Digitalisation: A Double-Edged Sword for Consumers and Financial Systems, Says RBI Report

In its Report on Currency and Finance (RCF) for 2023–24, the Reserve Bank of India (RBI) highlighted the transformative yet challenging impacts of digitalisation on consumer behavior and financial systems. Released on Monday, the report underscores how the convenience and accessibility brought by digitalisation can also lead to impulsive spending, herd behavior, and heightened risks of data breaches.

Digitalisation can also create a more complex and interconnected financial system with implications for financial stability.

Benefits and Risks of Digitalisation

Digitalisation undoubtedly enhances the ease with which consumers can access financial services. However, it also introduces new risks. The RBI report points out that the rapid spread of financial trends and choices through digital platforms can influence consumers to follow the crowd, leading to impulsive spending and herd behavior. This is particularly evident during market frenzies, where mass buying or selling of stocks can trigger similar actions from other consumers.

Moreover, the interconnected nature of the digital financial system can complicate financial stability. For instance, widespread withdrawal of deposits due to herd behavior could lead to bank runs or failures.

Data Breaches: A Growing Concern

The report also highlights the growing threat of data breaches. In 2023, the average cost of a data breach in India was $2.18 million, marking a 28% increase since 2020. Common attacks include phishing and the use of stolen or compromised credentials. These breaches pose significant risks to both consumers and financial institutions.

Implications for Monetary Policy

Digitalisation impacts inflation, output dynamics, and the transmission of monetary policy in various ways. The report suggests that if digitalisation shifts credit supply from regulated banks to less-regulated non-banks, it could dampen the effectiveness of monetary policy. As such, central banks must integrate digitalisation considerations into their models to ensure effective monetary policy and financial stability.

Proactive Measures and International Collaboration

The RBI has been proactive in leveraging the benefits of digitalisation while mitigating associated risks. Digitalisation holds the potential to boost India’s external trade in goods and services, particularly in modern services exports. It can also reduce the cost of international remittances, benefiting recipients through higher incomes or savings.

In a significant step towards enhancing cross-border payments, the RBI joined Project Nexus, aiming to interlink domestic Fast Payments Systems (FPS) across several countries, including Malaysia, the Philippines, Singapore, and Thailand. This follows the integration of India’s Unified Payments Interface (UPI) with Singapore’s PayNow, facilitating faster and more affordable remittances between the two nations. Similarly, an MoU with the Central Bank of UAE aims to link India’s UPI with UAE’s Instant Payment Platform (IPP).

The Rise of UPI

The report highlights the explosive growth of UPI, which has seen a tenfold increase in volume over the past four years. From 12.5 billion transactions in 2019–20 to 131 billion in 2023–24, UPI now accounts for 80% of all digital payment volumes in India. As of June 2024, UPI is recording nearly 14 billion transactions monthly, driven by 424 million unique users.

Future Outlook

Cross-border digital trade policies will be crucial in leveraging new opportunities and ensuring data security and cybersecurity. The internationalisation of the rupee is also progressing, supported by a comprehensive policy approach.

In summary, while digitalisation brings significant benefits, it also poses new challenges. The RBI’s report emphasizes the need for a balanced approach to harness its advantages while managing the associated risks to consumer behavior, financial stability, and data security.