Economics Term Paper

Submitted by: Shriya rao Apparasu

Roll. No: sl22ulbb039 (First Year BBA-LLB)

Do digital payments foster economic growth? Analysis since the genesis of

UPI in India

Introduction:

The nationalization of banks in the year 1969 aimed to increase access to banking
services for marginalized individuals and sectors. However, despite over 50 years since
its implementation, financial inclusion remains a challenge for India. Financial
inclusion, which involves providing easy and equitable access to affordable banking
services, is critical for economic development and is linked to eight of the seventeen
Sustainable Development Goals.

In the decade following liberalization, India has experienced a digital revolution due to
affordable smartphones and high-speed mobile data. which has led to the invention of
new FinTech services aimed at improving payment systems. In 2016, the National
Payments Corporation of India made the Unified Payments Interface (UPI), a real-time
fast track payment system that provides transitions between banks in India. Through
UPI you can do quick money transfers from one bank account to another. on a mobile
platform without requiring bank account details such as account numbers or IFSC
codes. Its user-friendly features, such as using a mobile number as a UPI ID for transfers
and payments through QR codes using smartphones, have contributed to its success. In
fact, UPI transactions overtook debit card payments in 2018-19 (Reserve Bank of India,
2020).

As of November 2022, NCPI statistics show 390 banks were live on UPI, and it
facilitated 7,534 million transactions worth Rs 12,35,846.62 crores. The volume and
value of UPI transactions have continued to increase since its launch. This will be
discussed later in this study. ACI World wide’s report on India’s real-time payments
(or digital payments) stated that the country processed a record-breaking 48 billion real-
time transactions, surpassing any other country in the world. The widespread
acceptance of UPI among Indian businesses and consumers led to an estimated cost
savings of $12.6 billion. Due to which it made an economic output worth of $16.4
billion, which is almost equivalent to 0.56% of the country’s total gross domestic
product (GDP).

India's digital infrastructure, which includes a fast-track payment system, that has
transformed commerce and business. Which brought millions of people into the formal
sector of the economy. The ubiquitous QR code can be found on roadside stalls,
performer donation cans, and even held up by beggars. As This infrastructure made its
way into daily life, bank services and even into the reach of government programs it
made daily very has made daily life more functional and easier. India's digital
infrastructure has been described as a "set of rail tracks" laid by the government to
enable innovation to happen at low cost. At its heart is the Aadhaar, a unique
identification number that has been issued to over 1.3 billion people. UPI as a system
is almost used by 300 million individuals and 50 million traders, out of which 50 % is
classified as micropayments

The move towards digital payments is an interesting phenomenon. It was accelerated

by the central government’s decision in 2016 to remove large-denomination currency
from circulation. Due to the pandemic people started relaying more on the digital
payment system as the govt used it to manage the world largest vaccination drive and
issue financial aid. While concerns about data privacy remain, the government claims
to have struck a balance between privacy and innovation by giving individuals control
over their data. The success of India's digital infrastructure has led to its export to other
developing countries as a means to lift people out of poverty and boost economic
growth. The objective of this study remains the same. While it is important to study
internal financial inclusion that happened because of the incidence of UPI in India with
better target variables, this study focuses on whether the UPI transactions boost the total
output in India.

Review of Literature:

The study by Kumari & Khanna (2017) presents a conceptual framework for
understanding the functioning of a cashless economy. It explores the various objectives
of transitioning to a cashless system, examines different methods of cashless payments,
and identifies key requirements for achieving a cashless economy. Additionally, the
study outlines the potential benefits of a cashless economy for a country. However, it
also discusses the challenges and obstacles that may impede the transition to a cashless
system.
Moreover, this study analyzes the effects of adopting cashless payments on the
economic growth and development of developing countries. By compiling all the
findings, the paper provides useful policy recommendations to promote the adoption of
cashless payments in a country. This is a primary reference paper for this study, in
specific context to India’s journey towards cashless payments.

Nemea & Neemea (2016) in their exploratory study focused on comprehensive review
of the Unified Payment Interface (UPI) as a digital payment method. The study outlines
the architecture, technologies, and operations of UPI transactions, and describes the
parties involved in these transactions. Additionally, the paper evaluates the benefits and
challenges of using UPI and compares it to other current UPI apps and digital payment
methods. The study concluded that UPI is a highly compatible tool that has the potential
to make monetary transactions easy and affordable for customers. However, the authors
note that greater confidence and awareness among customers, particularly those from
rural backgrounds, is needed to increase adoption and usage of UPI.

