Cash Crunch Part 2: RBI and Arun Jaitley have a lot of explaining to do

Several months ago, I had tweeted that the Reserve Bank of India was not pumping enough currency in circulation and that we were clearly heading towards another cash crunch.

Since my assessment was based on RBI’s own data, there is no way the central bank or the finance ministry could have been clueless. In fact, after much denial and considerable hemming and hawing this week, the Government eventually agreed that there was not enough cash in circulation. Finance Ministry officials also let out that they were now ready to pump an additional ₹75,000 crore of cash into the system.

The question to ask is why the Finance Ministry and the RBI allowed the cash crunch to develop. This was by no means an overnight phenomenon. And why have they now relented and offered to print fresh currency after claiming that there was no crisis?

Those who are suspicious by nature would see some correlation between the decision to print currency on an emergency basis with the Karnataka state election that is round the corner. The freshly printed currency will be available in time for the election next month, they might add.

Others, who are more charitable, can blame the cash crunch on the incompetence of the RBI and say that the central bank is no longer taking professional decisions based on inputs from their own experts; that instead the RBI is dancing to the tune of bureaucrats in the finance ministry.

Another possible explanation can be that the Government was clueless because of its stubborn refusal to accept that demonetisation was a monumental blunder. It simply took its eyes off.

None of these explanations cut much ice. In other words, there is more to it than meets the eye.

What does the data tell us?

It is worth recalling here that RBI had made it binding on all currency chests to report about the status of currency movement from the chest every day through a sophisticated decision support system called Integrated Computerised Currency Operations and Management System (ICCOMS). All along RBI has been efficiently managing currency distribution from its 4,000 plus currency chests across the country till demonetisation. Since then, as we all know, its currency management has left much to be desired.

Contrary to media reports, there has been no abnormal withdrawal of cash through ATMs, judging by RBI data available till February, 2018. While ‘Sarkari experts’ have been saying on TV channels that an extraordinary withdrawal of ₹45,000 crore in just three weeks caused the cash crunch, I find no such abnormality in the RBI’s own data.

India withdraws ₹2.4 to 2.5 lakh crores every month from ATMs alone. India withdrew ₹2.64 lakh crores from ATMs using debit cards in the month of December 2017. In October 2016, this was ₹2.55 lakh crores. What is so big about ₹45,000 crore in three weeks, then?

Now look at the theory of drop in bank deposits. In fact, between March 31 and April 14 last year, drop in the deposits were as much as ₹2.19 lakh crore! Between September 29 and October 10, the drop in the total deposits amounted to ₹91,750 crore. So, what is the big deal about ₹53,000 crore in the first fortnight of February, when much higher drops in deposits have been recorded earlier? Why did the ATMs not run dry then?

The other speculation has centred around the alleged policy decision to have less cash in the system in order to encourage digital transactions. But the annual growth in digital transactions, after peaking at 53% in 2016-17, shrunk to 36% in 2017-18. In any case, the average growth of digital transactions for the past five years has been 44%. And as we will see, there is more cash in circulation than ever before, and certainly more cash than before demonetisation.

The ratio of Cash In Circulation (CIC) to GDP in India has hovered around 11% and experts agree that a ratio of 11.8% is needed for the Indian economy. A healthy CIC:GDP ratio, therefore, would translate to ₹20.03 lakh crore of cash in circulation. But RBI data shows that as on April 6, 2018, CIC was ₹18.425 lakh crore.

In other words, therefore, we still need ₹1.5 lakh crore of additional cash to tide over the cash crunch. But the babus in their wisdom have decided to pump in only ₹75,000 crore. The question is why? There are no easy answers.

The author is a well-known blogger and number cruncher. This piece has been put together with his tweets over the past several days