Keep UPI Free: Fund It from Public Savings

Keep UPI Free By Sharing Its Public Savings

Syllabus:

GS-2: Government Policies & Interventions

GS-3: E-Governance, Growth & Development, Inclusive Growth, IT & Computers, Infrastructure

Why in the News ?

The Taxation and Other Laws (Amendment) Act, 2026 has amended Section 10A of the Payment and Settlement Systems Act, which had barred charges on BHIM-UPI and RuPay transactions.The amendment does not impose Merchant Discount Rate (MDR) immediately, but enables the government to notify payment modes on which charges may be levied in future.The editorial argues that reopening the possibility of MDR on UPI could undermine one of India’s most successful examples of Digital Public Infrastructure (DPI).In 2025, UPI reportedly processed more than 24,000 crore transactions, worth around ₹314 lakh crore, demonstrating its enormous scale.Around 86% of merchant transactions are below ₹500, meaning MDR could disproportionately affect small merchants and low-value transactions.

 

UPI as India’s Digital Public Infrastructure:

  •     Unified Payments Interface (UPI) has evolved from a payment innovation into a major component of India’s digital public infrastructure.
  •     It allows users to transfer money instantly between bank accounts through participating applications.
  •     UPI is fundamentally different from traditional proprietary payment systems.
  •     Before UPI, banks largely operated their own closed payment applications and systems.
  •     UPI created an interoperable architecture through which:

○      Different banks could communicate.

○      Different applications could interact.

○      Customers could transfer money across banks.

○      Payments could be settled almost instantly.

  •     Its architecture is based on open, interoperable protocols and APIs.
  •     The system has consequently created a common digital language for payments.
  •     The editorial compares UPI’s significance with other major elements of India’s digital infrastructure such as Aadhaar.
  •     UPI’s value extends beyond convenience.
  •     It has helped bring millions of transactions into the formal financial system.
  •     Digital payments create transaction records and make bank accounts more useful for everyday economic activity.
  •     Small merchants can accept payments without necessarily investing in expensive card terminals.
  •     Customers can make payments using their existing smartphones.
  •     This has helped expand digital payments among:

○      Small retailers.

○      Vegetable vendors.

○      Auto-rickshaw drivers.

○      Kirana shops.

○      Informal businesses.

  •     India’s UPI model has also attracted international attention because it combines:

○      Interoperability.

○      Instant settlement.

○      Low-cost payments.

○      Large-scale adoption.

  •     The central argument is therefore that UPI should be viewed not merely as a commercial product but as a public digital utility.

 Understanding UPI, Digital Payments and MDR:

Unified Payments Interface — UPI

  •     UPI is an instant payment system developed by the National Payments Corporation of India (NPCI).
  •     It enables inter-bank transactions through a common interoperable framework.
  •     Allows users to transfer money:

○      Bank account to bank account.

○      Through participating mobile applications.

○      In real time.

  •     UPI operates through an interoperable architecture, allowing different banks and payment applications to interact.

National Payments Corporation of India — NPCI

  •     NPCI is an umbrella organisation for operating retail payment and settlement systems in India.
  •     Established with the initiative of:

○      Reserve Bank of India (RBI).

○      Indian Banks’ Association.

  •     NPCI operates major payment infrastructure such as:

○      UPI

○      RuPay

○      IMPS

○      BHIM

○      National Financial Switch (NFS)

  •     Important role:

○      Payment interoperability.

○      Retail-payment infrastructure.

○      Digital-payment innovation.

Merchant Discount Rate — MDR

  •     MDR is a fee associated with processing certain digital payment transactions.
  •     It can compensate different participants in the payment ecosystem.
  •     Depending on the payment system, participants may include:

○      Issuing bank.

○      Acquiring bank.

○      Payment network.

○      Payment service providers.

  •     MDR is more established in traditional card-payment systems.

Zero-MDR Model for UPI

  •     India has maintained a zero-MDR framework for UPI and RuPay under the relevant legal and policy framework.
  •     The policy objective has been to:

○      Encourage digital payments.

