DEMONETIZATION : CASH SHORTAGE AND CURRENCY HOARDING

Now it is more than a month that the legal tender status of the old Rs 500 and 1000 notes (referred to as specified bank notes or SBNs) was withdrawn. Everyone in the country, including foreigners in India, of different categories, are put to difficulties due to cash shortage.  Further it is observed that there is no end to the shortage issue.  It is also a question that whether the cash holding of black money by hoarders, would result in cash shortage?

How does it matter if the cash is piled up in the houses and safes of some who are not going to release it for a long time or is with the banks and the RBI? Either way it would not be available for immediate use by others.

Precisely, the hoarding of cash by some people would be equivalent to withdrawing that cash from effective circulation, since neither the hoarders nor anyone else would be using it to make payments.  Thus the total currency issued by RBI can be divided in to two sections – one is the black cash in hoarding and the other is one which in active circulation.  If the money hoarded part is found to be large when compared to the total currency issued and the one in circulation is small, then the only possibility of our not literally feeling the cash shortage effect, before demonetization could be the smaller amount of cash in circulation which was sufficient enough to cover the major money requirement.

To conclude, the replenishment of a smaller amount of currency than the amount which was discarded due to demonetisation should be sufficient enough to bring back normalcy, which again is subject to the fact that the replenishment will be not used for conversion of money hoarded by the India’s black money holders.

In simple words, we can say like this – The greater and longer the pain of demonetisation, the greater is the degree to which large amounts of black incomes are held in the form of cash holdings – is diluted.

Few other points notable here are:

• RBI figures as on 10^th of December after demonetisation reveals that around 7 lakh crores cash was available to the public.
• This amount consisted of valid currency available with the public plus the SBNs converted during the period 10^th November 2016 to 10^th December 2016 (which is Rs. 4.61 lakh crores of SBN plus old currency of smaller denominations held amounting to Rs. 2.4 lakh crores).
• Further around Rs. 12.44 lakh crores of invalid SBNs (more than 80% of money in circulation on Nov 8) have been deposited in to bank accounts.
• The balance of these dpeosits after deduction was also usable by depositors to make payments through non-cash modes (which has no restriction).
• In other words, in spite of moving such payments to other modes, currency of Rs. 7 lakh crores was not sufficient to meet the public requirement in respect of money required for circulation.
• Even if we assume that a portion of Rs. 12.44 lakh crore deposits relates to Black Money, the possibility of hoarding of major portion of such currency is unlikely.
• The shortage of currency is hence, still very acute and the currency equivalent made available is one third of the invalidated amount from 9^th November 2016.

There are three basic ways in which people usually get cash in their hands.

1. They could receive it from someone else as payment for something – a service provided or a good sold.
2. Alternatively, they withdraw it from their bank deposits at a bank branch or making use of an ATM.
3. A third way is borrowing cash from someone who already has it or receiving it as some kind of transfer (a gift, parents giving pocket money to their children, a bribe, etcetera). The shortage of cash is being experienced in all these different ways – apart from the inability to withdraw from bank deposits is the absence of buyers who would make payments with currency or lenders who can lend in that form.
4. Each of these ways by which people get cash involves its transfer between themselves or banks – the circulation of currency rather than its standing still. These cannot change the quantity of the total currency in circulation, which is defined as the sum of the currency with the public and the cash reserves held by banks (in normal times the former is close to 96% of the total).

Thus, of the stock of currency in circulation on November 4, 2016, less than 15% consisted of the part added over the previous year (and there would be some additional part which would be the replacement of older worn out currency).

Further, it is absurd to assume that, even after the income-tax officials can go through the mountains of data generated by this exercise, a large part of taxable income that escapes detection will get revealed through the exercise of forcing cash to be deposited in accounts.

In any case, currency is not simply withdrawn from banks – it is also deposited. At all times, some deposit currency with banks while others withdraw and any change in the currency with the public is only the difference between what has been withdrawn and what is deposited. Thus, in 2015-16, the withdrawals of cash from ATMs alone over the year added up to more than Rs 25 lakh crore, while the increase in the currency with the public that year was barely Rs. 2.11 lakh crore – and both these figures are from the RBI. Obviously, a very large amount of cash, much greater than the stock of the currency with the public at any time was also deposited with banks during the same year.

This also means that the one-time depositing of currency compelled by demonetisation does not achieve very much in terms of additional information generated for India’s tax authorities.