NextBillion - An Initiative of the William Davidson Institute at the University of Michigan

Wednesday, February 22, 2017

When Indian Prime Minister Narendra Modi announced the withdrawal of ₹500 (US$7.40) and ₹1,000 (US$15) banknotes from circulation in November 2016, the government said its demonetisation drive would curb India’s shadow economy and suppress the use of illicit and counterfeit cash in the economy.

If there’s one sector that’s done particularly well as a result of government’s move, it’s the banking sector.

Banks received deposits worth ₹6 trillion (US$88 billion) and overall banking deposits with the Reserve Bank of India reached a record high of ₹4.3 trillion (US$63.1 billion) within two weeks of the currency ban.

So the demonetisation was a well-planned move in terms of the health of the Indian banking system. Five months before the drive, the total amount of gross non-performing assets (loans are classified like this after 90 days of non-payment of interest or principal) for public and private sector banks was around ₹6lakh crore (US$88 billion).

To understand how big this problem was, one needs to see the figure against the total loans given out by India’s banking system. That ratio corresponded to 11.8% of total credit advanced in September 2016, and it’s expected to reach 12.5% by March 2017.