Low Velocity of Cash Circulation in large States Hints at Sluggish Economy

Prelims level : Economy Mains level : Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment.
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In News:

  • According to a report by the State Bank of India, While the currency in circulation has surpassed what it was in the pre-demonetisation days, it is still short of what it should have been and the lower velocity of circulation in larger States points to sluggish economic activity.


  • Currency in circulation has gone up to Rs. 20.6 lakh crore as on February 1. It was Rs. 17.97 lakh crore a week before 86% of the currency was rendered invalid on November 9, 2016. “Our current estimates suggest that CIC [currency in circulation] is still short of trend by at least Rs. 1.5 lakh crore.
  • Thus, any argument of cash coming back aggressively into the system and financing informal activities is not entirely correct It estimates bank notes in circulation by March 2019 ought to have been at Rs. 22.45 lakh crore, but given the present trend of growth, it is expected to reach only Rs. 20.9 lakh crore by then. It further said with income velocity of money having shown a ‘sharp plunge’, it possibly implies that currency of higher denomination (Rs. 2,000) is not getting adequately circulated in the economy.

State level:

  • Larger States like Maharashtra, U.P., and Karnataka, income velocity is far lesser than the national average, while in States like Chhattisgarh, M.P., A.P. and J&K, the velocity is much higher than the average. A declining income velocity of money clearly suggests that a pick-up in economic activity remains elusive. Rural economy still remains depressed, with latest inflation numbers suggesting any meaningful pick-up in food inflation is still at a distance

What is currency in Circulation?

  • It is the total value of currency (coins and paper currency) that has ever been issued by the Reserve Bank of India minus the amount that has been withdrawn by it.

Currency in circulation comprises of:

  • currency notes and coins with the public
  • Cash in hand with banks.
  • It is a Major liability component of a central bank’s balance sheet.

Money Multiplier:

  • Currency with public = currency in circulation – cash on hand with banks
  • M0 (reserve money) = currency with public + cash on hand with banks + “other” deposits with RBI + bankers’ deposits with RBI
  • M1 (high-powered money) = currency with public + deposit money of public; where, deposit money of public = demand deposits with banks + “other” deposits with Reserve Bank
  • M2 = M1 + post office savings deposits
  • M3 = M1 + time deposits with banks
  • M4 = M3 + total post office deposits.
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