Demonetization and its effect on the banking sector

Everyone is aware about the demonetization policy of the government by banning Rs. 500 & Rs. 1000 currency notes. One can understand that it would have a pretty bad impact on SMEs, small traders, real estate, transport sector, consumer durable goods industry. Not only these sectors but it would major affect the rural areas business as over there, majority of the transactions are made in cash. The ban of Rs. 500 and Rs. 1000 currency notes will impact those industries where hardcore cash transactions are made. Demonetization will affect the liquidity, but for a short term.

Current scenario

Before I state anything, a clear picture of all the banks and ATMs is present which depicts today’s reality. Long ques of people waiting for currency exchange or deposits outside the banks and for cash withdrawals outside ATMs. But definitely this is for a short time.

Many industries are going to be benefitted due to the demonetization policy and many are going to suffer. But overall the demand is going to or rather has already reduced by 30%-40% due to lack of money with the consumers. As the demand goes down, the profits for the quarter ending December’16 is going to fall. The demand will catch the momentum as the dust settles down. The economy will stabilize as soon as there is enough new currency in the hands of people.

The Biggest Beneficiaries “BANKS”

Yes, the biggest beneficiary from this policy will be the banking sector. The reason behind being called the beneficiary is very obvious because as lot of people are depositing cash in the banks, there will be a lot of liquidity with the banks.

As the deposits with the banks will increase so will increase the CASA, which will increase the Net Interest Income and the Net earnings of the banks.

What is CASA?

CASA is abbreviation of Current Account Savings Account. It is the ratio which indicates how much of the total deposits with the bank are in the current account and savings account. In a simple language, the deposits lying in the savings and current account are CASA.

How does a higher CASA indicates “acche din” for banks?

As stated above higher CASA means large amount of deposits are in current and savings account. This way the banks get funds at no or very low cost (interest). Banks do not pay interest on the current account deposits and pays a very low % of interest on savings account deposits. Hence, it is a good measure to get deposits at no or very low cost.

The banks are expected to make a good profit which would eventually benefit the common men. How?

As the banks get a lot of liquidity in their hands, they will lend the money to the people at a lower rate of interest. Hence, the interest rate on borrowing will lower down.

Further, as the CASA increases the banks will not need any other way to get money(loan from RBI or other commercial banks).

From the stock market point of view, yes, it can be considered as a good opportunity to invest in Banking stocks for long term.