Could India Be the First to Get Rid of Cash?
"Black money" -- the colloquial name for a vast network of off-the-book cash transactions and unbanked savings -- is one of India's biggest scourges. Amounting to as much as $460 billion a year, bigger than the GDP of Argentina, all that money lies beyond the reach of the tax authorities, creditors and anti-corruption investigators.
Efforts to bring it into the open have struggled. Ironically, though, they may be setting up India to leapfrog past other, far more advanced economies into a future without any cash at all.
India's black money pile is unusually large for several reasons. First and foremost, about half the country's output comes from the small, informal sector, where cash transactions are the norm. Meanwhile, taxes are cumbersome to pay and easy to avoid. To collect revenue, India’s government has to rely on indirect levies such as sales and excise taxes, which are distortionary and regressive, rather than on income tax. Direct taxes contribute only 35 percent of the take in India, compared to the OECD ideal of two-thirds.
Tax evasion has been a hot-button political issue in India for at least a decade. The anti-corruption crusader Arvind Kejriwal -- now chief minister of the Indian capital Delhi -- made headlines when he accused top politicians and businessmen of having illegal offshore accounts. Prime Minister Narendra Modi gave a series of fiery speeches on the campaign trail in 2014 in which he promised to “bring back each and every penny deposited abroad by Indian citizens" and declared that "this money belongs to the poor people of India."
An investigative team of retired judges appointed by Modi handed in the fifth of its reports last week. Like the previous ones, it was full of worthy suggestions. What grabbed headlines, though, were its recommendations that cash transactions of over Rs. 300,000 (about $4,500) be banned and that nobody should be permitted to hold more than Rs. 1.5 million in cash.
While those ideas might sound extreme, some developed countries already have similar laws. Belgium, for example, which has the highest proportion of cashless transactions in the world -- 93 percent of consumer spending, according to a 2013 MasterCard report -- has banned cash payments of over 3,000 euros. And in India, pressure to move away from cash has been building among politicians and regulators.
In a radio address two months ago, Modi tried to persuade listeners to stop using cash. And even the Reserve Bank of India, which tends towards conservative thinking about financial innovation, has come onboard, setting up a joint committee with the government to push cashless transactions. The committee will focus on reducing the cost to consumers of using credit cards, currently around 2 percent of each purchase.
Of course, only when the far more nimble Indian private sector gets involved will this transition gain steam. And that’s the surprisingly good news. The Indian government is also quietly and patiently putting into place, over the next five to seven years, the plumbing that would let the private sector lead India into a cashless future.
Recently, the Indian policymaker and IT billionaire Nandan Nilekani listed some of these changes. Most important, perhaps, is the “unified payment interface” that Nilekani and RBI Governor Raghuram Rajan rolled out last month, which made it easier for Indian consumers to use their mobile phones to transfer money to each other. Nilekani argues that “this will also shift the business models in banking from low-volume, high-value, high-cost and high fees, to high-volume, low-value, low-cost and no fees.”
Rajan, for his part, says “a banking revolution” will add to what India already has -- “the most sophisticated public payments infrastructure in the world." Building on this infrastructure, a host of financial technology startups are trying to reduce transaction costs for Indians. As one such entrepreneur recently pointed out, merely transporting cash to and from villages in India cost about $335 million last year: "We are replacing that truck of cash”.
India’s got a long way to go, to say the least. China already boasts futuristic banks where you can set up an account in a minute, with just a mobile phone number, your national ID number and a selfie. In the U.S., more than 80 percent of consumer spending is cashless.
But there’s good reason to suppose that cashless payments could be adopted much faster in India than elsewhere. It’s the classical example of leap-frogging. India’s many poor people and migrants still struggle to access its chronically inefficient banking system, despite the government's efforts at reform. If presented with an easy and frictionless way of transferring cash, there's no reason to think consumers wouldn't embrace it quickly -- just as most Indians skipped fixed-line telephony to go straight to mobile phones. Smartphone penetration is increasing faster in India than anywhere else in the world.
As cash gets used for fewer and fewer transactions, it will become easier for authorities to crack down on tax evasion. That's why the government should focus more on enabling this transition than on draconian and hard-to-implement laws that threaten tax evaders with years of hard labor. The best way to eliminate black money is to get rid of the money.
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