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Factors Behind Latest Cash Crunch

Factors Behind Latest Cash Crunch

Post MBA entrance exams when you will face GD & PI and during this period, your information on current affairs will prove to be very handy, not only content wise but you will remain a confident personality.

Following article on “Factors behind latest Cash Crunch” should give insight  to you.

Although cash crunch has eased out now but over the past few weeks, several states in India were  going through a severe cash crunch where most of the bank Automated Teller Machines (ATM) are running dry. It first started in the southern states and then spread to the northern states over the past two weeks. The states affected by the current cash crunch are Karnataka, Andhra Pradesh, Telangana, Madhya Pradesh, Uttar Pradesh and parts of Bihar, Maharashtra and Delhi. 

While the opposition parties and groups critical of government have called it the persisting ill-effects of demonetisation, the government and Reserve Bank of India (RBI) said that there is sufficient cash in the bank vaults and the current crisis is the result of temporary mismatch in demand and supply of cash.  

Demand Side Factors

According to the RBI, people withdrew INR36,518 crores from ATMs in November 2017 which increased to INR41,102 crores in the month January, 2018. Major reasons behind the sudden spirt in demand are as under:

  • The Rabi season has increased the cash demands from farming community.
  • The marriage season has also resulted in increase in cash demand.    
  • The election season has led to the increase in cash demand from political parties. 
  • Cash payments made under the state government schemes in Telangana and Andhra Pradesh
  • Concerns about Financial Resolution and Deposit Insurance (FRDI) bill too may have played a critical role in triggering the current cash crunch. Many people withdrew cash fearing they could lose their hard earned money if banks shut down. 

Supply Side Factors

  • People hoarding INR2000 denomination bank notes which RBI has stopped printing since February 2017.  According to some media reports, apart from the political parties and some people, RBI is also hoarding the INR2000 denomination bank notes to kill them gradually. 
  • About INR 6.7 lakh crore worth of INR2000 notes in circulation (out of the total INR18.43 lakh crore of current in circulation), nearly 25% have not returned to the banking system and hence are believed to have been hoarded.
  • Analysis of the data from RBI shows that it has consistently been reducing the supply of currency after pumping in record amounts following demonetisation. 
  • There are four cassettes in ATM with capacity of around INR6.5 million. Usually, one cassette is filled by INR2,000, two cassettes by INR500 and one by INR100. Bankers claim that because of the INR2,000 shortage, 45% of the ATM capacity is unutilised. 
  • Some reports suggest that instead of INR2000, RBI is printing INR200 notes for which many ATMs are not calibrated. 
  • According to the All India Bank Officer's Confederation (AIBOC), have been facing a cash shortfall by 30-40% and this is mainly due to a shortage of currency notes of higher denomination
  • As the election year has arrived, many political parties have started hoarding cash. 

The role of supply-side factors behind the current currency crunch seems to be stronger than the demand-side factors because most of the demand-side factors existed almost every year but such crunch was not witnessed in pre-demonetization era. 

Other Factors

In March 2018, the RBI disallowed banks from transferring cash from one circle to another, a routine practice otherwise. As a result, banks were left with excess cash in some branches while other branches remained deficient in cash. This cash shortage percolated to the masses as well. 

Another reason is the slow growth of bank deposits in 2017-18 which left a gap which was not anticipated by the banks. In 2017-18, the bank deposit growth was 6.7%, lowest in the past 54 years, against 15.3% in 2016-17. If the growth in 2017-18 would have been similar to previous fiscal, banks could have additional INR9.28 lakhs crores. There is an inverse relation between size of deposits in banks and cash demand by banks from RBI. A low growth in banks deposits resulted in higher cash demand from central bank.   

Many reports also suggest that increase in cash demand is a sign of economy moving towards the informal sector where cash is king.  

Certain proportion of cash is vital for efficient functioning of every economy depending upon the GDP growth. In 2015-16, before demonetization, the currency in circulation (CIC) and GDP ratio was 12% which was dropped to 8.7% after demonetization. Though CIC/GDP ratio increased to 10.7% now but it is still below the pre-demonetization level. As in March 2018, the currency in circulation was INR18.29 lakhs crores as against INR17.89 lakhs crore just before demonetization. Thus, we can surmise that growth in CIC is not commensurate with the GDP growth because of which cash shortage was bound to happen sooner or later. 

Measures Taken By Government

The government will constitute a multi-agency task force under the Prime Minister’s Office (PMO) to investigate the cash crunch in ATMs across the country. The special team has been asked to submit its report in the next 15 days. The finance ministry has said that the reason behind the cash crunch will be known only after a detailed report on the issue is prepared. 

The finance ministry held a meeting with the RBI officials to ensure that there was no large-scale hoarding of cash which might set in panic among people. The ministry officials also held consultations with state officials and bank heads in the wake of shortage of cash. 

The government has decided to increase printing of INR500 denomination notes fivefold. Economic Affairs secretary said that cash is being supplied to meet the demand and notes equivalent to INR2,500 crore are being printed daily and the current currency crunch has eased and will be over soon. 

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