Due to the extortionate costs of today’s digital financial services (specifically for low value transactions), cash is widely perceived as free, and thus used as a payment tool by the poorest individuals. This misconception must be addressed, and digital services must provide for those at the bottom of the pyramid who are suffering most from the hidden losses and costs associated with a life reliant on physical notes and coinage.
Cash is still king in the developing world. Despite the success of M-Pesa in Kenya, the average transaction size over this service remains at $27. Carrying high minimum fees, the most frequently occurring merchant transactions (under 1 dollar) would carry a transaction fee of up to 10% when executed digitally across these services.
Why? Costly and complicated legacy financial infrastructure render low cost transactions expensive for the operator thus expensive for the end user. With the exception of occasional larger value remittance transactions, digital financial services remain out of reach for the billions of people across the world living on $1-2 per day.
Looking at the impact of cash on individuals and society we can identify a number of key issues.
The sole reliance on physical cash locks an individual out of the formal and global economy, and the opportunities it presents. Individuals are hard pressed to finance a small business or purchase a vehicle because of the lack of a “digital history” that allows lenders to create a risk profile for lending. Savings are stashed under mattresses, at huge risk from theft. Even small household cash flow spikes can be disastrous because of the inability to safely store value. Informal community savings groups exist, however demand high re-pay rates and leave households vulnerable to loss. Even the most intelligent, entrepreneurial minded individual will be unable to step out of poverty without access to basic financial services.
Transactions in physical cash do not carry an immediately identifiable transaction fee. This has led to the common misperception that cash is free. Despite understanding the security risks of carrying cash and the lack of access to financial services, the principal and least recognized downfall associated with cash is the actual losses and costs associated with accessing it.
Tufts University has conducted extensive research into the cost of cash across developed and developing economies. The results are clear – those hardest hit by the hidden costs of cash are the poorest. In Mexico alone, the costs of access to cash represents around MXN 2.3 billion (USD 125 million) and 48 million hours of time every year. And furthermore, this number excludes all other means of loss associated with holding cash; petty crime, loss, corruption, and the opportunity cost of cash not held in an interest bearing account.
For the poorest individuals the cost of travel and the time lost in reaching the cash access point is highest. An average Mexican loses around USD 1 per month. In the US, people spend 28 minutes per month accessing cash, with the lowest income individuals spending on average 5-10 minutes longer. Specifically those with no bank account or unemployed. This time and money lost travelling to and queuing at a cash access point, as well as paying the access fee results in a huge loss of productivity.
If these costs were to be calculated into a “cost per transaction”, it would become obvious that cash is clearly not the cheap option we all perceive it as. And certainly not for those who rely on it most heavily.
Furthermore, it is important to recognise the costs to the government. On a macroeconomic level, producing, securing, and distributing physical notes and coinage costs around 1–2% of GDP in developed countries, and 5–7% of GDP in developing countries. These costs may seem invisible but are in reality a huge burden on the economy.
Today, cash may be the cheapest option but it certainly isn’t free. Looking to the future of a cash lite society, we can identify three key steps that must be taken: the first is the significant reduction in transaction fees and provision of a service that can process true micro transactions digitally – even less than $0.01. The second is the creation of a fully interoperable digital ecosystem through the central bank issuance of a national digital currency. Thirdly, we must consider the use of an extremely efficient and secure technology that is able to power the transactions of entire national economies.
It is unlikely in the near future will see total eradication of physical cash, however the benefits associated with the introduction of a widely used digital payments systems will be huge: lowering the barrier to access financial services, stimulating financial inclusion, and adding huge value to a country’s economy.
Disclaimer: Blog posts reflect the views of the respective authors, and do not necessarily represent the official view of Monetas.