The RBI’s press release on the withdrawal of the Rs 2000 notes is quite revealing. The RBI has indicated that around Rs 2.72 lakh crore of the total of Rs 3.56 lakh crore of these notes have come back into the system which is about 76%. Therefore it does look like that the entire amount would come back in due course of time which is by September 30. What is one to make of this?
The first is that it does not look like that these notes were used for storing black money. The fact that deposits have accounted for 87% of the exchanged money means that there is an audit trail for the government and the tax department. Intuitively all this is clean money as one would not have deposited the same in the bank account if these amounts could not be justified.
Second, the fact that this amount has been put in as deposits has changed the liquidity situation in the system as banks have suddenly found themselves with extra funds. It may be recollected that bank deposits had grown at a slower rate than credit in FY23 which led to a gap between demand and supply of funds. Some of the banks had dipped into their capital for lending purposes. Now with Rs 2.36 lakh crore of money coming in for banks, the supply side issue has been addressed.
Third, this development also raises a conundrum for banks. On one hand with these deposits increasing, it may not be necessary to raise interest rates any further. The RBI is expected to maintain status quo until February 2024; and in the absence of these deposits there could have been pressure on banks to raise deposit rates to fund credit growth. This will provide comfort to the banks.
However, on the other hand such a large quantum coming in exogenously will also push up their interest costs. If we assume that the same ratio of 85% plus would be maintained for the balance Rs 0.84 crore of notes that have to come back to the system as deposits, then the total of around Rs 3 lakh crore would be with the banks. Assuming an average of 5% is paid (as one cannot be sure as to how much would be in the form of savings and term deposits), there would be an additional cost of Rs 15,000 for the system. This amount has to be deployed in the form of credit and in case there is less demand, would have to be used in the market for treasury activity.
Fourth, from the point of view of the RBI there will be probably be more intervention expected which can be seen even today. With liquidity being in surplus, the RBI has had to take a different position as far as the markets are concerned. From a stage where the central bank was working on providing liquidity in the market through the V2R auctions (variable rate repo term auctions), it has not moved to V3R (variable reverse repo rate auctions) to mop up liquidity and ensure that the money market rates remain stable. This will be work in progress for sure until the excess liquidity gets assimilated in the system. In this context it would be interesting to see if the RBI fast tracks the borrowing programme of the government given the availability of funds.
Fifth, as around 13-15% of the total currency has been exchanged for lower denomination notes and will probably carry on in the same vein, the cost of printing notes would be involved though admittedly this may not be very significant given that the majority has gone into deposits.
An interesting statement made at the time of announcing the withdrawal of the Rs 2000 notes was that this was part of a regular policy of the central bank on clean notes, which essentially means removing old notes and having them replaced with new ones. As the Rs 2000 note was issued along with other notes in the denomination of Rs 500, Rs 200 and Rs 100, the important question in the minds of citizens would be whether or not the same would be done with these notes given that a large part of the notes exchanged in the 2016 exercise was also in these denominations.
As the withdrawal of the Rs 2000 note had a surprise element it was largely believed that getting after black money was a motivation behind this decision. Black money is still a hard nut to crack as holding such money would tend to migrate to currencies with lower denomination. Therefore there will be migration to Rs 500 notes. As long as the system provides avenues for ‘rent seeking’ there would always be scope for creation of black money. Today land sales still take place with cash payments and the rationale is that the seller who accepts cash has paid the same when acquiring the property. Real estate developers have to bribe their way through the systems to get power connections, municipal clearances and so on. We have not managed to really accomplish the task of getting in a single window system where everything is seamless and there is no manual intervention.
Similarly elections involve a large amount of cash transactions for paying the voters as well as spending on campaigning. While the Election Commission has placed limits, one can see that much larger amounts are spent on these campaigns. Similarly, ceremonies and functions open the doors to using cash to escape paying taxes. Probably more moderate taxes can address these issues.
Hence, if the move to withdraw the notes was purely an administrative motivation, it would be regarded a success. However, if the underlying aim was to capture black money in the system, it does look like that there is still a long way to go. GST and RERA has plugged some gaps with success, but the system needs more affirmative system-linked actions.
The author is Chief Economist, Bank of Baroda and author of ‘Corporate Quirks: The Darker Side of the Sun’. Views are personal
