Painful path to curing Japan of its cash addiction

In early July, the 61-year-old chief executive of 7pay appeared on TV to apologise after the launch of one of Japan’s most hotly-anticipated mobile payment services had turned into a catastrophe.

After struggling to explain why his cashless system – rolled out across the company's 21,000-strong network of 7-Eleven stores to 1.5 million users – had been hacked and defrauded within hours of going live, Tsuyoshi Kobayashi was asked about the standard safeguard of "two-step authentication".

In response, Mr Kobayashi slowly repeated the phrase in the befuddled tones of someone hearing it for the first time, telling the nation all it needed to know.

The incident has become part of a grand parable of modern Japan: a country in a permanent tension between its high-tech image and the realities of ageing consumers and squandered opportunities. Japan invented two of the key cashless technologies that other countries have deployed to leap ahead of it. And while its ambition of turning one of the world's most cash-obsessed societies into one of the least by June 2027 may be real, so too are the management ineptitudes, extreme market overcrowding, structural obstacles and demographics that stand in their way.

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Over the past couple of years, both the Japanese government and its corporations have laid out plans for this revolution – one that could fundamentally reshape and revitalise the world’s third-largest economy and even, say some, help Japan’s decades-long battle with deflation. Foremost among these plans is the government’s “cashless vision” of doubling the ratio of card and e-money transactions from their current low levels within the next eight years, to create a $1tn-plus cashless market.

Heading the drive is prime minister Shinzo Abe as his government looks to capitalise on an expected surge in tourists ahead of the 2020 Tokyo Olympics and a sales tax increase in October that they hope will encourage retailers to replace labour-intensive cash transactions with more efficient digital payment systems.

A significant factor behind the push is Japan's shrinking working-age population – a limited resource that can no longer be wasted on labour intensive processes involved in the handling of cash. Another is raw economics: Nomura Research Institute estimates that it costs the country about $15bn every year to handle the cash it uses: expenditure that could be better deployed elsewhere.

Analysts at UBS, who believe that around 40 per cent of payments in the country will be non-cash by 2026, say Japan is approaching a tipping point. Banks have begun to sharply reduce their networks of ATMs to cut costs. Although seen in other countries, it is a phenomenon more pronounced in Japan, say analysts, due to a chronic labour shortage that is already reverberating through the retail and restaurant sectors.

"Digitalisation is spreading at an incredible pace so it's important that we do not remain satisfied with the status quo and take active steps to address these structural changes," says Tatsufumi Sakai, chief executive of Mizuho Financial Group, which recently launched a digital currency service and laid out plans to shut about 20 per cent of its 500-branch network.

One byproduct, says Hiromichi Shirakawa, a strategist at Credit Suisse, is that greater use of digital settlements should reduce "menu costs" – achieving a long-hoped-for ambition of the Bank of Japan, the central bank, to make prices less rigid and boost inflation.

Mr Shirakawa cites the strange tyranny of the ¥1,000 note which has anchored the price of lunch deals in Japan for years despite fluctuations in input prices. “Increased adoption of cashless settlement technologies should enable retailers to adjust their output prices more frequently ... rather than remaining ‘constrained’ by the ¥1,000 unit,” wrote Mr Shirakawa.

This shift is happening against a backdrop of acute concern over national prestige. When Japan hosted the Olympics in 1964, it wowed the world with its technology; it wants to do the same next year and fears the humiliation of visitors discovering that Japan still has large food retailers, medical clinics, restaurants and hotels that only accept cash.

“It was my first time so I was very nervous but what a relief that it was so easy,” Mr Abe wrote on Twitter in February with a photo of him awkwardly holding an iPad to scan a QR code to pay for flowers. “We hope to dramatically expand cashless in Japan... in preparation for an era with 40m foreign tourists [up from 31m in 2018].”

Despite such ambitions, the amount of cash in circulation in Japan has actually risen over the past 20 years. And, according to figures released by the Ministry of economy, trade and industry in 2018, Japan’s ratio of cashless transactions to total household consumption was far below that of other big economies at 18 per cent. South Korea was close to 90 per cent, the UK was more than 55 per cent and the US more than 45 per cent. Only Germany among the major economies has a lower ratio of cashless transactions at 15 per cent.

Missed opportunities: FeliCa

In 1988, Sony began development of its FeliCa technology, an early form of the near-field communication technology that will later be used by Apple Pay. FeliCa chips were used to create Octopus smart cards in Hong Kong in 1997, but it became mainstream in Japan only after NTT DoCoMo introduced phones dubbed osaifu-keitai, or mobile wallets, running on the FeliCa technology in 2004. Since then, the system has become embedded in daily routines from public transport to unlocking doors.

Japan’s deeply ingrained addiction to cash, say analysts, stems in part from a fundamental mistrust of financial systems. Low crime rates also contribute, meaning people are happy to carry large quantities of money with them.

This has stunted the spread of cashless systems that have taken hold elsewhere in the world even though the technology behind them was often pioneered in Japan. When 7pay launched its abortive digital payment system, it joined a long list of cashless systems using the QR code – a technology developed a quarter of a century ago as a means of tracking components in the Toyota supply chain. Other Japanese technologies, including Sony's FeliCa system of contactless payments, were adopted in places such as Hong Kong for its Octopus travel card years before they became mainstream in Japan.