By exploiting variations in the adoption of digital payments across districts, this study
(Dubey & Purnanandam, 2023) demonstrates that households in districts with higher
levels of cashless transactions experienced a significant increase in income after the
launch of UPI. These households also initiated a higher number of new businesses and
earned more income from these ventures. The analysis is based on within-district-year
variations in the impact of cashless payments on economic outcomes among households
that were differentially impacted by the adoption of digital payments. Specifically, it
was found that self-employed households, such as hawkers and traders, benefited more
from the adoption of digital payments compared to other households. The key drivers
behind the findings were the relaxation of borrowing constraints and a reduction in
transaction costs associated with digital payments.

Research by Aldaas (2021) examines the correlation between economic growth and
electronic payment systems, using data from various countries worldwide. The study is
significant due to the role payment systems play in financial transactions and the lack
of research on this evolving field. The study defines electronic payment systems,
explores their various types and features, and then analyzes macroeconomic data from
different countries. While no conclusive evidence is found directly co relating
electronic cashless payment system and economic growth, it suggested that it may vary
depending on the country.

Another study by Thirupati, et.al. (2019) talks about the Digital India initiative which
is a prominent scheme launched by the Indian government which aims at transforming
India into a digitally empowered society and knowledgeable economy. One of the main
objectives of the initiative is to achieve a "Faceless, Paperless, Cashless" system. With
the integration of banks and financial institutions, the digital payment system is gaining
momentum, gradually replacing the traditional cash-based transactions.

Dhamija & Dhamija (2017) took us through several technological and architectural
changes, resulting in a steady increase in the number of people using mobile banking.
This can be attributed to the technological advancements that have restored user faith
and confidence in mobile banking and online payments. In a developing country like
India no matter how many technological advancements are brought in the mobile
industry the number of people using mobiles rapidly increases therefore people expect
the mobile payment services to be fast, easy to use and most importantly secure.

The study stated that there is room for improvement in mobile and online banking, and
the National Payments Corporation of India (NPCI) has taken steps in this direction
with the implementation of the Unified Payments Interface (UPI). UPI makes the
process of money transfer simplified, through smartphones and feature phones, making
this technology accessible to all. This provides us an insight into the implementation
and feasibility of UPI, and how it outperforms existing systems.

Dahiya & Sharma (2020)’s study talks about how the promotion of inclusive finance is
essential for achieving prosperity and economic growth by reducing poverty, mitigating
unequal distribution of income, and curbing the dominance of local moneylenders.
Financial inclusion is not a singular goal that can be achieved directly, but rather, a
multi-dimensional process that entails achieving various aspects, such as access to
financial services, usage of banking services, and penetration of banking services. This
study examines the three primary types of financial inclusion, are - usage, penetration,
and accessibility, to investigate the relationship between the financial inclusion of the
poor and the economic growth of India.
Research Methodology:

1) SIMPLE LINEAR REGRESSION

Simple linear regression is a statistics model that establishes the relationship between
two quantitative variables by drawing a linear line through the available data. It assumes
that the dependent variable (Y) and the independent variable (X) has a linear
relationship with each other. the x and y variables are represented as two dots on a
graph. It aims to estimate the parameters of the linear equation that best describe this
relationship.
The linear equation is typically represented as Y = β0 + β1X + ε, where β0 is the
intercept, β1 is the slope or coefficient, and ε is the error term. The methodology
involves estimating the values of β0 and β1 based on the observed data and testing the
statistical significance of the relationship between X and Y. The methodology is useful
for predicting the value of the dependent variable given a known value of the
independent variable and for determining the strength and direction of the relationship
between the two variables.

2) ANOVA
In the context of linear regression and establishing the relationship between the select
variables, ANOVA (Analysis of Variance) is used in the study. It is a framework that
is used to analyze the differences among means and to test whether these differences
are statistically significant. It involves partitioning the total variability in a dataset into
different sources of variation, such as the variation between groups and the variation
within groups.