○      Promote merchant acceptance.

○      Support financial inclusion.

○      Reduce dependence on cash.

  •     The government has used incentive mechanisms to support payment ecosystem participants.

Payment and Settlement Systems Act, 2007

  •     Provides the statutory framework for regulating payment systems in India.
  •     RBI has significant regulatory authority under the Act.
  •     Important areas include:

○      Regulation of payment systems.

○      Authorisation of payment systems.

○      Oversight.

○      Settlement arrangements.

○      Systemic stability.

Digital Public Infrastructure — DPI

  •     DPI refers to foundational digital systems that provide interoperable platforms for large-scale public and private use.
  •     India’s major examples include:

○      Aadhaar — digital identity.

○      UPI — digital payments.

○      DigiLocker — digital document infrastructure.

○      Account Aggregator framework — consent-based financial data sharing.

  •     UPI’s public-good characteristics include:

○      Interoperability.

○      Open architecture.

○      Large-scale adoption.

○      Low transaction friction.

○      Public institutional backing.

UPI and Financial Inclusion

  •     UPI can help:

○      Bring small merchants into formal digital commerce.

○      Increase use of bank accounts.

○      Create transaction histories.

○      Reduce dependence on physical cash.

○      Facilitate digital financial services.

  •     It is particularly significant for micro and small businesses.

UPI and Formalisation

  •     Digital payments generate transaction records.
  •     This can contribute to:

○      Greater financial transparency.

○      Formalisation of businesses.

○      Better access to formal credit.

○      Improved tax compliance.

○      Digital accounting.

  •     However, digital payments alone do not automatically guarantee formalisation.

Economic Benefits of Reduced Cash Use

  •     Lower costs associated with:

○      Currency printing.

○      Currency transportation.

○      Currency storage.

○      Cash security.

○      ATM infrastructure.

○      Handling and processing.

  •     Banks can also reduce the cost of certain transactions by shifting activity from:

○      Branch counters.

○      ATMs.

 towards digital channels.

Relevant Institutions

  •     Reserve Bank of India (RBI)

○      Regulates and supervises payment systems and banking institutions.

  •     National Payments Corporation of India (NPCI)

○      Operates major retail payment infrastructure including UPI.

  •     Department of Financial Services

○      Plays a major role in financial-sector and digital-payment policy.

  •     Ministry of Electronics and Information Technology

○      Relevant to India’s broader digital infrastructure and digital-governance ecosystem.

Important Laws and Acts

  •     Payment and Settlement Systems Act, 2007
  •     Payment and Settlement Systems Regulations
  •     Digital Personal Data Protection Act, 2023
  •     Information Technology Act, 2000
  •     Relevant RBI payment-system regulations and directions

The Debate Over Merchant Discount Rate

  •     Merchant Discount Rate (MDR) is a fee associated with processing certain digital payments.
  •     It is generally paid by the merchant to the payment ecosystem for processing a transaction.
  •     The payment ecosystem can involve:

○      Issuing bank.

○      Acquiring bank.

○      Payment network.

○      Payment service providers.

  •     The editorial argues that MDR is inappropriate for UPI because UPI’s architecture differs significantly from traditional card payments.
  •     Card-based systems historically involve:

○      Physical cards.

○      Point-of-sale terminals.

○      Network infrastructure.

○      Credit risk in credit-card transactions.

○      Multiple intermediaries.

  •     These features provide a rationale for charging transaction fees.
  •     UPI does not necessarily involve the same cost structure.
  •     The customer’s smartphone effectively becomes the payment interface.
  •     No dedicated physical card terminal is required for ordinary UPI payments.
  •     Payments can be settled almost instantly between bank accounts.
  •     Consequently, the marginal cost of processing a UPI transaction can be relatively low.
  •     The editorial argues that imposing MDR simply because digital transactions have historically attracted charges would be an institutional inheritance from the card-payment model.
  •     MDR could also create a behavioural problem.
  •     If digital payments become more expensive than cash:

○      Merchants may discourage digital payments.

