Borrowing rates for govt, companies to decline following withdrawal of Rs 2000 notes. Here’s why

As on March 31, 2023, the value of ₹2,000 notes in circulation was at ₹3.62 lakh crore, the Reserve Bank of India (RBI) said. While the entire sum is not seen flowing to banks, treasury executives and analysts expect around ₹50,000 crore to ₹1 lakh crore to enter the system as individuals queue up to deposit the notes for which the withdrawal process begins Tuesday.

The increase in bank deposits and, therefore, liquidity is seen bringing down yields on short-term money market instruments, such as certificates of deposits and treasury bills. Shorter-tenure government bond yields are also seen falling sharply as banks need to mandatorily park a portion of deposits in sovereign debt. “We expect a 15 basis-point fall in rates on certificates of deposits, a 10-basis-point decline in T-bill yields and a decline of around 5-7 basis points in short-term government bond yields,” said a senior treasury executive at a foreign bank.

One basis point is 0.01 percentage point.

The 2016 currency swap exercise showed deposits tend to rise when bills are no longer allowed to be freely used among citizens.

Sept 30 Deadline for Deposits
They must be exchanged into other denominations of legal tender at bank branches.”On the deposit front, experience from demonetisation showed that around 30% to 40% of the value of notes withdrawn went into bank deposits,” IDFC First Bank’s economist Gaura Sengupta said. “Using this as a guide post, around ₹1.4 lakh crore could flow into bank deposits, which represents 0.8% of total bank deposits. The boost to deposits will be transient and will support banks’ investments in T-bills.”

Sengupta’s estimates suggest up to 40% by value of the ₹2,000 notes currently in circulation could end up with banks.

On Friday, after trading ended in Mumbai’s bond markets, the RBI said it has decided to withdraw the highest denomination notes in circulation, and that the public has time until September 30 to deposit or exchange ₹2,000 notes with banks.

Government bond yields are the benchmarks used by companies to determine pricing of their debt, which means that a decline in sovereign debt yields makes it cheaper for firms to issue bonds.

Bankers said around ₹50,000 crore worth of ₹2,000 notes were already with banks and it was likely a chunk of notes would be changed to smaller denominations.

Deposit Mobilisation
“As witnessed during demonetisation, we expect the deposit accretion of banks to improve marginally in the near term. This will ease the pressure on deposit rate hikes and could also result in moderation in short-term interest rates,” said Karthik Srinivasan, senior vice president, Financial Sector Ratings, ICRA.