Prof. Jayanth R. Varma’s Financial Markets Blog

A blog on financial markets and their regulation

Disincentivising Cheques

More than a year ago, I blogged about how banks in India were perversely incentivising retail customers to use cheques instead of electronic transfers though the cost to the whole system of processing a cheque is much higher. I also hypothesized that it may well be rational for an individual bank to follow this perverse pricing under certain assumptions about price elasticity of demand.

Now the Reserve Bank of India has put out a discussion paper on Disincentivising Issuance and Usage of Cheques. It discusses at length ways to disincentivize individuals, institutions and government departments from using cheques. I was surprised to find however that there was no proposal to disincentivize the banks themselves. I think it makes a lot more sense to impose a significant charge on the paying bank for every cheque that is presented for clearing. It can be left to the banks to decide on whether (and how) to pass on the charge itself to some or all their customers. The more important purpose of the charge would be to incentivize the banks to educate and incentivize their customers and also to make their payment gateways more user friendly. Why should the charge be on the paying banks? Because, they own the customer who writes the cheque and also because they sit on the float when cheques are used.

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