Fact Check: Did Demonetisation Lead To A Shift Towards Financial Assets?

The long-term implications of India’s November decision to withdraw currency notes of Rs 500 and Rs 1,000 are nowhere close to being apparent. Did it have the intended impact of curbing the black economy? Did it dent the Indian preference for cash? Did it curb the fake currency menace? How much currency was exchanged?

All questions that remain open ended.

Viral Acharya, deputy governor at the Reserve Bank of India (RBI), however, believes that an answer is emerging to at least one question: Did demonetisation lead to a shift towards financial assets?

Speaking in New Delhi over the weekend, Acharya said there has been a “non-linear shift” in Indian household savings towards the financial sector. Products such as mutual funds, structured investments and insurance have benefited from this shift, Acharya pointed out.

Does the data support this assertion?

Nearly 60% Of Deposits Stayed

When the currency exchange programme was announced, citizens rushed to exchange their old notes. The over-the-counter exchange of notes, however, was restricted in the early weeks due to shortage of new currency. This meant that most of old currency had to be deposited in banks and could only be withdrawn at a later stage.

Fearing a sudden surge in outflows when withdrawal restrictions were lifted, the central bank eased these curbs in stages. It was only in mid-March that all withdrawal restrictions were lifted. What has happened since then has surprised many, including bankers.

At the time of demonetisation, senior bankers like the State Bank of India Ltd.’s Arundhati Bhattachraya told BloombergQuint that she expected 25-30 percent of the deposits to stay in the system. As the process moved along, other bankers, including Aditya Puri of HDFC Bank Ltd., said that closer to 40 percent of the deposits that came in during the demonetisation period would stay within the banking system.

The actual proportion has surprised everyone.

Nearly 60 percent of demonetisation deposits have stayed with banks, RBI Deputy Governor S.S. Mundra told BloombergQuint in an interview last week. Aggregate deposits of scheduled commercial banks stood at Rs 106.5 lakh crore as of July 7, 2017, compared to Rs 96.2 lakh crore as of July 8, 2016, according to RBI data.

Beyond Savings Accounts & Into Mutual Funds

While the initial deposits came into current accounts and savings accounts (CASA), over time the funds have started to disperse across different products but appear to be staying within the financial sector.

Paresh Sukthankar, deputy managing director at HDFC Bank, on Monday said that a substantial proportion of the demonetisation deposits have proved to be sticky. He added that over the past few months, money has moved from low cost CASA accounts to fixed deposits and other financial instruments.

Data suggests that mutual funds have been among the beneficiaries. Mutual fund assets stood at Rs 18.96 lakh crore as of June-end, compared to Rs 16.28 lakh crore at the end of October 2016 before demonetisation was announced. That works out to an average increase of about Rs 33,500 crore each month over the eight month period. In contrast, the pace of monthly additions during the eight months between October 2015 and June 2016 stood at just over Rs 7,000 crore.

To be sure, mutual fund inflows had picked up even before demonetisation with systematic investment plans starting to come in vogue. Demonetisation appears to have added to this trend.

Insurance Inflows Get A Boost Too

Inflows into the insurance sector have picked up as well, although the pace of increase has been volatile for the sector.

In November 2016, the month when demonetisation was announced, first year premium collected nearly doubled, shows data available on the insurance regulator’s website. In the months since, the year-on-year growth rates have varied between 27 percent and (-)12 percent. In the months before demonetisation, growth rates ranged from a high of 60 percent in September 2016 to a low of 3.6 percent in October.

Between November 2016 and June 2017, first year premium of Rs 1.2 lakh crore has been collected by the life insurance industry, shows the data. Between November 2015 and June 2016, about Rs 1 lakh crore in first year premium had been collected.

The stickyness of this money will be determined over a longer period of time when data on long term persistency becomes available.

Acharya also mentioned a move into structured products, consolidated data for which is not available. However, there appears to be a fair amount of evidence to support Acharya’s claim of a move towards financial assets in the aftermath of demonetisation.

There “is merit in allowing the money to remain in the system as the money starts to earn,” said Mundra when asked why the deposits have proven to be sticky.