The most beneficial impact of November 2016 demonetisation was that it ushered in an enduring era of electronic payments system — wholesale and retail. This was sustained by technological innovations like the Unified Payments Interface (UPI), Covid-19 induced shutdowns and expanding financial inclusion.

Today, the Indian payments system has emerged as reliable, secure, low-cost and convenient — characteristics of an efficient payments system.

It may be recalled that ₹2000 notes, which were introduced post-demonetisation, were withdrawn from circulation by the RBI from May 19, 2023, onwards, although these continue to be legal tender. By September 30, 2024, 98 per cent of ₹2000 notes in circulation on May 19, 2023 were returned.

It may also be mentioned that the demonetisation replaced the then ₹500 notes with newly designed ₹500 notes, whereas no ₹1000 note was introduced thereafter.

Against this backdrop, the piece examines the implications of rapid and comprehensive adaptation of technology in the retail payments space for circulation of the high denomination notes (HDNs) comprising ₹100, ₹200 and ₹500.

The electronic retail transaction (ERT) modes considered are: UPI, National Electronic Funds Transfer, credit and debit card payments, mobile payments, net banking, and cash withdrawal at ATMs/points-of-sale/micro-ATMs.

The article covers the four-year period, 2020-21 to 2023-24, as it encapsulates the crystallised impact of technology adaptation.

ERT progress

During 2020-21 to 2023-24, ERT, by volume, continuously increased from 68 billion to 282 billion, registering a Compound Annual Growth Rate (CAGR) of 60.9 per cent. By value also, it continuously rose from ₹1,100 trillion to ₹1,979 trillion with a CAGR of 21.6 per cent, which exceeded even the CAGR of GDP at current prices at 14.2 per cent during the same period.

Consequently, the average transaction size (ATS) gradually declined from ₹16,255 in 2020-21 to ₹7,024 in 2023-24, indicating increasing popularity of these modes even among small spenders.

Against 21.6 per cent CAGR registered by ERTs during 2020-21 to 2023-24, ‘currency with public’ (CwP) and ‘transactions via paper-based instruments’ (TPI) posted just 7.4 per cent and 8.6 per cent CAGRs, respectively.

Consequently, the CwP/ERT and TPI/ERT ratios serially declined from 2.5 per cent to 1.7 per cent, and from 5.1 per cent to 3.6 per cent, respectively.

While the ERT/GDP ratio further surged from 554.2 per cent to 670.1 per cent, the CwP/GDP and TPI/GDP ratios declined from 13.9 per cent to 11.5 per cent, and from 28.3 per cent to 24.4 per cent, respectively.

In sum, ERTs have replaced currency and paper-based instruments rapidly and drastically.

ERT AND HDNs

The Table presents the composition of HDNs in circulation. The volume and value of HDNs, in aggregate, grew at CAGRs of 11.6 per cent and 14.6 per cent, respectively, during 2021-24. Denomination-wise, in terms of value/volume, the highest CAGR was registered by ₹500 (15.9 per cent) followed by ₹200 (9.8 per cent) and ₹100 (2.6 per cent).

By volume and value, ₹500 notes had the highest share in the total HDNs, which increased over the years. While the share of ₹100 remained above that of ₹200, the former declined at a rate faster than that of the latter.

The Chart, which illustrates the relationship between ERT and HDNs (in value terms), clearly shows that the ₹500 notes increased more rapidly than ₹100 and ₹200. According to RBI, ₹2000 notes were introduced to meet the currency requirement expeditiously after the demonetisation, and once it was met after the other denomination notes were available, their printing was stopped in 2018-19.

Nevertheless, looking at the introduction of ₹2000 notes, simultaneously with abolition of ₹1000 notes, many also had, ab initio, doubted its future continuity. Thus, from 2018-19 onwards, high growth of ₹500 was observed.

The spike in ₹500 notes during 2023-24 (broken lines in Chart 1) could be due to bulk withdrawals from accounts after the withdrawal of ₹2000 notes from circulation in May 2023.

For instance, going by the fortnight-on-fortnight changes in demand deposits of all scheduled banks during April 7, 2023 to March 22, 2024, sharp dips were observed on July 14, 2023 (by ₹2.67 trillion) and January 12, 2024 (by ₹1.72 trillion).

On ‘per capita’ basis, circulation of HDNs was 13-14 pieces for ₹100 and 4-5 pieces for ₹200, but for ₹500, it surged from 27 to 42 pieces.

In sum, circulation of ₹500 notes marched ahead, despite soaring ERT and plummeting ATS. Known as the “paradox of banknotes”, the phenomenon, in recent years, has been noticed in many economies. This means that the demand for cash (especially HDNs) increases, as the ERT increases lead to decreases in cash transactions.

As the research findings by eminent economists like JP Gordon, Charles AE Goodhart and Kenneth Rogoff reveal, ceteris paribus, HDNs are used for illegal activities and support cash hoarding, money laundering and counterfeiting of bank notes and the like, and they recommend smaller denominations. Therefore, the “paradox” should be heeded.

However, it doesn’t and shouldn’t mean that all ₹500 notes are used for illegal purposes; it is quite plausible that these are also being used for genuine high-value transactions, paradoxically though. Besides, ATMs dispense mostly ₹500 notes while withdrawing large sums.

Movements in relative growth rates and shares of ₹100 and ₹200 tempt us to infer that, eventually, the latter will dominate the former. Shifting to smaller denominations may increase the printing cost of notes, but it would be worth it.

Das is a former senior economist, SBI. Views are personal

Research findings by eminent economists reveal high denomination notes are used for illegal activities and support cash hoarding, money laundering and counterfeiting of bank notes