RBI to Withdraw Rs 2,000 Notes from Circulation | 23 May 2023

Why in News?

On May 19, 2023, the Reserve Bank of India (RBI) announced that it will withdraw the Rs 2000 denomination banknotes from circulation.

• While the existing notes will remain legal tender. The RBI has provided a generous timeframe, allowing individuals to deposit or exchange the notes until September 30, 2023.
• This move is part of the RBI's Clean Note Policy, which aims to provide the public with high-quality currency notes and coins with improved security features.

Why did the RBI Withdraw the 2000 Rupees Notes?

• Withdrawal of 2000 Rupee Note:
  • The RBI said that the withdrawal of the 2000 rupees notes is part of its currency management operations.
  • The Rs 2000 banknotes were introduced in 2016 to meet the immediate currency requirements after the withdrawal of Rs 500 and Rs 1000 notes during the demonetization exercise.
    • With an adequate supply of other denominations available, the printing of Rs 2000 notes was stopped in 2018-19, as the initial objective of expediting the currency requirement was achieved.
  • As of March 31, 2023, the value of Rs 2000 banknotes in circulation has decreased to Rs 3.62 lakh crore, constituting only 10.8% of the total notes in circulation.
    • The last time India demonetised currency was in November 2016 when the government withdrew 500 and 1000 rupees notes in an effort to remove forgeries from circulation.
    • The move took away 86% of the economy's currency in circulation by value overnight.
• Exchanging and Depositing Rs 2000 Notes:
  • The exchange limit for Rs 2000 banknotes is set at Rs 20,000 at a time. Non-account holders can also exchange these banknotes at any bank branch.
  • Deposits into bank accounts can be made without limitations, subject to compliance with Know Your Customer (KYC) norms and other applicable regulations.
• Impact:
  • The RBI governor stated that the impact of withdrawal of 2000 rupees notes will be "very very marginal" on the economy because it accounts for only 10.8% of currency in circulation.
    • The withdrawal will not cause disruption "either in normal life or in the economy" as there is an adequate stock of banknotes in other denominations.
  • Some economists said that the withdrawal of the higher-value note is "a sensible form of demonetization" and could boost bank deposits at a time of high credit growth.
    • The withdrawal could ease the pressure on deposit rate hikes and could also result in moderation in short-term interest rates and would help to curb black money and corruption.

What is Demonetization in India?

• About:
  • Demonetization is the act of stripping a currency unit of its status as legal tender. The current form or forms of money is pulled from circulation and retired, often to be replaced with new notes or coins.
• Legality in India:
  • The legal basis for demonetization in India is Section 26(2) of the Reserve Bank of India Act, 1934, which empowers the central government to declare any series of banknotes as ceasing to be legal tender by notification in the Official Gazette, on the recommendation of RBI.
  • The legality of demonetization was challenged in several petitions filed in various courts across India.
    • However, the Supreme Court upheld the demonetisation as valid and stated that demonetisation of currency notes of Rs 500 and Rs 1,000 satisfied the test of proportionality.
      • The test of proportionality refers to whether the benefits of demonetisation outweigh the costs.
      • To satisfy the test of proportionality, the benefits of demonetisation must be significant enough to justify the costs and disruptions that it may cause.
• Advantages:
  • Stabilization of Currency: Demonetization has been used as a tool to stabilize the currency and fight inflation, facilitate trade, curb counterfeiting and access to markets, and push informal economic activity into more transparency and away from black and gray markets.
  • Curbing Black Money: The government argued that demonetization would flush out the black money or unaccounted income held in cash by tax evaders, corrupt officials, criminals and terrorists.
    • This would increase the tax base and revenue of the government and reduce corruption and crime in the country.
  • Promotes Digitization: It also encourages digitisation of commercial transactions, formalizes the economy and so, boosts government tax revenues. It also improves transparency, efficiency and convenience in the payment system and reduces the cost of printing and managing currency.
    • The formalization of the economy means bringing companies under the regulatory regime of government and subject to laws related to manufacturing and income tax.
• Disadvantages:
  • Temporary Slowdown: The conversion process during demonetization can lead to a temporary slowdown in economic activity.
    • The disruption caused by the sudden withdrawal of old currency and the limited availability of new currency can hamper business transactions, consumer spending, and overall economic productivity.
  • Administrative Cost: Implementing demonetization involves substantial administrative costs. Printing new currency notes, recalibrating ATMs, and disseminating information about the changes can be expensive.
    • These costs are typically borne by the government, which can strain public finances and divert resources from other essential sectors or public welfare programs.
  • Impact on Cash Driven Sectors: Cash-driven sectors, such as retail, hospitality, and small businesses, can suffer significantly during demonetization.
    • Small businesses, especially those operating on thin profit margins, may struggle to adapt to the new payment systems, resulting in reduced sales, layoffs, and, in extreme cases, business closures.

Source: IE