India’s Unified Payments Interface (UPI) has revolutionised how millions of people transact money digitally. Its frictionless experience, zero-charge interface for users, and growing merchant adoption have made UPI the bedrock of India’s fintech landscape. But beneath this success story lies a complex paradox—one of revenue sustainability and economic incentives for the very players that built the system. At the heart of this paradox lies MDR—Merchant Discount Rate—which has been capped or waived off for UPI transactions, leaving payment service providers grappling with monetisation strategies.
This article explores the roots of this paradox, how it has shaped the financial models of key players like Paytm, PhonePe, and MobiKwik, and what the future holds for India’s digital payment infrastructure.
The Economics Behind Zero-MDR and Its Impact on Fintechs
UPI’s primary success stems from its zero-cost model for users and merchants. Launched in 2016 by the National Payments Corporation of India (NPCI), the UPI protocol allows seamless, real-time bank-to-bank transactions. As UPI volumes skyrocketed—from a few million in its early days to over 11 billion transactions per month in 2024—the government and regulators enforced a no-MDR policy to ensure widespread merchant adoption.
While this made UPI ubiquitous, it posed a fundamental challenge for fintech companies. Traditionally, players like Visa, Mastercard, and RuPay earn revenues through MDR—a small fee paid by merchants for every digital transaction. In the UPI ecosystem, where MDR is effectively zero for peer-to-merchant (P2M) and peer-to-peer (P2P) payments, there’s little room for payment gateways and fintechs to generate transaction-based revenue.
This regulation compelled companies like Paytm, PhonePe, Google Pay, and MobiKwik to rethink their business models. Instead of transaction fees, these players pivoted to cross-selling financial services such as mutual funds, insurance, gold savings, BNPL (Buy Now Pay Later), and credit cards to their large user bases. Some also monetised their platforms via advertising and merchant analytics. But these revenue streams are neither as predictable nor as scalable as MDR.
The Great Tug-of-War: UPI vs Wallets and Cards
In a bid to regain monetisation opportunities, several payment apps began pushing users towards prepaid payment instruments (PPIs) or digital wallets, where MDR is permitted. For example, when users load money into a Paytm Wallet or PhonePe Wallet using credit cards, MDR applies. Merchants accepting wallet payments also incur a fee, enabling revenue for the payment service providers.
This strategy introduced a dual-layered architecture: UPI for mass transactions and wallets/cards for monetisable ones. But the model is not without friction. For users and merchants alike, wallets often require additional steps—adding money, maintaining balances, or understanding different QR codes.
Fintechs like MobiKwik leaned heavily on this strategy, actively promoting wallet-based QR codes to merchants and selectively integrating UPI where monetisation was possible. The move sparked regulatory scrutiny. The RBI and NPCI have clarified that merchants cannot be forced into accepting only wallet-based payments and must offer UPI options without charge.
This tug-of-war between UPI’s inclusivity and wallet monetisation continues to play out, especially as fintechs struggle to justify sky-high valuations amid tightening funding markets.
Regulatory Overhang and Strategic Realignments
The Reserve Bank of India (RBI) has had to walk a tightrope—supporting innovation while maintaining consumer and merchant welfare. Over the years, RBI has imposed strict licensing norms, KYC mandates for wallets, caps on interchange fees, and lately, movement towards a level playing field for various payment instruments.
In March 2023, NPCI proposed levying an interchange fee of up to 1.1% on UPI transactions done via PPIs for transactions above INR 2,000. This created a storm. Critics argued it would hurt the small merchant ecosystem, while supporters claimed it would bring long-overdue monetisation for fintechs. Eventually, the policy was implemented but with nuances: the fee applied only to PPI-UPI transactions and was optional for merchants.
These shifts forced fintechs to rewire their strategic priorities. Some, like Paytm, doubled down on financial services—offering credit through their NBFC arms, issuing co-branded cards, and expanding insurance distribution. PhonePe invested in building its Indus Appstore and launched financial services verticals, betting on long-term user monetisation. Others like MobiKwik consolidated their wallet offerings while waiting for regulatory clarity on MDR.
The Road Ahead: Can Fintechs Build Sustainable Models?
The Indian digital payments industry stands at a crossroads. With over 300 million active users and millions of merchants, the sheer volume of UPI transactions presents enormous opportunity. But the zero-MDR regime acts as a revenue ceiling.
One path forward could be tiered MDR structures—where small-ticket transactions remain free, but high-value merchant payments incur a nominal fee. This would allow platforms to monetise without hurting inclusion. Another could be interoperability reforms where a single QR code accepts UPI, cards, and wallets—ensuring fairness and user ease.
Fintechs are also betting on credit—offering personal loans, SME working capital, and credit cards through UPI rails. With the RBI greenlighting RuPay credit card-UPI linkage, this could unlock new MDR income streams. Embedded finance and contextual lending via UPI apps also promise revenue growth.
Ultimately, the future of India’s digital payments lies in balancing scale with sustainability. If fintechs can harness their massive user bases for personalised, consent-driven financial products, they may not need MDR to survive. But until that equilibrium is achieved, the paradox will persist—UPI growing without paying its builders.
