Bringing back black money and reducing the size of the shadow economy are a key part of the ruling Bharatiya Janata Party’s (BJP) agenda. One way of reducing corruption and tax avoidance is to go cashless. Towards this end, the BJP-led National Democratic Alliance government has suggested tax breaks for consumers and merchants using credit/debit cards, lower transaction fees for electronic payments, making high-value transactions mandatory through electronic means and imposing a levy on cash payments above a certain value.

These proposals are not a moment too soon. As the chart shows, the demand for cash in India is high in comparison with other large economies. Currency in circulation in India amounted to 13% of the country’s gross domestic product in 2013-14, way ahead of advanced economies. Even fellow emerging economies such as China and Brazil have lower cash circulating as a percentage of their economic output.

To be sure, developing nations in general have higher demand for cash simply because there is a higher proportion of unbanked people in such countries. According to the World Bank Financial Inclusion Database 2014, about half of India’s population doesn’t have access to a bank account. The Jan-Dhan Yojana, which has seen about 16.27 crore accounts opened in the last 10 months, will go some way towards addressing the problem.

The second reason why cash is predominant in developing nations is because these are economies in transition. Increased monetization and commercialization (for example, selling agricultural produce for cash where previously one would barter with a neighbour) lead to a high demand for cash in circulation. African and Latin American nations, home to emerging and so-called frontier markets, have seen the fastest growth in cash demand in recent times, according to a speech by K.C. Chakrabarty, former deputy governor of the Reserve Bank of India (RBI) at the Banknote Conference 2014. At the same time, however, alternative methods of payments are gaining popularity in India.

Incentivizing cashless transactions is a good step as can be seen from the example of South Korea, which gives similar sops and has among the lowest cash usage in the world. Besides, there is a high cost attached to using cash. As the chart shows, India has one of the highest numbers of notes in circulation. At the end of 2013, there were more rupee notes floating around than euros and US dollars combined.

The cost of producing these notes is substantial. According to Chakrabarty’s speech, RBI itself incurred expenses of 2,872 crore in 2012-13. Its printing presses had expenses of 4,700 crore, mainly owing to the cost of paper and ink. Tot all this up and it comes close to the GDP of Mizoram. Clearly, there are more benefits to eliminating cash than just curbing black money transactions.

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