Lunch in Manhattan sandwich shops used to be a cash-and-carry affair, but changes are in the works. Many establishments prefer that you swipe your card or wave your phone. A select few are turning down cash entirely due to security concerns or to keep the lines moving. Over in Shanghai, vendors in dress shops, fruit markets and newsstands will often do a double-take if you don’t use one of the two popular payment apps.
Welcome to a brave new world of consumer commerce, where electronic payment is becoming increasingly common, at smaller and smaller denominations, and in many cases completely replacing cash as the tender of choice. How have we arrived here, and what are the potential ramifications both generally and for investors? We take a quick tour in this article.
Cashless Trend Is Growing, Particularly in Emerging Asia
Number of Non-Cash Transactions Worldwide (Billions)
Source: Capgemini Financial Services Analysis, 2018; ECB Statistical Data Warehouse, 2016 figures released October 2017; BIS Red Book, 2016 figures released December 2017; countries’ central bank annual reports, 2017. This material includes estimates, outlooks, projections and other “forward-looking statements.” Due to a variety of factors, actual events may differ significantly from those presented.
Electronic Payments Taking Market Share
Global Electronic Payments (% of Total Value)
Source: WorldPay. This material includes estimates, outlooks, projections and other “forward-looking statements.” Due to a variety of factors, actual events may differ significantly from those presented.
Developed Markets: Many Ways to Pay
The story of cashless adoption has varied widely across regions and countries. Sweden is way ahead of the cashless curve, Germany toward the back and the U.S. at about the middle.
American consumers have used electronic payments for decades, starting with store cards, and then charge cards like American Express, before moving to cards providing revolving credit, initially through the MasterCard and Visa networks that remain ubiquitous today. The 1990s saw the start of electronic banking, and the explosion of the Internet moved web payments from novelty to necessity, particularly as Amazon and other aggressive online vendors undercut brick-and-mortar competitors. The introduction of debit cards was a huge step forward, as it made electronic transfers available to anyone with a bank account balance. Then, of course, came smartphones, and the introduction of Apple Pay and a host of other payment and retail apps, which continue to add new ways to transact.
There have been starts and stops along the way. As a recent example, despite wide acceptance at stores, U.S. consumers just haven’t come to use smartphone payment apps that often. In our view, this is likely because the apps don’t provide a real improvement in the user experience. Theoretically, passing your phone above a reader should be quicker than swiping or waiting for approval for a card chip. But people often stumble in getting apps to work or to access dodgy readers. Whether to avoid embarrassment or hassle, or simply because of inertia, they don’t mind just using a regular credit card at the checkout counter.
More broadly, although the percentage of transactions in cash has dipped over the last decade, its use remains stubbornly persistent, and the dollar value has actually been increasing. In part, this is due to saturation. Electronic transactions were already common before the new wave of technology, and current payment infrastructure makes it more difficult to get people to change their habits. However, another key issue supporting cash is the challenge of smaller payments. Most people don’t think twice about using a credit card to buy a $500 television, but they balk when it comes to a Happy Meal or their dry cleaning. That will likely change over time, as card issuers and networks push their use at more points of sale and as merchants stop flinching at electronic payment for smaller items, making consumers more comfortable in the process.
Cash Still Dominates Small Payments
Payment Method by Purchase Amount (U.S.)
Source: Federal Reserve, November 2017. Data as of 2016.
A key turning point could be the contactless card. Traditional swiping cards are convenient but vulnerable to identity theft, as the information on magnetic strips is easily duplicated and sold. Chip-equipped cards are more secure, but tortoise-like, as information is sent from the merchant’s reader to the payment processor and then verified once again after a return trip to the reader. However, the new breed of contactless and tapping cards has the same level of security as a chip but they tend to be much faster, and their successes for specific purposes like transportation in Australia and the U.K. are reassuring. Importantly, JPMorgan Chase recently announced that it would soon begin issuing contactless cards, and other banks and payment networks are looking to push these products this year as well. Although this may steal some thunder from mobile apps, it does point to a continued decline in cash usage.