○      Consumers may return to cash.

○      Small businesses may absorb the fee.

○      Digital adoption could slow.

  •     The impact would be particularly significant for low-value transactions.
  •     The article notes that approximately 86% of merchant payments are below ₹500.
  •     Even a small percentage-based charge could therefore affect a large number of daily transactions.
  •     The editorial’s central position is that UPI’s success depends partly on its frictionless and low-cost nature, which should not be undermined through MDR.

UPI’s Massive Scale and Economic Importance

  •     UPI has become one of the world’s largest digital-payment systems.
  •     According to the editorial, during 2025, UPI processed:

○      More than 24,000 crore transactions.

○      Approximately ₹314 lakh crore in transaction value.

  •     It accounted for around 85% of India’s digital payments.
  •     The scale demonstrates that UPI is no longer a niche financial-technology platform.
  •     It has become a foundational part of India’s everyday economic activity.
  •     The average transaction is around ₹1,300, while most merchant transactions are significantly smaller.
  •     This shows that UPI supports not only large-value digital commerce but also micro-transactions.
  •     Everyday transactions involving:

○      Food.

○      Transport.

○      Groceries.

○      Small retail purchases.

○      Local services,

 increasingly take place through UPI.

  •     Therefore, MDR would effectively operate across millions of small economic interactions.
  •     A small transaction fee can have a disproportionately large impact on businesses operating with narrow margins.
  •     For a small retailer, even a fraction of a percentage point can reduce already limited profit margins.
  •     Merchants may respond by:

○      Passing the cost to consumers.

○      Increasing prices.

○      Discouraging digital payments.

○      Setting minimum UPI payment values.

  •     These outcomes could weaken the very network effects that made UPI successful.
  •     The editorial therefore argues that UPI’s enormous scale should be treated as a public-economic asset, rather than merely as an opportunity for transaction-based revenue extraction.
  •     Keeping UPI affordable can support:

○      Formalisation.

○      Financial inclusion.

○      Tax transparency.

○      Digital commerce.

○      Small-business productivity.

○      Reduced cash dependence.

Why UPI Generates Savings for Government and Banks

  •     The editorial proposes looking beyond the direct cost of maintaining UPI.
  •     Digital payments generate substantial savings for the government and banking system.
  •     One major saving arises from reduced dependence on physical cash.
  •     The Reserve Bank of India spends substantial amounts annually on:

○      Printing currency.

○      Managing currency.

○      Processing and distributing notes.

  •     The editorial estimates the RBI’s annual currency-printing expenditure at around ₹5,000–6,400 crore.
  •     This is higher than the government’s expenditure on maintaining UPI’s zero-MDR incentive framework, according to the article.
  •     The social cost of cash is even larger when considering:

○      Transportation.

○      Storage.

○      Security.

○      ATM infrastructure.

○      Cash handling.

○      Replacement of damaged notes.

  •     Banks also benefit from digital transactions.
  •     Different banking channels have different costs.
  •     According to the editorial:

○      A bank-counter transaction may cost around ₹40–50.

○      An ATM withdrawal involves approximately ₹19 in interchange cost.

○      UPI transactions cost only a small fraction of these alternatives.

  •     UPI therefore shifts transactions towards a lower-cost banking channel.
  •     Digital payments also keep money within bank accounts rather than outside the banking system as physical cash.
  •     This increases the availability of deposits and contributes to the banking-system float.
  •     Banks can use these deposits for:

○      Lending.

○      Investment.

○      Liquidity management.

  •     Thus, UPI creates indirect economic value even when banks do not earn a direct fee on each transaction.
  •     The editorial argues that these savings should be recognised while designing the funding model for UPI.

Why Charging MDR Could Become Self-Defeating

  •     The fundamental concern with MDR is that it could undermine the network effects that make UPI valuable.
  •     UPI became popular partly because:

○      Consumers could use it freely.

○      Small merchants could accept payments without significant transaction charges.

○      Transactions were fast and interoperable.

