As India moves to curb its cash-driven economy, will it pave the way toward a more digital economy?

Cash is king in India. More than half the population does not have access to the formal banking system and only a small percentage of the population uses credit or debit cards. The average number of card transactions per inhabitant is a mere 6.7 compared to China (14.4), Brazil (54.8) and the UK (201.7), according to a recent RBI report.

Only 15% of online or point of sale transactions take place using credit or debit cards. This compares with the 88% that use cards to withdraw cash at ATMs.

Many would argue that this was one of reasons India avoided the worst of the banking crisis of 2008-9.  However, a cash-driven economy has its downsides.  The shadow economy and black money circulation is high in India.  The black economy is estimated to be around 25% of GDP, with some estimates as high as 40%. 

It is believed the majority of black money is held in the form of gold, stocks, real estate and foreign currency - ultimately resulting in price rises across many sectors. This has disrupted the social fabric with an increasing divide between the haves and the have-nots.

But will India’s sudden demonetisation of 86% of its currency change this?  Will it curb the black economy and bring people and businesses into formal banking?  Will it pave way to digitization and digitalization?

It will boost tax intake and re-capitalize banks as money finds its way back to formal banking system.   Increased tax intake will help shrink the nation’s fiscal deficit, thereby lowering inflation. With money flowing into banks as deposits, the banks can make loans cheaper with reduced interest rates - boosting the business sector. If all goes well, this is the expected long-term benefit.

The immediate and short-term effect is quite different; the sudden removal of cash and restrictions on supply will adversely hit everyone who depends on cash to conduct day-to-day activities. People have already stopped spending money for fear of running out of it.

Local shops, buses and taxis that operate on cash have experienced a drop in customers. Businesses in the informal economy could suddenly no longer operate. The growth of GDP is expected to crash from 7.8% to 6.8% in the second half of the year.  People and businesses are now forced to move towards a cashless economy.

It is very hard to gauge the impact of sudden contraction of informal/black money on a formal economy. If most of the informal money is resting as cash or gold and not being circulated then demonetization will have minimal impact on money supply. But if it is otherwise, and black money circulation was greater, then it will significantly impact money supply within the economy.  For the greater good, demonetization must be a success and a rise in a cashless economy will need to fill any void left by lack of cash.

The availability of digitization and digitalization and the take-up amongst SMEs, as well as large enterprises and all tiers of society, is now very important.  Digitalization should make services faster, cheaper and more accessible to people and business along with making them formal and accountable.  Thus, diminishing the need for an informal sector.

The smartphone market in India is one of the fastest growing in the world with exponential growth potential, says Gartner.  For millions of people, smartphones act as the gateway to access the digital world.  SMEs as well as large enterprises have been exploiting this trend and generating revenue by offering products and services through digital media.

NASSCOM, a non-profit association in the IT-BPM sector, estimates market growth driven by SMAC (Social, Mobile, Analytics & Cloud) to be $1 trillion by 2020. India has more than 40 million SMEs contributing to almost 40% of its GDP who are ready to exploit the opportunities presented by integrated platform of SMAC technologies.  Demonetization should now act as an accelerator for the growth of this sector.

However, to exploit this opportunity - and for sustainability - enterprises should undergo a digital transformation of their business. They should rediscover their business processes, digitally complemented by advanced analytics and enterprise level integration platforms. Then we can watch demonetization turn into digitalization.