Digital payments not only indicate a change in the method through which we perform our transactions; the cashless effect means that digitized transactions cause us to change our spending habits. We are much looser with our money when it only exists in an evasive digital form, and we often spend money that we wouldn’t if we had to make the same transaction with physical cash.²

The cashless effect is potentially dangerous because it can make budgeting harder and lead to overspending. Interestingly, research suggests that the cashless effect does not impact our spending habits when we’re tipping or donating money, only when we’re purchasing items for ourselves.¹⁴ We make large purchases on our credit cards with ease because we find it harder to understand the value of money when it isn’t tangible. Buy-now-pay-later schemes further exacerbate this disconnect between the item we’re purchasing and the money we actually need to pay for it. In extreme cases this can lead us to spend much more than we actually have, quickly devolving to incurring debt. Apart from the financial downfalls of debt, research has also shown that individuals who have debt are twice as likely to suffer from depression and anxiety disorders.³

Though it may feel safer than carrying physical cash, when transactions are digital, it also means that there is a digital trace of all of our activity. We lose anonymity and the ability to make discrete transactions.⁴ Platforms use our spending habits to hit us with targeted ads, causing us to spend even more money, demonstrating how the cashless effect can quickly bring us into a vicious spending cycle. The loss of anonymity through financial surveillance can also give a lot of control to the government and reduce our freedom.⁴

Essentially, most of the developed world now operates in a “cashless society.” While cashless societies have always existed in terms of trading commodities instead of cash, in recent years, the term has taken on a new meaning. Our trading is almost entirely digital, with money only ever ‘passing hands’ through the Internet.¹ You can think of Bitcoin and other cryptocurrencies as the most recent evolution of our turn towards being totally cashless.

The ubiquity of using digital platforms for payments has only increased in light of the COVID-19 pandemic, with many retailers actually banning cash transactions in an effort to limit physical contact.⁵ Almost overnight, contactless payments became the norm and in some countries accelerated the adoption of these technologies. Outside of potentially reducing the spread of germs and viruses, cashless societies also mean that the cashless effect is much more prominent today.

Cashless payments can actually help economies grow. Research by the Boston Consulting Group found that economies that switch to digital payments can boost their annual GDP by as much as 3 percentage points.²⁷ There are many success stories around the world of countries going cashless, including Sweden which has seen a shrinking gray economy, strong online commerce, and a significant reduction in fraud as a result of ditching the cash.

With the decline in cash payments and the need to carry physical money around with us, we’ve become increasingly accustomed to tracking how much money we spend through our banking apps or internet banking. As a result, young people aged between 16-24 years actually view cash as ‘free money.’¹⁷ Why? Because when they hand over physical cash it doesn’t impact their digital bank balance.

For older people who remember the days when cash was king, digital payments don’t feel as real as cash payments. But for Generation Z, who have grown up as digital natives and experienced online and mobile banking for the majority of their lives, cash payments actually feel less real. So while the cashless effect may lead to overspending among older generations, the reverse cashless effect may actually make future generations more cautious about using credit cards and digital payments. TikTok trends such as ‘cash stuffing’, which encourages people to put aside a set amount of cash for different categories of spending, are already helping young people to budget and save amidst the temptation of cashless societies.

The cashless effect occurs because we don’t have as much difficulty parting with money when it isn’t tangible. When money is exchanged digitally, it is harder to quantify what we are parting with. Giving someone our credit card feels like a far smaller commitment than handing someone wads of cash. Afterall, giving someone our credit card is just handing them a piece of plastic, which in itself, isn’t worth much.

It can be considered painful for us to give up physical money, a concept known as the “pain of payment”.¹ One study even suggests that using physical cash may actually activate the pain-processing brain regions associated with higher-order, affective aspects of pain.²⁴ Others find this hypothesis a little far fetched and instead argue that our perception of pain during cash payment is due to a lack of reward response. This occurs when our brain associates an action with feelings of pleasure, and is activated by credit cards far more than it is by cash.²⁵ However, to complicate matters further, studies have shown that the mobile phone payment notifications that flash up on our screens after using our credit/debit card or making a digital transaction actually evoke the same pain of payment that is felt when handing over cash.²⁶

Additionally, we often make short-sighted decisions without properly and rationally determining the long-term effects of our decisions. The projection bias, which is our tendency to overestimate how much our future selves will share the same beliefs, values and behaviors as our current selves, can lead us to make short-sighted financial decisions that don’t take into account our future financial situation. If we pay in cash, we have to immediately give up our money. However, if we pay through a credit card or another form of digital payment, we have more time to come up with that money. It may feel like less of a commitment at the time, but the cashless effect makes us susceptible to being in debt.