How do Mobile Shoppers Spend Their Money?
Source: Statista, based on December 2017 survey. Participants were asked what types of apps they had used in the past three months to pay for goods or services via mobile phone.
Cashless Clarity:
Terms to Know
Charge Card: Purchases on credit, which must be paid off at the end of each billing period.
Credit Card: Allows consumers to maintain a balance, at the cost of a typically high interest rate.
Magnetic Strip Card: Card sends your account information to the processor for approval; security risk is contributing to phase-out.
Chip-Embedded Card: After the processor receives your card’s information, it sends a signal to confirm that your card is legitimate. Annoyingly slow, but secure.
SMS Payment: Payment via text message from a mobile phone. The text goes to the payment provider, which clears the transaction.
Micropayment: Electronic payment involving a small dollar amount (under $12, according to Paypal). These transactions are often handled via SMS.
QR Code: The square pattern that Apple Pay and other payment apps use to execute transactions. Common, but underused.
Contactless Card: A chip card that you tap on or hold over a radio receiver at the counter. Quick, secure and card issuers’ answer to QR technology.
As noted, the U.S. is somewhere in the middle in terms of electronic payment adoption. Far at the front is Sweden where cash represents just 1% of the economy, compared to 8% in the U.S. and 10% in Europe overall, and where just 20% of Sweden’s consumer transactions are in cash, compared to 80% globally.1 The country’s small, tech-oriented population has long been accustomed to electronic payroll and heavily uses credit cards, while a bank-sponsored mobile payment app called Swish, which facilitates electronic payments between accounts, has become hugely popular. Now, many bank branches don’t hold any cash, and about half of merchants say they’ll probably stop accepting it by 2025.2
In contrast, Germans have long had an affinity for bills and coins, carrying an average of €109 in their wallets compared to €69 in Italy and €32 in France; 80% of transactions in Germany are still handled in cash.3 This may in part be a function of national pride within Europe’s economic powerhouse, or suspicion of electronic transfers. Japan has also been a laggard in adoption, with more than four times the bank notes and coins per resident than nearby South Korea, due not only to tradition but low crime rates, which make holders of cash feel less vulnerable.4
Leapfrogging in Emerging Markets
In emerging markets, the story has been less about converting customers than creating whole new markets where there was little or no existing infrastructure. In China, commercial banks were historically reluctant to serve retail customers, debt was frowned upon and credit cards were virtually nonexistent. So, when the smartphone craze led to new payment methods, the door was left wide open to innovation. As a result, China has moved from an almost exclusively cash-based economy 15 years ago to one where roughly 60% of transactions (by value) are handled via mobile payments.5
This has coincided with intense motivation to achieve broader e-commerce goals. Faced with antiquated payment methods, Chinese e-commerce giant Alibaba created AliPay in 2004 as an escrow system for its dominant consumer-to-consumer digital platform. In recent years, this has morphed into a mobile payment app where customers scan a square-shaped QR code to instantly transfer funds to any vendor with an AliPay account. Then there’s WeChat Pay, which was released as an offshoot of Tencent’s popular social network, WeChat, and immediately gained a wide user base. Today, it has some 820 million monthly users, while Alibaba has more than 900 million.6
China’s Mobile Payment Explosion
Volume |
Market Share |
Source: Hillhouse Capital (left), as of December 2017, Analysys (right), as of June 2018.
