Royal Economic Society

HOW FAR TOWARDS A CASHLESS SOCIETY?

Are we headed for a cashless society, where all payments are made by cards via the technology of EFTPOS (electronic fund transfers at point of sale)? Not necessarily, according to Sheri Markose and Yiing Jia Loke, writing in the latest issue of the Economic Journal. Their research indicates that the low cost of getting cash from an ATM (automated teller machine) means that cash can hold its own and even enjoy a resurgence when interest rates are low.

Innovations in payments system underpinned by an electronic technology are transforming the monetary landscape of many countries, the researchers note. But the potential technology-driven substitution of cash by card payments raises a number of crucial issues for monetary policy-makers. In particular, the decline in transactions balances of cash is governed by the rate of adoption by consumers and merchants alike of card payments facilitated by EFTPOS.

Adoption of a ‘network good’ such as a new payments medium in an economy depends on mutual expectations of providers and users of the goods. Thus, against the status quo of a fully versatile currency, consumers will be encouraged to adopt card payments only if they expect a critical mass of merchants will accept it in lieu of cash. Similarly, merchants will hesitate to subscribe to EFTPOS links unless they expect a growing proportion of retail expenditures to be card-financed by consumers.

Using analysis of this kind, Markose and Loke throw light on the complex dynamics between the four crucial elements that characterise the modern ‘cash-card economy’:

deposit interest rates; the number of merchants with EFTPOS facilities; the proportion of retail expenditures that are card-financed as opposed to cash-financed; and the keen cost competitiveness in the ATM provision of cash. It is last element that drives the balance between the two competing payments media, cash and card. At the margin, both media can co-exist only if their user costs are equal.

This produces two important features of the analysis. First, the interest rate elasticity of cash-card substitution is a function of the level of EFTPOS adoption in the economy and this elasticity is very high at low interest rates. This may result in perverse effects from attempts to contract (expand) bank credit and liquidity by raising (lowering) interest rates.

Second, the cost competitiveness of ATM cash provision suggests that cash can hold its own and even enjoy a resurgence when interest rates are low.

Further, the researchers argue that the slowdown in the growth of monetary base is governed by the levels of EFTPOS adoption and the relative network costs of cash and card use. Using historical payments data from the Bank of International Settlements and the European Monetary Institute from 1990-8, they devise a methodology to estimate the level of EFTPOS adoption in an economy.

ENDS

Notes for Editors: ‘Network Effects on Cash-card Substitution in Transactions and Low Interest Rate Regimes’ by Sheri Markose and Yiing Jia Loke is published in the April 2003 issue of the Economic Journal.

Dr Markose is Director of the Institute of Studies in Finance at the University of Essex, Wivenhoe Park, Colchester C04 3SQ; Loke is at Universiti Sains Malaysia.

For Further Information: contact Sheri Markose on 01206-872742 (home: 01206-853037; fax: 01206-872724; email: scher@essex.ac.uk); or RES Media Consultant Romesh Vaitilingam on 0117-983-9770 or 07768-661095 (email: romesh@compuserve.com).