In Mexico, for example, the majority of large retailers and even smaller businesses offer ‘meses sin intereses’ or ‘months without interest.’ This scheme allows customers to buy anything from a new t-shirt to a new bed and pay the balance over many months without accruing interest. Studies have shown that 66% of people who have a credit card in Mexico use ‘meses sin intereses’ to pay, despite many households being in significant debt.²⁸ Taking on a payment schedule of 24 months requires some serious projection into the future, something that we just aren’t very good at.

Research also shows that the strength of the cashless effect differs depending on the situation.²¹ When people purchase goods or services to display wealth or attain social status - known as ‘conspicuous consumption’ - the cashless effect is stronger. In pro-social consumption situations, such as tipping or donating to charity, the cashless effect is weaker. The cashless effect is also impacted by business cycles, typically strengthening during periods of economic growth.

Yet there is also evidence that the cashless effect may be gradually weakening over time. As we have become increasingly accustomed to cashless transactions - only 13% - 14% of Americans now use cash for their purchases²² - it’s likely that the distinction between cashless payment methods and physical cash has become blurred for many people. In turn, this may have weakened the pain of paying which is typically associated with cash payments.

Payment mechanisms should have no impact on our consumer behavior decisions if we are purely rational decision-makers. However, the cashless effect demonstrates that this isn’t the case; our spending habits change when we don’t have to pay in physical cash. Irrational purchasing decisions can have negative consequences, such as overspending, debt, and increased stress.

Since cashless payment methods are so ubiquitous in our society, it is very important that we understand how changing our payment methods change our consumer behavior, so that we can adjust accordingly. We may not be able to avoid using different forms of payment, but if we understand that digital payments detract us from making rational purchasing decisions, we can be more careful about how and when we spend our money. Being a little more diligent with our consumer behavior leads to more optimal decisions that better fit our budgets and financial goals.

The social impact of a cash-free society

It’s important to remember that many groups of people are shut out of a cashless system. Teenagers, low-income families, and the homeless, for example, are more likely to use cash. In 2021, 5.9 million U.S. households were ‘unbanked,’ meaning that no one in the household had a checking or savings account.¹¹ Going cashless, therefore, has implications for individuals and families across the socio-economic spectrum.

In November 2016, the Government of India demonetized 500 and 1000 rupee bank notes, thus removing approximately 86% of the country’s cash from circulation. The policy change disproportionately impacted poor rural households who have limited access to physical banks or online banking, and do their transactions exclusively in cash. A study, which looked at the financial lives of 90 households in West Bengal, found that the ban had resulted in a 15.5% decrease in the income they earned over the two months after the policy change.¹⁸ Although the move was meant to encourage digital payments and reduce corruption, it had an unintended impact on the country’s most vulnerable citizens.

However, concerns about the impact of cashless societies on vulnerable populations may soon be a thing of the past. Across the globe, fintechs are developing innovative new digital tools and platforms to boost financial inclusion for both the banked and unbanked. In Africa, M-PESA provides financial services to millions of people who have mobile phones but don’t have a bank account or reliable access to banking services.¹⁹ Users are able to safely and efficiently send and receive money, top up airtime, make bill payments, receive salaries, and apply for loans.

Cash vs. crypto

More and more digital payment methods are available to us, increasing exposure to the cashless effect and its not-so-fun consequences. However, not all forms of cashless payment and their effects on our spending habits have been thoroughly studied. Cryptocurrency, for example, amplifies the cashless effect by making transactions even more intangible and seamless than traditional digital payment methods. Using blockchain-based systems minimizes the visibility of money transfers, reinforcing the reduced pain of paying. Cryptocurrencies like Bitcoin and Ethereum often involve smaller transaction fees and decentralized control, further incentivizing digital spending. However, as researcher Lachlan Schomburgk from the University of Adelaide explains, these newer forms of payment method are understudied despite being likely to influence our payment behaviors.¹⁵

Obviously, sticking to cash as a form of payment would greatly reduce the cashless effect. In fact, the use of cash in shops in the UK rose during 2023 and 2024 due to the cost of living crisis, as people looked for ways to budget more effectively.¹⁶ However, this is not always a viable option. Some retailers and restaurants will not accept cash, whether that be to avoid the fees associated with cash-handling costs or to avoid the spread of diseases like COVID-19. It also isn’t convenient or safe to carry around large amounts of cash. So, what can we do?

