The Advent and Impact of Digitization on the Modern Economy

The meteoric rise of digital currencies in the emerging world of technology has had a profound impact on traditional finance. While some would argue that this transition has more merits than faults, this seemingly progressive transition demands an objective approach. Traditional financial systems refer to conventional and centralized structures, institutions, or mechanisms used to facilitate financial activity.[1] These systems encompass a broad array of components, each distinctly contributing to the extensive network of commercial systems. Paradoxically, digital currencies are forms of virtual currency that employ cryptography to perform encrypted financial transactions and facilitate the creation and management of new units of currency. These digitized forms of currency operate independently of federal banks and are, therefore, decentralized using a system that records transactions performed across a computer network, termed as ‘blockchain technology’. [2]

Before the 21st century, traditional financial systems served as the primary methods of performing transactions. [3] These systems involved the role of institutions such as commercial banks, investment companies, and brokerage firms: establishments that relied on an element of trust, and served as mediators in the transaction process, accelerating the movement of currency and charging a commission fee for their services. While the banking sector was largely dominated by public sector banks and confined primarily to urban and industrialized quarters, rural areas, bereft of extensive banking infrastructure, heavily relied on more conventional forms of exchange, by making use of valuable assets guaranteed by agricultural development banks and cooperatives through personal transactions founded in trust.

The advent of the new millennium, however, heralded an inexorable march towards digitalization, driven by the desire for efficiency, convenience, and security.  [4] The mode of digital currency and online transactions gained traction, and the magnitude of the accompanying changes was illustrated by the methods adopted internationally and locally to promulgate digitization. For instance, the exponential rise in Unified Payments, [5] fintech adoption by retail, [6] and regulatory changes.

The transition from traditional financial systems to digital currency has yielded several positive effects, significantly impacting various aspects of the economy and society. [7] Digital finance has dramatically improved access to banking services for underserved populations, enabling individuals to manage their finances with unprecedented ease and security. This inclusivity has empowered millions by allowing them to participate in formal financial systems, save securely, and access credit more easily. Moreover, these systems have streamlined transactions, and increased efficiency by reducing cash handling and associated costs. [8] Further, faster transaction processing speeds improve cash flow management for businesses, and the 24/7 availability of these services offers unparalleled convenience. From an environmental perspective, the digitization wave contributes to environmental sustainability, cutting down on paper-based processes, thus heralding a brighter, greener future.

Yet, this digital dawn brings forth a maelstrom of challenges and threats. Digital currencies, with their inherent volatility, can affect financial markets, their speculative nature contributing to uncertainty and instability. [9] The rapid adoption of these currencies threaten to undermine monetary policy, thereby threatening the very foundations of traditional finance. Privacy concerns preponderate, as the pseudonymous nature of blockchain technology, coupled with obscure regulatory landscapes, gives way to legal uncertainty, and erodes investor confidence. [10] The digital divide threatens to widen, leaving vulnerable groups stranded on the fringes of this brave new world. Regretfully, burgeoning digital currency risks eroding the humanity at the heart of traditional finance, replacing empathy and trust with impersonal transactions, leading to a profound sense of exclusion.

For India's rural poor, the digital finance phenomenon is a double-edged sword. The draconian demonetization of 2016, which invalidated 86% of the nation's currency overnight, coerced many into the digital domain. However, by the end of 2020, only 25% of rural populations had access to UPI services, exacerbating the crevasse of economic inequality. [11]  The Reserve Bank of India's 2019 study revealed that a staggering 70% of rural households remained reliant on cash, underscoring the digital divide. Despite government -induced initiatives like the Pradhan Mantri Jan Dhan Yojana (PMJDY), which facilitated the opening of over 380 million bank accounts, nearly 48% of these remained inactive by 2019. [12] The transition towards a digitized economy threatens to amplify economic disparities, as evidenced in Dharavi, Maharashtra, [13] where inadequate internet infrastructure and digital illiteracy have exacerbated economic marginalization.

In conclusion, the effects of digital currencies on traditional financial systems are multifaceted, encompassing both contingencies and criticisms. As digital currencies continue to evolve, it is essential for shareholders to collaborate in addressing regulatory, monetary, legal, security, and stability concerns while exploring the potential benefits of this revolutionary change for the future of the financial world.

[1] https://www.techtarget.com/searchsecurity/definition/cryptography

[2] Blockchain Technology: Principles and Applications" by Marc Pilkington (2018), Research Handbook on Digital Transformations

[3]  Banking Statistics, RBI Report

[4] Economic and Political Weekly (2019)

[5] Reserve Bank of India, ‘Trends and Progress of Banking in India’

[6] Annual Reports, PwC

[7] Digital inclusive finance, R&D investment, and green technology innovation nexus," PLOS ONE

[8] Unlocking the full potential of digital transformation in banking: a bibliometric review and emerging trend," Future Business Journal, SpringerOpen

[9] BIS Quarterly Review, Bank for International Settlements, 2018

[10] Bordo, M. D., & Levin, A. T., 2017

[11] https://www.indiaretailing.com/2023/12/19/upi-major-driving-force-in-growth-of-digital-payment/

[12] https://www.indiaretailing.com/2023/12/19/upi-major-driving-force-in-growth-of-digital-payment/

[13] https://www.fortuneindia.com/macro/upi-transactions-grow-from-1-lakh-cr-to-139-lakh-cr-in-5-years-finmin/115140