  •     Introducing MDR could alter these incentives.
  •     Merchants with thin profit margins may attempt to pass the cost on to customers.
  •     This could create a perception that digital payments cost more than cash.
  •     Consumers may consequently return to cash for small purchases.
  •     Such a reversal would be particularly harmful because India’s digital-payment ecosystem has been built around frequent low-value transactions.
  •     The article argues that even a 0.3% MDR could potentially take a meaningful amount out of the margins of small retailers.
  •     Attempts to protect small merchants through thresholds may not provide a permanent solution.
  •     Larger merchants could be excluded initially, but:

○      Thresholds may change.

○      Definitions may expand.

○      Charges could gradually spread.

  •     The concern is therefore about the direction of policy rather than merely the immediate financial impact.
  •     A charge-free system encourages:

○      Wider merchant acceptance.

○      Greater consumer usage.

○      Higher transaction volumes.

○      Formalisation.

  •     Higher transaction volumes themselves create economic benefits.
  •     This creates a positive network externality:

○      More users attract more merchants.

○      More merchants attract more users.

○      Higher adoption strengthens the utility of the network.

  •     MDR could weaken this cycle if users and merchants begin to perceive digital payments as costly.
  •     Therefore, the editorial proposes preserving zero-cost UPI transactions and finding an alternative funding mechanism.

A Savings-Based Funding Model for UPI

  •     The editorial accepts that UPI is not costless.
  •     Banks and payment providers incur genuine expenses in:

○      Technology.

○      Cybersecurity.

○      Infrastructure.

○      Compliance.

○      Customer service.

  •     Under a zero-MDR system, payment participants may not directly earn enough from every UPI transaction to cover these costs.
  •     The government has therefore used incentives to support the ecosystem.
  •     However, the editorial argues that the funding gap should not be closed through MDR charged to merchants and consumers.
  •     Instead, the government should recognise the savings created by digitisation.
  •     The proposed principle is simple:

○      UPI reduces the State’s cost of printing and managing cash.

○      UPI reduces banks’ cost of processing certain transactions.

○      UPI generates broader formalisation benefits.

○      A small, defined portion of these savings can finance the payment ecosystem.

  •     This creates a more logically aligned funding mechanism.
  •     Those who benefit from the cost savings generated by digital payments would contribute to maintaining the infrastructure that creates those savings.
  •     The model can be designed to ensure:

○      Predictable funding.

○      Transparent subsidy calculations.

○      Long-term sustainability.

○      No direct burden on small merchants.

  •     The government could periodically estimate:

○      Cash-management savings.

○      Banking-system savings.

○      Formalisation gains.

○      Infrastructure costs.

  •     A defined share could then support banks and payment service providers.
  •     Such a model would treat UPI as a sovereign digital public good rather than a conventional commercial payment product.
  •     The approach also protects the principle that digital payment should not cost more than cash.

UPI as a Public Good and the Path to a Cash-Light India

  •     India’s long-term objective should be to develop a cash-light rather than forcibly cashless economy.
  •     Cash continues to have an important role, especially for:

○      Informal workers.

○      People without smartphones.

○      Areas with poor connectivity.

○      Emergency situations.

  •     However, digital payments can increasingly become the preferred low-cost option.
  •     UPI provides an important foundation for this transformation.
  •     Keeping UPI free can strengthen:

○      Financial inclusion.

○      Digital formalisation.

○      Small-business participation.

○      Tax compliance.

○      Banking penetration.

○      Economic transparency.

  •     UPI’s public-good character arises from its:

○      Open architecture.

○      Interoperability.

○      Scale.

○      Low transaction friction.

○      Public institutional support.

  •     The government’s role should therefore be that of a steward of digital public infrastructure.
  •     Rather than recovering costs directly from millions of merchants and consumers, it should consider the wider economic savings generated by UPI.
  •     The proposed approach also reflects an important public-policy principle:

○      Do not tax the activity that generates the public saving when the saving itself can finance the infrastructure.

  •     A sustainable UPI ecosystem will require:

○      Adequate compensation to banks and payment providers.