ANOVA can be used to determine whether the regression model provides a better fit to
the data than a model with no independent variables. Specifically, ANOVA can be used
to test whether the sum of squares due to regression (SSR) is significantly greater than
the sum of squares due to error (SSE).

To perform ANOVA for linear regression, the first step is to calculate the regression
sum of squares (SSR), which measures the amount of variation in the dependent
variable that is explained by the independent variable(s). Then, the error sum of squares
(SSE) is calculated, which measures the amount of variation in the dependent variable
that is not explained by the independent variable(s). Finally, the total sum of squares
(SST) is calculated, which measures the total variation in the dependent variable.
Using these values, the F-statistic is calculated by dividing the MSR (mean square due
to regression) by the MSE (mean square error). If the F-statistic is larger than the critical
value at a given significance level, it can be concluded that the regression model
provides a better fit than a model with no independent variables.

Overall, ANOVA is a powerful tool that can help to determine the statistical
significance of a linear regression model and to identify whether there is a significant
relationship between the independent and dependent variables.
The analysis is performed on the Limner Analysis Toolkit on Google Sheets; regression
statistics and ANOVA table is generated by use of simple application of Linear
Regression, long with residuals. The output is interpreted in the following sections.

3) T- TEST

The t-test is a statistical hypothesis test used to determine whether the means of two
groups are significantly different from each other. It is a commonly used method in
statistics to analyze the difference between two sample means when the population
standard deviation is unknown.

The t-test is typically used to test the null hypothesis that there is no significant
difference between the means of two groups. The test produces a t-value, which is a
ratio of the difference between the means of the two groups and the standard error of
the difference. The t-value is compared to a critical value from a t-distribution with a
certain degree of freedom and significance level (usually 0.05) to determine if the
difference between the means is statistically significant.

In order to perform a t-test on the slope of a linear regression line, we can use the t-
distribution to test the null hypothesis that the slope is zero (i.e., there is no significant
relationship between the two variables). The t-value is calculated by dividing the
estimated slope coefficient by its standard error, and comparing it to a critical value
from a t-distribution with a certain degree of freedom and significance level (usually
0.05).

If the calculated t-value is greater than the critical value, we can reject the null
hypothesis and conclude that there is a significant linear relationship between the two
variables. If the t-value is less than the critical value, we fail to reject the null hypothesis
and conclude that there is no significant linear relationship.

4) F- TEST

The F-test is a hypothetical statistics test through which two variances are compared
between two or more groups. In the context of linear regression, the F-test is used to
test whether a group of independent variables (also known as predictors or features)
taken together have a statistically significant effect on the dependent variable. The F-
test is usually performed after conducting a multiple linear regression analysis, which
involves fitting a regression model to the data and estimating the regression coefficients
for each independent variable.

To assess the overall significance of the regression model, the F-test is performed.
Divide the variance explained by the model (also known as the regression sum of
squares, or RSS) by the residual variance (also known as the residual sum of squares,
or SSE) to get the F-statistic. This yields the F-value, which can be compared to a
critical value from an F-distribution with a given number of degrees of freedom and
significance level (typically 0.05). We can reject the null hypothesis and infer that at
least one of the independent variables in the regression model has a substantial effect
on the dependent variable if the estimated F-value is greater than the critical value.

If the F-value falls below the crucial level, we are unable to rule out the null hypothesis
and come to the conclusion that the overall impact of the regression model on the
dependent variable is negligible. In conclusion, the F-test is used in linear regression to
assess the model's overall significance and to determine whether a collection of
independent variables has an impact on the dependent variable that is statistically
significant.

Data:

The data for variables GDP and value of UPI transactions is collected on a quarterly
basis from 2016. There are 25 observations on the whole. The data for the quarterly
GDP value (in crores) is taken from the Organization for Economic Co-operation and
Development (OECD). The data for UPI value (in crores) is taken from National
Payments Corporation of India (NPCI).

