This post draws from a paper presented at the 2025 Allied Social Science Association Annual Meeting in the ACAES session on Digitalization in Asian Economies. 
 
Co-Authors: Sushanta Mallick and Apra Sinha

Financial technology (fintech) is transforming household access to financial services. For households previously excluded from formal financial markets, fintech offers a pathway to financial stability, enabling consumption smoothing against income fluctuations and more effective responses to emergencies. However, use of fintech carries potential risks as well. Digital financial products may facilitate impulsive purchases leaving vulnerable households prone to overspending and compromising long-term financial stability.

We examine these two competing effects of digital inclusion using 2019 household survey data for India (Debt & Investment Survey, NSS 77th Round). The sample of roughly 100,000 households distinguishes between traditional inclusion (an account at a bank, post office, or non-bank financial company, or a credit card) and digital financial inclusion (an e-wallet). 

When faced with adverse income shocks, households with access to financial services are in a better position to borrow or draw on savings, mitigating the impact of temporary setbacks. Conversely, those excluded from financial systems are often forced to cut spending sharply, reinforcing cycles of poverty. Borrowing costs are a critical factor in the maintenance of consumption against adverse shocks. Because wealthier households generally face lower borrowing costs, they are able to smooth consumption more effectively than poorer households. We therefore factor in the role of wealth in our analysis of consumption smoothing.

The distributions of digital and traditional financial inclusion differ notably across wealth deciles, as shown in Figure 1. Traditional financial inclusion registers at about 94 percent for the lowest wealth decile and rises monotonically across the spectrum, reaching nearly 99 percent by the fourth decile. By contrast, digital financial inclusion exhibits a U-shaped pattern with greater prevalence at lower wealth deciles than in the mid range but ultimately reaching higher prevalence at the top deciles. This heterogeneity in financial inclusion among households in connection with wealth provides a basis for discerning differential effects on transitory consumption.

We adopt a two stage estimation procedure as discussed in Chen et al. (2018). In the first stage, we estimate permanent consumption as a function of household characteristics. The absolute value of the residuals from this regression is taken to proxy transitory consumption. In the second stage, we regress transitory consumption on the financial inclusion variables and on these variables interacted with wealth quartiles. Household characteristics incorporated in the first stage regression include measures of education, age, job type, location, social status, religion, and a fourth-order polynomial in wealth.  

The transitory consumption equation is estimated both with and without the wealth quartile interactive terms, with results presented in Table 1. If financial inclusion allows for consumption smoothing as expected, the signs on the coefficient estimates should be negative. This is indeed the case for traditional finance when wealth is not factored in. For digital finance, however, the sign is positive implying that rather than diminishing deviations from permanent consumption, inclusion has an amplifying effect. In explaining similar findings, Lai et al. (2020) and Agarwal et al. (2019) have argued that digital financial inclusion leads to over-sensitivity of consumption to income due to the greater ease of spending that an e-wallet brings.

We would expect this over-sensitivity to apply particularly to households of lower wealth given their more constrained liquidity, and this is borne out with the addition of the wealth interactive terms to the regression. The positive relationship between digital inclusion and transitory consumption is sustained only at the lowest wealth quartile. With each increase in wealth quartile, the negative effect of digital inclusion on transitory consumption grows larger and more statistically significant. Beyond the lowest quartile then, digital financial inclusion does appear to aid in consumption smoothing with the tendency strengthening as wealth increases. Traditional financial inclusion shows a very different pattern in connection with wealth. The lowest wealth quartile shows a reduction in transitory consumption relative to excluded households while at higher levels of wealth there is no discernible effect of inclusion.  

In constructing a transitory consumption variable as the absolute value of the difference between permanent and actual consumption, we have implicitly constrained the effects of adverse and favorable income shocks to be symmetric. An extension of our work differentiates between positive and negative transitory consumption. The estimation results confirm that digitally included households experience increased transitory consumption on the positive side. This lends credence to the view that access to digital payments contributes to overspending. Traditional inclusion, on the other hand, is associated with a reduction in negative transitory consumption suggesting that this mode of inclusion better equips households to cope with adverse shocks to income.

As fintech continues to evolve, governments and financial institutions must find the right balance between expanding access and protecting households from the risks of overspending. Policymakers must ensure that digital inclusion promotes equitable access to credit markets while safeguarding households from falling into debt traps caused by predatory or unfair lending practices. Additionally, educational programs on responsible digital financial management should be developed to help households navigate digital tools effectively, minimizing impulsive spending and fostering long-term financial stability.   

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Co-author Shushanta Mallick is a Professor at the School of Business and Management at Queen Mary University of London.

Co-author Apra Sinha is an Assistant Professor at the University of Delhi.