TL;DR
Cash retains its full value through each transaction, while digital payments decrease in value due to transaction fees, benefitting banks and networks. Cash promotes financial equity, challenging the narrative that digital payments alone support financial inclusion.
Executive Summary
The debate between cash and digital payments is more than just a matter of convenience. While digital payments are hailed for speed and ease, they carry hidden transaction costs that drain value at every step, which benefits banks and payment processors rather than consumers or small businesses. Each time a payment is made through a digital network, transaction fees reduce the overall value, enriching the intermediaries involved. In contrast, cash keeps its full value across transactions, allowing for direct exchanges of complete worth between individuals and businesses. This article explores the economic implications of cash versus card payments, why cash’s full-value retention is significant, and how digital fees challenge the narrative of financial inclusion.
Introduction
As digital payments have gained traction, they’ve often been framed as the future of finance, offering convenience, speed, and support for financial inclusion. But an important question arises: at what cost? Proponents of digital transactions rarely discuss how each transaction slowly erodes the amount of money moving through the economy due to the cumulative impact of transaction fees. By the time digital money circulates across multiple entities, its initial value has diminished—enriching banks and payment networks but draining resources from everyone else involved.
Cash, on the other hand, maintains its value regardless of how many hands it passes through. In this way, cash promotes true financial equity by ensuring that individuals and businesses alike retain the full amount they exchange. Here, we’ll examine the fundamental differences between cash and digital card payments and explain why cash often remains a superior choice for retaining value and supporting an equitable economy.
The Resilience of Cash in Retaining Value
Consider a $100 bill. When it’s used in transactions, the entire value of that $100 bill transfers from one person to another without any deductions. For example:
- Initial Payment: A customer spends $100 at a local restaurant.
- Business Payment: The restaurant owner then uses that $100 to pay for a linen service.
- Supplier Payment: The linen service then uses that $100 to cover supplies from a dry cleaning product supplier.
- Rental Payment: The supplier, in turn, uses the $100 to pay rent.
In each of these transactions, the $100 retains its complete value, creating a stable chain of full-value exchanges that benefits everyone involved. Cash has an inherent resilience in that it passes through the economy without deductions, a feature that contributes to economic stability by preventing wealth erosion at each transaction step.
In this model, cash facilitates a transparent and straightforward flow of money, supporting a more equal financial ecosystem where every dollar keeps its worth, making it an ideal instrument for local economies and cash-based businesses.
The Erosion of Value in Digital Payments
Now, let’s imagine the same $100 payment as a digital transaction through a credit card or payment network. Every time it moves from one person or business to another, a transaction fee is deducted—often around 3%. With each transfer, the value of that initial $100 diminishes:
- After the first transaction, only $97 remains,
- After the second, $94.09,
- After the third, $91.26,
- And so on.
Ben Milne, founder of the payment platform Dwolla, once illustrated this effect by noting that in a traditional payments network, a $100 amount reduces to zero after around 78-79 transactions. Each payment erodes value due to these fees, which ultimately enrich financial intermediaries at the expense of everyone else. As the digital transaction cycle continues, more and more of the initial amount is absorbed by transaction costs, draining economic resources from consumers, small businesses, and local economies alike.
This effect, compounded over millions of transactions in the economy, means digital payments create a continuous flow of revenue toward banks and payment processors. For those who depend on each dollar, the cumulative loss can be significant. Small businesses, in particular, feel this impact heavily, as they are the ones least able to afford the consistent reduction in revenue.
Who Truly Benefits from Digital Payments?
The narrative around digital payments tends to focus on the idea of “financial inclusion,” positioning these transactions as a way to empower the unbanked and underserved by bringing them into the financial system. But the cost of this inclusion isn’t often discussed. Each transaction introduces a hidden cost that benefits banks, payment processors, and card networks rather than the consumers or small businesses who rely on their earnings.
Financial institutions and credit card companies gain substantial revenue from these transaction fees. For instance, when consumers buy goods, a portion of each sale—typically around 2-3%—is redirected from merchants to payment processors and financial institutions. Over time, this model accumulates billions in revenue for the financial industry, siphoning value away from the broader economy and especially from local, small-scale transactions.
Cash as a Vehicle for Financial Inclusion
Cash offers universal inclusivity that requires no digital infrastructure or fees, which is particularly beneficial in rural or underserved areas where bank access may be limited. By allowing transactions without third-party interference or fees, cash supports an equitable system of exchange, where every participant retains the full value of what they spend or earn.
This is especially valuable for low-income individuals who may not meet the requirements for credit accounts or digital banking, or who might not have consistent internet access to use online payment networks. Cash, as a physical medium of exchange, enables financial freedom and independence without hidden costs, supporting a level playing field in economies worldwide.
For small businesses, cash also offers a relief from the cumulative expense of transaction fees, allowing them to operate with a greater share of each sale. Many cash-based businesses, such as local shops, vendors, and service providers, depend on the direct and transparent nature of cash to maintain profitability, while digital transaction fees would otherwise take a significant portion of their income.
The Role of Cash in Economic Stability
As digital payments expand, it’s critical to recognize that cash still plays a stabilizing role in our economy. Unlike digital payments, which continuously depreciate in value with each transfer, cash creates a closed-loop system that maximizes economic efficiency. By preserving value across transactions, cash can mitigate inflationary pressures caused by transaction costs, as every dollar retains its full worth in every exchange.
Moreover, cash doesn’t contribute to debt accumulation in the same way that credit-based transactions do. Digital payments often rely on credit, making it easier for individuals to overspend and accumulate debt, whereas cash inherently limits spending to what is physically available. This distinction has long-term implications for both personal and national financial health.
Conclusion: Cash Remains King
While digital payments offer undeniable convenience, the power of cash to retain value across transactions remains unmatched. Each digital payment incurs a fee that slowly erodes its worth, enriching intermediaries but diminishing value for consumers and small businesses. Cash, in contrast, offers a transparent and equitable exchange medium, supporting a stable economic ecosystem by maintaining value and promoting independence from banking networks.
As the global economy becomes increasingly digital, it’s important to consider the hidden costs that come with this shift. Cash plays a crucial role in preserving value, supporting economic equity, and providing a reliable means of transaction for those who need it most. Despite the convenience of digital payments, cash’s stability and resilience make it a vital component of an inclusive and sustainable financial future—proving that cash is, indeed, still king.
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This page was last updated on November 11, 2024.
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