So when PayPay, a joint venture between SoftBank and Yahoo Japan, launched in October, the underlying technology came from India's biggest mobile payments company, Paytm. "It's crazy for an Indian company that we can bring [to] Japan what they invented," says Vijay Shekhar Sharma, Paytm's founder. "The technology, aggression and resources is the reason for PayPay's success."

The threat from cyber security had already cast a pall over the nascent industry well before the 7pay fiasco. When PayPay launched a generous 20 per cent cashback campaign in December to advertise its new mobile payment service, it quickly received complaints from some users who were charged for purchases they never made. It has since rolled out several measures to prevent credit card fraud.

Yet the incentives for business to go cashless are enormous. Nomura Research Institute estimates that the biggest portion of Japan’s $15bn in annual costs of handling cash is due to rising labour costs, while another broader estimate by Mizuho Financial Group that includes one-off costs puts the figure as high as ¥8tn ($74bn). On the positive side, if a store goes cashless, that is estimated to boost the number of customers on average by 2.1 per cent and per-customer sales by 1.6 per cent, according to the think-tank.

Encouraged by such numbers, Royal Holdings, which operates Royal Host and Sizzler restaurants in Japan, has been experimenting with a cashless store in central Tokyo since the end of 2017. There has been a drastic reduction in the amount of time store managers spend handling cash. And the store is attracting five times more applications for jobs than other outlets of similar size in Tokyo.

But the company is not closing the door on cash. “Customers should also have the option of using cash,” says a spokeswoman. “So our general direction is to not to get rid of cash, but to reduce labour linked to managing cash.”

The dilemma for companies is that whatever the obstacles, none of them want to be left out of the cashless boom. As a result, consumers are left with too many options to choose from. "This is typical of Japan Inc. Whenever there is a boom, everyone enters and as a result, things end up being ramshackle," says Masanori Kusunoki, a visiting professor and cyber security expert at the International University of Japan.

Technology groups such as Line, the messaging app, Rakuten, the ecommerce group that sponsors Barcelona and Origami, the mobile payment startup, entered the market for QR code mobile payment services as early as 2014. The past 12 months has seen an influx of bigger traditional players including Japan's three largest mobile carriers – NTT DoCoMo, SoftBank and KDDI – and retailers such as Seven & I and FamilyMart Uny Holdings.

So far, there has been no clear winner, although PayPay has been the fastest growing service with more than 8 million registered users in less than a year. A February survey by research firm MyVoice Communications, found 20 per cent of the people surveyed said they had used smartphone payment services during the past year. Of those people, 4.9 per cent used Rakuten Pay, followed by 3.8 per cent for PayPay, 3.3 per cent for Apple Pay and 3.1 per cent for Line Pay.

Despite the competitive market, industry executives say it is not the flood of rivals – with even global tech giants Apple and Amazon struggling to make significant headway in Japan – but the challenge of dismantling the "cash is king" mentality that poses the biggest obstacle. Hard cash is still the reassuring choice for many Japanese, especially for the 30 per cent of the population expected to be over 65 by 2025.

"We're not really at the stage of worrying about our competitors," says Shigenobu Kobayashi, executive officer at Rakuten Payment. "Our biggest enemy is cash. Despite the plethora of other payment options out there, cash remains dominant and that's an endless challenge for us."

To break that addiction, says Youngsu Ko, chief executive of Line Pay, it will not be enough to just prove that mobile payments are safe and convenient. Users also need economic incentives.

“Line Pay needs to ensure the security, reliability and familiarity that cash offers, but we also need to offer something [more],” Mr Ko says. “If we want to change the user experience that’s based on cash, we have to continue offering benefits until people feel Line Pay is better than cash.”

Similar to campaigns launched by rivals, Line is offering a three-year no-charge campaign to small and medium-sized retailers to reduce the financial stress of switching to a cashless system. Eventually, it hopes to convince store owners that additional costs of transactions through Line Pay, which has 36m registered users in Japan, will be offset by a boost in sales.

At Rakuten, Mr Kobayashi says the key to unlocking the cashless potential is Japan’s love for loyalty points, which is estimated to account for roughly 30 per cent of the country’s consumer spending. The group, which also offers online banking, mobile phone and credit card services, wants to create a system where loyalty points from its cashless payment services will help boost spending at more than 3m stores already signed up to use the technologies.

Missed opportunities: QR codes

A division of Toyota supplier Denso invented the Quick Response (QR) code in 1994 following a request from users of its barcode readers to develop an equivalent that could hold more information. The QR codes were quickly adopted by the Japanese automotive industry to help with tracking vehicles and components during the manufacturing process. But Japan was slower, compared with China, to apply two-dimensional QR bar codes for mobile payments, which became the dominant payment method in Chinese stores from about five years ago.

The government is bolstering these efforts by offering points that can be exchanged for future discounts for those consumers using cashless payment systems for nine months after the consumption tax is raised, from 8 to 10 per cent, in October. The incentives, which also include covering part of the costs for retailers to go cashless, will be paid for with a $2.6bn budget.

Executives admit temporary cashback and no-fee campaigns can only go so far. Ultimately, consumers and retailers need to be convinced that they are better off, longer-term, going cashless.

Japan is notorious for its technologies falling into the so-called Galápagos trap where the country evolves its own ecosystem, insulated from the rest of the world. "How much the cashless trend will spread to stores and consumers over the next nine months will be critical," says Daisuke Tanaka, senior consultant at Nomura Research Institute. "There is no doubt Japan will generally shift towards cashless but things will be chaotic for some time." – Copyright The Financial Times Limited 2019