MUMBAI: India will withdraw its highest denomination banknote from circulation, the Reserve Bank of India said on Friday. The 2,000 rupee note, put into circulation in 2016, remains legal tender but citizens have been asked to deposit or exchange these notes by 30 September 2023.
The decision is reminiscent of a shock move in 2016 when the Narenda Modi-led government drained 86% of the economy’s cash balance overnight.
Analysts and economists expect the move will be less disruptive this time around, however, as lower-denomination notes are withdrawn over a longer period of time.
Why did the government confiscate Rs 2,000 notes?
When 2,000 rupee notes were introduced in 2016, they would soon replenish cash in circulation in the Indian economy demonization.
However, the central bank has frequently stated that it intends to reduce the circulation of high value banknotes and has stopped printing 2,000 rupee banknotes for the past four years.
“This denomination is not normally used for transactions,” the Reserve Bank of India said in its statement, explaining the decision to retire these notes.
Why now?
While the government and central bank didn’t say the reason for the timing of the move, analysts note that it comes ahead of the country’s state and general elections, when cash use typically spikes.
“Taking such a step before the general election is a wise decision,” said Rupa Rege Nitsure, chief group economist at L&T Finance Holdings. “People using these banknotes as a store of value could expect some inconvenience,” she said.
Will this affect economic growth?
The value of the 2,000 rupee notes in circulation is 3.62 trillion Indian rupees ($44.27 billion). That is about 10.8% of cash in circulation.
“This withdrawal will not cause major disruption as the smaller quantity banknotes are available in sufficient quantity,” Nitsure said. “The scope of digital transactions and e-commerce has also expanded significantly in the last 6-7 years.”
But small businesses and cash-oriented sectors like agriculture and construction could face inconveniences in the near term, said Yuvika Singhal, an economist at QuantEco Research.
To the extent that people holding these notes choose to make purchases using them rather than depositing them in bank accounts, there could be some surge in discretionary purchases like gold, Singhal said.
What impact will it have on banks?
As the government has asked people to deposit the banknotes or exchange them for smaller denominations by September 30, bank deposits will increase. This comes at a time when deposit growth is lagging behind bank loan growth.
This will ease the pressure on increases in deposit rates, said Karthik Srinivasan, group head of financial sector ratings at rating agency ICRA Ltd.
The liquidity of the banking system will also improve.
“As all 2000 rupee notes come back into the banking system, we will see a decrease in cash in circulation, which in turn will help improve the liquidity of the banking system,” said Madhavi Arora, an economist at Emkay Global Financial Services.
What are the implications for the bond markets?
Improved liquidity in the banking system and an inflow of bank deposits could cause short-term interest rates in the market to fall as those funds are invested in shorter-term government securities, Srinivasan said.
The decision is reminiscent of a shock move in 2016 when the Narenda Modi-led government drained 86% of the economy’s cash balance overnight.
Analysts and economists expect the move will be less disruptive this time around, however, as lower-denomination notes are withdrawn over a longer period of time.
Why did the government confiscate Rs 2,000 notes?
When 2,000 rupee notes were introduced in 2016, they would soon replenish cash in circulation in the Indian economy demonization.
However, the central bank has frequently stated that it intends to reduce the circulation of high value banknotes and has stopped printing 2,000 rupee banknotes for the past four years.
“This denomination is not normally used for transactions,” the Reserve Bank of India said in its statement, explaining the decision to retire these notes.
Why now?
While the government and central bank didn’t say the reason for the timing of the move, analysts note that it comes ahead of the country’s state and general elections, when cash use typically spikes.
“Taking such a step before the general election is a wise decision,” said Rupa Rege Nitsure, chief group economist at L&T Finance Holdings. “People using these banknotes as a store of value could expect some inconvenience,” she said.
Will this affect economic growth?
The value of the 2,000 rupee notes in circulation is 3.62 trillion Indian rupees ($44.27 billion). That is about 10.8% of cash in circulation.
“This withdrawal will not cause major disruption as the smaller quantity banknotes are available in sufficient quantity,” Nitsure said. “The scope of digital transactions and e-commerce has also expanded significantly in the last 6-7 years.”
But small businesses and cash-oriented sectors like agriculture and construction could face inconveniences in the near term, said Yuvika Singhal, an economist at QuantEco Research.
To the extent that people holding these notes choose to make purchases using them rather than depositing them in bank accounts, there could be some surge in discretionary purchases like gold, Singhal said.
What impact will it have on banks?
As the government has asked people to deposit the banknotes or exchange them for smaller denominations by September 30, bank deposits will increase. This comes at a time when deposit growth is lagging behind bank loan growth.
This will ease the pressure on increases in deposit rates, said Karthik Srinivasan, group head of financial sector ratings at rating agency ICRA Ltd.
The liquidity of the banking system will also improve.
“As all 2000 rupee notes come back into the banking system, we will see a decrease in cash in circulation, which in turn will help improve the liquidity of the banking system,” said Madhavi Arora, an economist at Emkay Global Financial Services.
What are the implications for the bond markets?
Improved liquidity in the banking system and an inflow of bank deposits could cause short-term interest rates in the market to fall as those funds are invested in shorter-term government securities, Srinivasan said.