Another prominent example of leapfrogging in underserved markets is M-Pesa, a mobile-phone based money transfer, banking and microfinancing service that was launched by Vodafone in Kenya in 2007. (“Pesa” is Swahili for money.) Users make deposits in accounts on their cell phones, and then send payments to each other via secure text messages, which can then be redeemed in cash. In a region with limited credit or banking services, M-Pesa has grown quickly. Today, about 40% of the Kenyan population has accounts, and the M-Pesa serves some 30 million customers in 10 countries in Africa, the Middle East and Eastern Europe.7
Although circumstances vary across emerging markets, the growth of cashless transactions is also being aided by younger populations, who may be more willing to try new technologies, and by a governmental interest in curbing corruption and bringing the black market economy onto tax rolls. In 2016, India famously banned the use of its two largest cash denominations in a move that generated short-term chaos before the vast majority of the bills found their way into banks. In Korea, bribery has been a major concern, so the government has been actively encouraging adoption of mobile payments. The stories vary depending on country, but the trends of government interest, demographics and demand are common to many.
Investment Considerations
Although adoption has been uneven, it’s likely that the cashless trend will continue, with real implications for investors. In our view, for example, the move to digital payment continues to be a tailwind for leading payment processors in developed markets. Companies that supply successful payment apps, whether through hardware or a larger ecosystem, are also likely to do well, although their payment operations may be a modest component of overall earnings. In some cases, payment businesses may be in place to achieve broader business goals like data mining. For example, if Amazon captures more information through its payment systems, that helps connect the dots in building customer profiles and narrow-casted advertising. Traditional banks may be vulnerable due to broader changes in regulation and advancing technology, but many are entering alliances or absorbing non-traditional players to deal with a changing payment environment, and may actually benefit from cost savings tied to reduced infrastructure needs. Across the board, security is an important issue that will provide business for fast-moving players. There are some potential losers, naturally. Traditional cash money-transfer businesses face declining margins due to mobile competition, while ATM manufacturers may struggle as banks delay upgrades to pay for higher priorities.
At this point, it is unclear whether most economies will ever become truly cashless. Bills and coins remain a highly convenient means of exchange, whose value isn’t reliant on a computer or algorithm, isn’t vulnerable to hacking and can’t be undermined by deflation or negative interest rates. People are creatures of habit, and the habit of using cash for the very smallest of purchases may be difficult to break. Still, to us the move toward cashless transactions is a meaningful thematic trend, particularly in emerging markets, that should provide investment opportunities for years to come. The trick, as always, is to identify the potential beneficiaries, whether direct or indirect, as well as those who could be run over or rendered obsolete in changing times.
Debating Cashless’ Merits
As we move toward a cashless (or semi-cashless) world, important social issues are coming into focus:
What about the vulnerable? The poor, elderly and disabled depend disproportionately on the use of cash and may not have the bank accounts or smartphones needed for electronic purchases. Already, some stores and restaurants are turning down cash, which critics argue further stigmatizes disadvantaged groups. A counterargument is that new services can reach these groups, and that in less-developed markets, mobile payment is actually benefiting many who previously could not access banks at all.
Is privacy out the window? Most of us have already acquiesced to constant monitoring via web searches, cell phones, discount programs and credit card purchases. Expansion of electronic payment is just continuing down the same road, albeit with increased specificity. For the deeply concerned, there are time-consuming ways to limit information-sharing. Potentially more impactful is the growing interest in regulating privacy overall, which could eventually result in more stringent safeguards for users.
What about security? Making digital commerce secure is a constant struggle, and one that’s not limited to mobile apps or text-based systems. Late last year, Marriott announced that 500 million customers’ data had been compromised, and this followed other notorious examples like the Equifax breach. In countries where there are more electronic payments, there has also been a commensurate increase in digital fraud. On the upside, the lack of cash tends to reduce vulnerability to ordinary theft. Long story short, this issue won’t go away.
Is ‘cashless’ a net positive or negative? The cashless trend should make transactions more efficient, and in many countries is providing value to previously underserved populations. Although replacing bills with electronic signals is probably a neutral in narrow economic terms, it is also facilitating digital commerce, which is a big potential driver of global growth. All told, the market will likely reach equilibrium eventually—if electronic commerce leaves out certain groups or doesn’t work in certain contexts, then demand should carve out a portion of the economy where hard currency remains in place.