Nepal’s payment service providers are grappling with a shortage of adequate policies, insufficient physical infrastructure, subpar corporate governance, and a lack of proper strategy for sustained business operations during times of crisis, a report by the central bank says.

The Payment System Department of Nepal Rastra Bank carried on-site inspections of 18 licensed payment service-provider institutions in the last fiscal year 2022-23. During the inspections, information related to systemic, operational, settlement, and liquidity risks of licensed institutions was collected and an analysis was done based on the available information and the prevailing market scenario.

Amit Agrawal, co-founder of digital wallet Khalti said the report might have found such issues in the majority of payment service provider companies. But the central bank has also been taking action if any payment service provider fails to adhere to rules and guidelines, he said.

“The e-wallet is a new industry, with less than 10 percent of payments currently being digitised, but it is gradually evolving,” Agrawal said.

According to the ‘Payment Systems Oversight Report-Fiscal Year 2022-23’ published by the Nepal Rastra Bank on Thursday, the central bank also took action against some payment service providers in the last fiscal year for non-compliance, which included conducting annual general meetings without prior approval from the authorities, board members taking advances, selling promoter shares before the completion of the lock-up period of five years, and withdrawing cash more than allowed by the rules, among others.

Actions were taken against payment service providers for not adhering to the money laundering prevention policy, failing to regularly update and monitor customer profiles, failing to conduct due diligence of customers and agents and not following the anti-money laundering policy related to politically-exposed persons, among other things.

The central bank took action against payment service providers for non-reporting of e-money through the supervisory information system and not maintaining sufficient balance in the settlement account for e-money.

According to the report, the impact of the liquidity crisis was observed in the payment systems as well. The multi-fold growth in the usage of Nepal's payment systems has subsided, and the transaction volume and value have increased, but at a decreasing rate in the last fiscal year.

Out of 27 payment service providers, 20 fall short of industry standards as it requires high investment, said market insiders.

Most of the e-wallet service providers are operating at a loss and unable to invest in infrastructure.

Nepal's economy experienced a liquidity crisis during the post-pandemic economic rebound. Due to a large trade deficit and external sector imbalance, the central bank had to implement forced measures to control imports of luxurious goods (for 47 Harmonic Codes), the report said.

The market was in recession and its impact was felt in the digital transaction as well, said the market insider.

“The number of transactions through the real-time gross settlement (RTGS) system increased by 8.6 percent in the last fiscal year, but the total amount of transactions went down by 18.6 percent.”

According to the report, as digital financial services are proliferating, the use of cheques and the electronic cheque clearing system is decreasing. Cheques are still one of the most favourable mediums of fund transfer and payments in Nepal.

The usage of point of sale (POS) [a place where a customer executes the payment for goods or services and where sales taxes may become payable] is increasing, the report said, adding that an increase in e-commerce or online payments using cards has also been observed, according to the report.

“The number and value of online payments using cards have increased by 20.8 percent and 27.4 percent in the last fiscal year as compared with the previous fiscal year 2021-22.”

According to the report, the number and value of connectIPS transactions have grown by 27.5 percent and 33.5 percent respectively from the fiscal year 2021-22 to the fiscal year 2022-23.

Similarly, quick response (QR) code-based payment is the most widely used digital payment instrument in the country, it said, adding that the number and value of QR-based payments have surged by 189.5 percent and 159.7 percent respectively from the fiscal year 2021-22 to the fiscal year 2022-23.

The report said the user base of mobile banking and internet banking has increased after the Covid pandemic, although at a decreasing rate. In the fiscal year 2022-23, the number of mobile banking users has increased by 16.7 percent and reached 21.36 million. Similarly, the number of internet banking users has increased by 10.2 percent in the fiscal year 2022-23 and reached 1.86 million.

Nepal's payment system consists of two types of instant payment systems which are high value and retail systems. Currently, three major networks facilitate retail instant payments. Nepal Clearing House Limited operates connectIPS and corporatePAY instant payment systems. Similarly, Fonepay Payment Service Limited offers instant payment through fonepay direct and inter-bank funds transfer systems. Likewise, Nepal Payment Solution Limited offers instant payment through InstaFund systems. These three networks link one bank customer with another through their instant payment system.