India's King Cash Must Abdicate

Currency in circulation is almost 10 times what it was 17 years ago. Smartphones will change that.

Why do Indians love assets that yield nothing? Three years ago, it was their passion for hoarding gold that brought the country to the brink of a full-blown financial crisis. Now, it's their lust for cash that's hobbling the banking industry. 

In its annual report released late Monday, the central bank blamed an "unusually high and protracted" demand for notes and coins for slowing down the velocity of money, or the pace at which commercial lenders make fresh loans, which in turn become new deposits for the banking system and lead to further credit expansion.

When Cash Is the Enemy of Money

Growing cash usage in India may be moderating money supply, RBI's annual report says

Source: Bloomberg

But while the Reserve Bank of India pinned the blame on blips like elections (cash buys votes like checks never can) and a jewelers' strike (money earmarked for wedding trousseaux can't return to banks if it's never spent), it isn't at all apparent that the country's excessive use of currency is a wrinkle that will vanish over time, and on its own.

Cooling India's ardor for paper money needs a helping hand from technology. And with the tools slowly falling into place, expect fintech start-ups to begin nudging king cash toward abdication.

As things stand, Indians are using far more notes and coins than is healthy. Currency in circulation is more than nine times what it was 17 years ago. Meanwhile, China's yuan pile has increased less than sixfold, even though the mainland's economic expansion has outpaced India's by a factor of two:

India Uses Far More Currency Than China

Compared with 1999, notes and coins in circulation are more than nine times the smaller economy

Sources: RBI, IMF, Bloomberg

By not embracing large-scale manufacturing with the same zeal as China, India may have pushed its workers toward employment in tiny businesses that are more likely to operate on a cash-only basis so as to avoid paying taxes. Besides, Indian banks have done a lousy job of weaning people off paper money. Although ATMs have proliferated, with cash withdrawals growing by 20 percent annually, debit cards haven't taken off.

Smartphones, however, are changing everything. Non-state-owned banks that have invested in mobile banking are streets ahead of slothful government-run lenders. HDFC Bank, for instance, handled $31 billion in electronic payments last month. That's four times as much as Punjab National Bank, a state-controlled lender of comparable size, and in striking distance of State Bank of India, which is a much larger lender by assets.

Slow Tech Embrace

HDFC Bank handles nearly as much in electronic payments as State Bank of India, which has four times the former's total assets*

Source: National Payments Corporation of India

*National electronic fund transfer data for July 2016.

But the biggest assault on cash probably began last week. A unified payments interface, which is now live, will enable instant movement of cash from one mobile phone to another, using virtual payment addresses linked to any account at 21 participating banks. With more than 300 million mobile internet users already, even small-ticket payments to individual vendors like fishmongers and fruit sellers may go cashless.

The change could bring considerable relief to banks. As the RBI noted in its annual report, for the first time in recent years, the acceleration of currency demand has had a damping effect on money supply.

Economists can keep speculating about whether Indians' love for zero-yielding assets is irrational or sensible. Lenders, though, would loathe for paper money to become the country's new gold, hampering credit. Banishing cash from its kingdom should be India's top priority.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

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    Andy Mukherjee in Singapore at

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