystem. Small companies can become participants and contributors to the ecosystem just like their larger counterparts.
Within the OCEN framework, there are three key market participants:
1) Borrowers: Small business and merchants for whom access to credit is democratized through lower interest rates, access to customized credit products and near instant loan approvals
2) Lenders: Banks, NBFCs and fintechs for whom customer acquisition, loan servicing, underwriting and collection costs are reduced. In combination with real time data monitoring, this allows lenders personalized credit products to a long tail of smaller borrowers that were previously out of reach
3) Loan Service Providers (LSPs): Intermediaries such as online marketplaces and internet startups (e-commerce, food delivery etc.) that act as agents of the borrowers and able to provide ‘embedded finance’ within their existing product or service flows
Through OCEN, the entire lending flow can be implemented digitally. Originations are enabled by LSPs, which offer a digital interface for lenders to source and engage with borrowers. Lenders then underwrite the loans digitally, using data shared from the LSPs through OCEN APIs, Account Aggregators (AAs) and other electronic sources (credit bureaus, identity verification etc). Loans are then offered by lenders almost instantaneously, and borrowers can accept offers through the LSP facilitated by OCEN APIs.
Once a loan offer has been selected, borrowers can accept and sing the loan documents digitally by leveraging eSign. The borrower can also select and commit to a repayment schedule and set up auto-repayment. The OCEN APIs also allow the LSP to forward a lender’s repayment link to the borrower for direct payment execution. Finally, the lenders can disburse funds to the borrowers using online payment rails such as UPI or IMPS. In this way, the entire lending flow could be conducted digitally using low-cost public infrastructure.
Overall, OCEN is an ambitious attempt to re-shape the credit landscape for small business in India by leveraging open-source public digital infrastructure. If implemented well, OCEN will disrupt the credit market in India by providing the financing that will help MSMEs grow into SMEs or large corporates. The growth of these micro-enterprises will in turn lead to sustainable job creation and benefit the broader Indian economy.
Solving India’s massive credit gap is a huge challenge that requires collaboration across the public and private sector, with active participation from regulatory agencies, banks, fintechs, marketplaces and most importantly – small business owners. Over the coming years, the goal is to scale OCEN to hundreds of thousands, and eventually millions, of small businesses and to get there it is essential that individual market participants across the board experiment with, adopt and scale the platform.