Why did India choose Rs. 500 and Rs. 1000 notes for Demonetisation?

10/11/2016 by Afia Ahmad

Pareto, with his 80:20 rule, is everywhere. A quick analysis of the data on Indian currency stock indicates
that about 86% of the current circulating money in India is in the form of notes of Rs. 500 and Rs. 1000.
In terms of volume, the two denominations together account for only a shade over 24%.

Figure 1:Pareto Chart showing Indian currency notes in circulation Rs 500 & Rs 1000 vs. Other
denominations - Volume % and Value %

As suspected, though the volume of high-value currency notes in circulation is rather small,
the value locked in them was huge.

Further, and probably of greater concern was the growth of these currencies. According to
the Secretary of the Department of Economic Affairs, between 2011 and 2016, the Indian
economy grew by 30%, and on expected lines, the currency in circulation grew by 40%.
However, the circulation of Rs. 500 notes grew by 76% and that of Rs. 1000 notes grew by
109% during this period.
For decades, the shadow economy has been believed to have been thriving on high-value
currency notes and the all-cash transactions using these notes. The data too points to a
preeminence of the highest denomination notes.

However, the prevalence of high-denomination notes itself is not a problem. Does data
support the belief that the high denomination notes are commonly counterfeited? In 2014-
15, a total of 594,446 counterfeit notes were detected. Out of these, 273,923 notes were
denominated Rs. 500 and 131,190 notes were denominated Rs. 1000.

Figure 2:Total Notes in Circulation vs. Counterfeit Notes Detected

 Figure 3: Counterfeit notes detected across different currency denominations as a percentage of notes in
circulation

We clearly see a preference for higher-denomination notes among counterfeiters. The volume-to-value ratio
and the cost of producing counterfeits obviously provide the highest value for their evil

plans in these currencies.

Figure 4: Growth in total currency notes in circulation and M1

Data sources: RBI Database on Indian Economy, and RBI Annual Report.