The line graph shows there has been an upward trend for both the variables, except for
some volatility for GDP as noticeable in the graph. The fall of GDP in the first quarter
(April-July) of 2020 is evident because of the onset of COVID-19 in the country. During
this period, the graph also shows that UPI payments fell; but after that, there has been
exponential growth in a figurative sense.
Interpretation of the results:

The linear regression output for the value of UPI transactions on the GDP for each
quarter since 2016 can be analyzed as under:
Multiple R can be understood as the multiple correlation coefficient between two or
more variables. Though this is more relevant for variables in multiple regression, the
value of 0.70 indicates that the value of UPI and GDP are highly correlated at 70
percent. This interpretation is significant to understand the relatively lower value of R
Square (or Coefficient of Determination) of 0.49, stating that the value of UPI explains
only 49 percent of the variation of GDP. This value indicates the goodness of fit,
indicating 49 percent of the data fits the regression line. Adjusted R Square is adjusted
in case there are more predictor variables in the model (not present here). The difference
between R Square and Adjusted R Square exists because only one independent variable
is specified in the model (UPI value) and not enough observations support it.

The high value of Standard Error of Regression (201300.70), which states the average
distance that the observed values fall from the regression line, is because of the high
value of the variables in the data. This could also be interpreted as the standard deviation
of residuals or noise in the data: and our output shows that the model can be more
precise.

The overall F statistic is mentioned in the ANOVA table, which is a test to show if the
regression model is useful in providing a better fit. The significance of validates that
value and the value of 0.00 indicates that the p-value (<0.05) associated with the overall
F statistic is significant.
The value of coefficients shows the average expected change in the response variable
GDP, assuming ceteris paribus i.e., everything else remains constant. The coefficient
value of intercept means that the GDP is 33,10,413.16 (in crores) when the UPI value
is zero. The p-value associated with the intercept coefficient shows that this is
significant. The value of UPI value coefficient indicates for every additional increase
in UPI value (in crores), the GDP increases by 0.19. The p-value associated with it
proves statistical significance.

The estimated regression is thus:

𝐺𝐷𝑃 = 3310413.16 + 0.1922 (𝑈𝑃𝐼 𝑉𝑎𝑙𝑢𝑒)

This estimated regression equation can be used to calculate GDP for the given model.

Conclusion:

The results indicate a positive relationship between UPI payments and economic growth
in India since the inception of a unified interface for digital payments in India. Digital
payments have taken a stronghold in the country and the financial inclusion paved the
way for increase in economic output and income generation in the country. Several
researchers showed increased awareness and confidence among users, especially on the
rural side, for digital payments and the governments need to cap this awareness to
provide digital literacy and improve banking infrastructure to provide last-mile
connectivity. Apart from this obvious economic advantage both for the users and the
government, the issues and inhibitions regarding privacy too must be handled carefully.

As for this study, India’s tryst with UPI can be emulated by developing countries who
still are waiting for the market economy to do its magic. Consumption inevitably
increases if there’s a simple, cashless mechanism -- which will have positive ripple
effects in the economy, by means of increasing aggregate demand. It is safe to conclude
that India’s efforts have paid off in this direction.
References:

1. Reserve Bank of India, Annual Report 2019-20.

2. ACI Worldwide, Primetime for Real Time: Global Payments Report
3. Kumari, N., & Khanna, J. (2017). Cashless Payment: A Behavioral Change to
Economic Growth. International Journal of Scientific Research in Education, 5(07).
http://www.ijsae.in/index.php/ijsae/article/view/197
4. Neema, K., & Neema, A. (2016). UPI (Unified Payment Interface) –A new technique
of Digital Payment: An Explorative study. International Journal of Current Research
in Multidisciplinary (IJCRM), 3(10).
5. Dubey, T. S., & Purnanandam, A. (2023). Can Cashless Payments Spur Economic
Growth? Social Science Research Network. https://doi.org/10.2139/ssrn.4373602
6. Ladas, A. (2021). A study on electronic payments and economic growth: Global
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9. Dahiya, S., & Sharma, M. (2020). Linkage between Financial Inclusion and
Economic Growth: An Empirical Study of the Emerging Indian Economy. Vision: The
Journal of Business Perspective, 24(2), 184–193.
https://doi.org/10.1177/0972262920923891
10. Mashal, M., & Kumar, H. (2023). India Embraces Digital Payments Over Cash,
Even for a 10-Cent Chai. The New York Times.
https://www.nytimes.com/2023/03/01/business/india-digital-payments-upi.html
11. Abraham, S. (2020). Unified Payment Interface: Towards Greater Cyber
Sovereignty. ORF.