Cash is still king in India but not for much longer if India’s central bank has any say.

The Indian government has announced a decision to withdraw 2,000-rupee notes from circulation. This move is aimed at curbing black market and counterfeit money, enhancing tax compliance, and promoting a digital payment ecosystem.

India’s central bank has the sole right to issue banknotes and determine their denominations. The central bank also has the power to declare certain banknotes as non-legal tender. The central bank has exercised this power twice before: in 1978, when it demonetized 1,000, 5,000, and 10,000-rupee notes, and in 2016, when it demonetized 500 and 1,000-rupee notes.

The decision to withdraw the 2,000-rupee notes is based on several economic considerations.

First, 2,000-rupee notes account for a large share of the currency in circulation, but a low share of transactions. According to a recent central bank report, the 2,000-rupee notes constituted 22.6% of currency in circulation by value, but only 2.4% by volume. This implies that these notes are mostly used for hoarding or storing wealth, rather than for buying things.

Second, the 2,000-rupee notes are easier to counterfeit and smuggle than lower denomination notes, posing a threat to India’s economy.

Third, the 2,000-rupee notes are incompatible with most ATMs and cash dispensers, creating operational difficulties and inefficiencies.

Fourth, the 2,000-rupee notes impede the government’s vision of a cashless society, where digital payments are preferred over cash payments. By reducing the supply of high-value notes, the government hopes to encourage people to adopt digital payment technologies, which are more transparent, taxable, convenient, and cost-effective.

The withdrawal of the 2,000-rupee notes will have significant implications for various sectors of the economy.

On the positive side, it will help in tackling black market money, counterfeiting, tax dodgers, corruption, and money laundering, as these activities rely heavily on cash transactions. It will also boost the digital payments ecosystem, which has grown rapidly in recent years due to various initiatives such as QR codes. Moreover, it will improve the efficiency and security of the currency management system, as the central bank will have to print fewer notes and transport them less frequently.

On the negative side, it will cause some inconvenience and disruption to businesses, especially in rural areas and informal sectors where cash is still king. It will also entail some costs for banks in recalibrating their machines to handle lower denomination notes. Furthermore, it will have some impact on inflation and growth, as the reduction of cash in circulation will lower the money supply and aggregate demand in the economy.

The IMF has welcomed the decision to withdraw the 2,000-rupee notes as a positive step towards enhancing financial inclusion and transparency. The IMF has also revised its growth projection for India upwards to 7.1%, citing a strong economic recovery from the pandemic and favorable structural reforms. The IMF has advised India to continue its fiscal consolidation efforts and implement further reforms in areas such as labour, land, agriculture, and infrastructure.

The withdrawal of the 2,000-rupee notes will have far-reaching consequences for the Indian economy. It is expected to bring long-term benefits in terms of curbing illicit activities, promoting digital payments, and improving currency management. However, it will also pose some short-term challenges in terms of ensuring a smooth transition and minimizing inconvenience to the public and businesses. The success of this decision will depend on how well it is implemented and communicated by the government.