Do Households Care About Cash? Exploring the Heterogeneous Effects of India's Demonetization

51 Pages Posted: 10 Mar 2019 Last revised: 14 Apr 2019

See all articles by Sudipto Karmakar

Sudipto Karmakar

Bank of England

Abhinav Narayanan

Government of India - Reserve Bank of India

Date Written: February 19, 2019

Abstract

The recent demonetization exercise in India is a unique monetary experiment that made 86 percent of the total currency in circulation invalid. In a country where currency in circulation constitutes 12 percent of GDP, the policy turned out to be a purely exogenous macroeconomic shock that affected all agents of the economy. This paper documents the impact of this macroeconomic shock on one such systematically important agent of the economy: the household. By construction, the policy helped households with bank accounts in disposing of the demonetized cash. We use a new household-level data set to tease out the effects of this policy on households with no bank accounts relative to households with bank accounts. Our results show that the impact of demonetization on household income and expenditure has been transient with the major impact being seen in December-2016. We find that households with no bank accounts experienced a significant decrease in both income and expenditure in December-2016. There is significant heterogeneity in the impact across households in different asset classes. We also show evidence of recovery of household finances whereby households were able to smooth out consumption during the post demonetization period. However, this recovery phase is associated with an increase in household borrowing from different sources, primarily for the purpose of consumption. In particular, informal borrowing (money lenders, shops) increased substantially during this period.

Keywords: Demonetization, Household Finance, Leverage

JEL Classification: E21, E51, G28

Suggested Citation

Karmakar, Sudipto and Narayanan, Abhinav, Do Households Care About Cash? Exploring the Heterogeneous Effects of India's Demonetization (February 19, 2019). Available at SSRN: https://ssrn.com/abstract=3337472 or http://dx.doi.org/10.2139/ssrn.3337472

Sudipto Karmakar

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

Abhinav Narayanan (Contact Author)

Government of India - Reserve Bank of India ( email )

Bakery Junction Service Road
Vazhuthacaud
Thiruvananthapuram, Kerala 695033
India

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