We can use techniques that help us avoid overspending in general. That can mean creating a budget or taking a few days to sit on the decision to make a big purchase. When it comes to ensuring we don’t overspend on a credit card, we should try and spend according to the money that we already have in our account, rather than our credit limit. We can even lower our credit limit to more aptly match our monthly budget. Instead of using our credit cards as a way to be able to purchase things we wouldn’t be able to afford in hard cash, we should think about whether we would have bought the item otherwise.⁸

Perhaps the most useful tool for avoiding the pitfalls of the cashless effect is the one that we carry around in our pockets and bags everyday - our mobile phone. Many banking apps now offer customers built-in tools to help track spending and increase savings. And if your mobile banking app doesn’t yet have those features, there are dozens of expense tracking apps available for smartphones, including ETMoney, Qykly, mTrakr, Chillr, intuitmint, and Goodbudget. However, it’s important to thoroughly do your homework before trusting a third-party app with your financial data. Research shows that 60% of budgeting apps share users’ financial and personal data with other organisations.²⁰ On top of that, it’s important to find out about the app’s encryption security protocol - the higher the encryption, the harder it is for hackers to get to your information.

The cashless effect was first studied by Elizabeth Hirschman, a prominent theorist in marketing and economics, in 1979.⁹ Hirschman acknowledged that most research into consumer behavior rested in exploring why people spent, but she was interested in how people were spending their money, believing it could also give insight into consumer spending habits. She believed that people would spend more when using a credit card than if they were paying in cash.

Hirschman conducted her study by collecting data from surveys of consumer shopping in different branches of a department store chain. Field interviewers would ask consumers about the products they had purchased and what payment method they had used. After analyzing the data, Hirschman found that people who possessed either a store-issued card or a credit card made larger purchases than those people who paid in cash, and people who had both store-issued cards and credit cards spent the most.⁹

From these results, Hirschman concluded that using alternative forms of payments other than cash resulted in greater spending, although she never coined this the cashless effect. She also demonstrated that when we have more method payments available to us, we spend even more, suggesting the cashless effect will only increase as society comes up with novel ways to pay.⁹

The rise of cashless systems has had a profound effect on our purchasing behaviors for both physical and digital products. Since cashless payments reduce the psychological pain of paying, consumers are more likely to spend on higher-priced or premium versions of a product. For example, shoppers may upgrade to premium subscriptions or add-on features more readily when paying via card or app. Consequently, companies often design product tiers to encourage upselling, expecting consumers to opt for pricier options due to reduced friction in cashless transactions.

The decline in having to hand over physical cash for services has also led to the rapid growth in subscription models. Automatic recurring payments, facilitated by cashless systems, encourage long-term commitments to products or services, such as streaming or software subscriptions. These models can become problematic, however, when ‘auto renew’ is switched on and we forget that we’re still paying for a subscription that we’re not actually using.

Finally, the cashless effect has influenced the development and proliferation of certain purely digital products such as virtual goods, e-books, and digital art. Acclaimed artists such as David Hockney and Rachel Whiteread have created works that exist only in the digital realm¹⁴, and any budding graphic designer can make content to sell on platforms such as Canva. None of this would be possible, however, without cashless systems.

AI amplifies the cashless effect in our societies, pushing individuals to part with their digital cash in increasingly subtle and convenient ways. Since the turn of the century, the application of AI technologies to the world of FinTech (Financial Technology) has revolutionized our relationship with money, both for better and worse. Features such as one-click checkouts, voice-activated purchases, eWallets, and mobile payments simplify financial transactions and reduce the mental friction of spending. The less time we spend completing a transaction, the less we feel like we’ve actually spent any money.

At the same time, AI is increasingly used on banking apps and finance platforms to help customers mitigate overspending by providing real-time insights and budgeting support. These AI-powered features work by learning our spending habits and offering tailored advice about how to save and cut back on daily expenses.¹²

In addition to influencing how we spend and manage our money, AI is now used to help us with online shopping. Young customers are now using AI to help them hunt for the best deals online, saving them the time and effort of trawling through dozens of websites looking for a bargain. For brands: these online personal shoppers help brands share the most relevant sales and discounts with engaged consumers. A study by Zendesk and YouGov found that 44% of younger customers turn to AI assistants to sift through discounts, suggest last-minute gift ideas, and take care of payments.¹³

Dilip Soman, a professor at the business school at the University of Toronto, believed that despite the recent proliferation of payment mechanisms, there was not enough research on how they were affecting consumer behavior. Following his interest in Hirschman’s study, Soman wanted to examine how and why using cashless methods affected purchasing behavior.⁷

In his study, Soman wanted to show that one of the reasons for the cashless effect was because when we pay with a plastic mechanism, like a payment card, the payment is less transparent that when we pay with cash and is, therefore, less painful. He wanted to show that different levels of transparency changed consumer spending habits, even for a small purchasing decision, doing their laundry.⁷

