Is this the end of cash as we know it?

published 27 June 2007

What is digital money?

In short, an electronic payment method that doesn't involve cash or the magnetic-strip swipe cards we're all used to. Best known is the Oyster card used on London's tubes and buses, a classic example of a successful contactless or "wave-and-pay" solution. For years, futurologists have been making predictions about the demise of physical cash, but, in reality, that's not going to happen soon, even if Londoners finally start using their Oyster cards to buy newspapers and coffees. Notes and coins might make up only a small fraction of the money in circulation in rich countries, but judging by transaction volumes, rather than value, cash is still king. For example, in the UK, 89% of transactions under £10 are for cash.

Because the technology involved in delivering cash-free payment systems has advanced significantly in the last few years, bringing the prospect of a cashless society several steps closer. We are talking about Oyster-style smart cards and also the numerous payment technologies using mobile phones that are already being used successfully in Japan and across Asia. Right now, cashless transactions are a small chunk of overall global sales. However, according to a recent study by US-based research firm Aberdeen Group, we are about to arrive at a tipping-point. Their data shows that 58% of retailers plan to introduce contactless payment systems by the end of 2008. Digital cash might be about to solve its chicken-and-egg problem.

For digital cash to take off, there has to be something in it for both retailers and consumers. Digital cash has the advantage of speed. A Visa study found that, on average, digital transactions take half the time of cash. For retailers, these transactions have another attraction: research shows that customers who are not restricted by the cash they happen to have in their wallet typically spend 20% more. However, up until now, shopkeepers have not invested in electronic cash systems unless their customers have had electronic cash to spend. Shoppers, conversely, don't want electronic cash if they can't spend it. What has changed is cost: smart cards and readers have become cheap, and mobile phones are commonplace even in poor countries, making cashless systems both useful and viable.

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In summary, the contactless card (or other device) has an integrated chip holding personal account data, plus an antenna that is activated by a magnetic field around a separate reader. Activation allows a short exchange of data, such as updated account details. That is broadly how Oyster cards work but it is also in essence how mobile-phone payment systems work. The devices are so cheap to mass-produce (costing a few pence each) that they can be built into every mobile phone. If just a phone will do, why carry lots of plastic? Mobiles have plenty of other advantages as payment devices, too.

Added security. If you lose your smart card, you stand to lose at least some money (albeit in small amounts). Mobile phones, on the other hand, can be locked remotely if lost or stolen. What's more, they have a screen that can show useful information, such as a credit balance or product details; a keyboard to enter PIN codes; and they can be topped up from an online account without the need for the kind of in-home, chip-and-pin machine currently being rolled out by some UK banks. To date, cellphone-based payment systems have taken off fastest in Japan, where NTT DoCoMo and Sony collaborated on a simple system that is used daily by tens of millions of shoppers. However, mobile phones may make their greatest impact in the developing world, where they offer a basic banking service to people who currently can effectively have no access to one.

Efforts to promote widespread use of mobile phones as payment devices have so far foundered across Europe, in part because different mobile operators use different and incompatible systems. Better co-operation and the adoption of industry standards should change that. The prospect of digital cash is much closer. Card companies reckon card-based systems will be commonplace within 18 months. Visa, Barclaycard and Mastercard are all launching versions known as "Touch & Go" or "Wave & Pay" in the UK later this year. In addition, Barclays is working with Transport for London on a piece of plastic that combines an Oyster with a Visa card, and a wave-and-pay Visa for small transactions.

Just as banks and credit-card companies currently charge retailers for the use of credit cards, they will want to collect fees from the users of contactless payment systems. But what happens if consumers decide to bypass the banks by loading up cash on their mobile phones and settle up direct with the phone company, rather than using a Visa or a Maestro? Perhaps all will go smoothly: phone companies may not be keen to take on greater financial risk by letting customers use their phones for high-priced goods, just as banks may wish to keep their contactless offers simple and secure for low-cost items only. But that scenario is far from certain. Might there come a day when we don't need banks as much as we do now?

Simon Wilson’s first career was in book publishing, as an economics editor at Routledge, and as a publisher of non-fiction at Random House, specialising in popular business and management books. While there, he published Customers.com, a bestselling classic of the early days of e-commerce, and The Money or Your Life: Reuniting Work and Joy, an inspirational book that helped inspire its publisher towards a post-corporate, portfolio life.

Since 2001, he has been a writer for MoneyWeek, a financial copywriter, and a long-time contributing editor at The Week. Simon also works as an actor and corporate trainer; current and past clients include investment banks, the Bank of England, the UK government, several Magic Circle law firms and all of the Big Four accountancy firms. He has a degree in languages (German and Spanish) and social and political sciences from the University of Cambridge.