○      Strong cybersecurity.

○      Reliable infrastructure.

○      Continuous technological upgrades.

○      Competition among payment applications.

○      Consumer protection.

  •     The ultimate objective should be to preserve UPI’s low-cost, interoperable and inclusive character while ensuring that the ecosystem remains financially sustainable.
  •     This would strengthen India’s digital economy and reinforce UPI’s position as a globally significant model of Digital Public Infrastructure.

Challenges:

  •     Funding sustainability: Banks and payment providers incur real costs even when UPI transactions are free to users.
  •     Zero-MDR compensation: Maintaining free transactions requires a sustainable mechanism to compensate ecosystem participants.
  •     Risk of MDR: Introducing charges may increase costs for merchants and potentially discourage digital payments.
  •     Small-merchant vulnerability: Since a large share of merchant transactions are low-value, even a small percentage fee can affect thin profit margins.
  •     Cash reversal: If digital payments become more expensive than cash, consumers and merchants may return to cash for small transactions.
  •     Cybersecurity costs: The enormous scale of UPI requires continuous investment in fraud prevention, cybersecurity and system resilience.
  •     Infrastructure expenditure: Banks and payment providers must continually upgrade servers, applications, security systems and transaction-processing capacity.
  •     Unequal digital access: Digital payments remain dependent on smartphones, bank accounts, connectivity and digital literacy.
  •     Intermediary sustainability: Banks and payment service providers require adequate incentives to maintain and improve payment infrastructure.
  •     Policy uncertainty: Reopening the possibility of future charges may create uncertainty for businesses that have built their digital-payment models around zero MDR.
  •     Concentration risks: Extremely high dependence on a single payment architecture can create systemic risks if there are major technological or operational disruptions.
  •     Financial inclusion concerns: Excessive monetisation of digital payments could disproportionately affect small businesses and low-income consumers.

Way Forward:

  •     Retain zero MDR for ordinary UPI transactions: Preserve the low-cost nature of UPI, especially for small-value merchant payments.
  •     Adopt savings-based funding: Use a defined portion of measurable savings from reduced cash management and banking transaction costs to finance UPI.
  •     Create a transparent funding formula: Government support should be linked to clearly calculated ecosystem costs and public savings.
  •     Ensure bank sustainability: Provide predictable compensation to banks and payment providers for maintaining UPI infrastructure.
  •     Strengthen cybersecurity: Continuously invest in fraud detection, authentication, cyber resilience and consumer protection.
  •     Promote digital inclusion: Expand affordable smartphones, reliable internet connectivity, digital literacy and access to banking services.
  •     Protect small merchants: Avoid fee structures that disproportionately affect micro and small businesses with narrow margins.
  •     Encourage competition: Maintain interoperability while allowing payment providers to innovate in customer service and value-added offerings.
  •     Use technology to reduce costs further: Improve payment infrastructure, transaction processing and settlement efficiency.
  •     Monitor system resilience: Develop robust backup mechanisms and contingency arrangements to prevent large-scale disruption.
  •     Maintain cash as a parallel option: India’s objective should be a cash-light and inclusive economy, rather than eliminating cash through coercive measures.
  •     Treat UPI as DPI: Recognise UPI as a component of India’s Digital Public Infrastructure, similar in strategic importance to other public digital platforms.

Conclusion:

UPI’s greatest strength is its combination of scale, interoperability and near-zero transaction friction. Introducing MDR risks weakening the very network effects that made it successful, particularly for small-value transactions. Since UPI generates substantial savings for the State and banking system, its ecosystem should be funded through a transparent share of those savings rather than by charging merchants and consumers. Preserving free UPI can strengthen financial inclusion, formalisation and India’s transition towards a cash-light digital economy.

Mains Practice Question:

UPI has emerged as a critical component of India’s Digital Public Infrastructure. Examine the economic rationale for retaining zero MDR on UPI transactions. Discuss the challenges of sustainably funding the UPI ecosystem and evaluate whether savings generated from reduced cash handling can provide an alternative financing mechanism.