Soman completed a pretest questionnaire with laundry-doers, asking them whether they knew the benefits of separating their colors and whites in the laundry. While 95% agreed that it was better, 64% of those respondents said that they didn’t because they didn’t want to pay for two loads.⁷

Soman conducted his study in the laundry rooms of two apartment complexes. Previously, laundry had operated through a coin system, but they recently had changed to a prepaid laundry card system. In both instances, it cost $1 to do a load of laundry; the difference was only with the transparency of the payment, with coins being more transparent than the prepaid cards. Soman examined how many laundry-doers would separate their laundry now that there were prepaid cards.⁷

Soman found that when participants were paying in coins, 44% of them separated their laundry into two separate loads. In comparison, when they were paying with the prepaid card, 60% of participants separated their laundry. To dispel the effect of novelty, Soman went back to survey laundry-doers’ habits 16 months after the initial survey, and found that then, 65% of participants separated their laundry. From these results, Soman concluded that consumers spend more money when the payment mechanism is less transparent, such as in the case of the prepaid laundry card.⁷

Most of us have heard of Pavlov’s experiment, where a dog comes to salivate at the sound of a bell after that bell has repeatedly been rung when food is served. Although we may not be susceptible to drooling at the sight of food, us humans can similarly be affected by the association of stimulus to certain habits, and this may contribute to the cashless effect.

Richard Feinberg, a leading name in the international political economy, conducted a study in 1986 that examined whether credit cards, and credit card logos, acted as a spending stimulus. He believed that through repeated use, credit cards became able to elicit more spending. He thought that even the presence of a credit card logo would influence people to spend more.¹⁰

Feinberg conducted his experiment on 60 undergraduate students, split into two groups. Both groups were told the experiment was about attitudes to consumer products, asking them to look at pictures of various products and then later answer questions about them. One group, the experimental condition, saw credit cards stimulus next to the pictures of products, but were told it was not part of the current experiment.

After viewing the products, both groups were asked how much money they would be willing to spend on each product. Feinberg found that for each of the seven products that participants had been shown, those that had seen credit card stimulus consistently answered that they would be willing to spend more than those who had not. As such, Feinberg concluded that credit cards, or credit card logos, can sometimes produce supplementary spending reactions.¹⁰

Feinberg’s study suggests that one of the reasons the cashless effect occurs is because we associate credit cards with spending, and therefore are more easily prompted to spend money when using them.

What it is

The cashless effect describes our tendency to spend more money when we are using payment methods that do not require physical cash.

Why it happens

Many factors contribute to the cashless effect. There is thought to be less pain associated with using non-tangible forms of payment, such as a credit card, potentially because the transaction is less transparent. Credit cards also enable us to spend money we have not yet acquired, meaning that we are able to spend more than if we had to pay in cash. As we become used to using credit cards as a form of payment, it also may end up acting as a stimulus for spending.

Example 1- Cashless effect and small purchases

It is understandable that using credit cards or other digital forms of payment makes us more likely to make big purchases, since we may not already have the money in our accounts. However, it has been shown that the cashless effect occurs even for purchases as small as $1, and for simple day-to-day purchasing activities, like doing our laundry.

Example 2 - Credit cards as a stimulus for spending

Even a logo of a credit card company could be enough to induce the cashless effect. As we become used to using our credit cards as a form of payment, we come to associate credit cards with spending money. As a result, when we see credit card paraphernalia, we may spend more money, as the credit card acts like a stimulus just like the bell does in Pavlov’s study.

How to avoid it

It is hard to avoid using digital forms of payment in our modern society. More practical advice may be more similar to any techniques used to avoid overspending, such as creating a budget and try not to make rash decisions about large purchases. One way to avoid making impulsive purchases on our credit cards would be to leave them at home unless we know that we need them. To make it easier to stick to our budget, we can also set our credit limit to reflect how much we want to spend in a month.

This is Your Brain on Money

In this article, our writer Fahima Mohideen, a graduate student in Applied Psychology, explores the different ways in which our purchasing decisions deviate from rationality. She explores the way that we create mental accounts of our money, instead of understanding that all money is the same. She attributes these mental accounts to being one of the causes as to why we treat purchases made on a credit card differently to purchases made in cash. Mohideen also outlines another study that demonstrates the cashless effect, where people were willing to pay more money for auctioned tickets to sporting events when they were using a credit card.

How Scarcity Affects the Working Poor

If you were interested in how digital forms of payment are a form of discrimination against the poor, you should take a look at this article by Arash Sharma, who is involved in behavioral business research. In the article, Sharma explains how credit cards, and strategies banks implement using them, can be crippling to low-income individuals.