Economics/Currency coin exchange value.
QUESTION: Dear Prof Raza
Do the Banks accept coins of 50 paise, 25 paise, 10 paise etc which cannot be used for transactions now and in exchange give the Banking customer the equivalent value in rupees ?.
If Yes, Will not the Banks Profit and Loss statement or Balance Sheet will be affected by this ?.
Will the Banks use the 50 paise, 25 paise , 10 paise coins for further manufacturing given by the Banking customers?.
If No, Isn't that Since the Banking customer has not recieved in exchange the Rupees from the bank for the 50 paise, 25 paise, 10 paise etc and hence is considered a loss to him/her ?.
Thanks & Regards,
Prashant S Akerkar
ANSWER: Hi Prashant,
This is a question of monetary economics. It deals with the money supply in the economy. The money supply, among others, also includes a small fraction in coins, such as that you have mentioned.
The central bank determines the quantity of money supply on the basis of many factors, such as production, demand for goods and services, etc. When price level goes up, as usually it does, government may not do much, and the value of money erodes over time. This is no concern within certain limit. However, sometimes the government may initiate some intervention. Such intervention could be something like demonetizing or withdrawing from the economy certain denominations, maybe because there has been forgery or maybe because the government thinks such denominations should be out of circulation.
When the government demonetizes, say, particular coins, then such coins are designed to be out of circulation to forestall further damage to the economy through forgery or to get rid of these unnecessary denominations. In that case, nobody can any more use such coins for transactions. Now the question is, what about those who are already holding such coins? Usually this is not a big problem, especially in the case coins which form only a tiny fraction of the total money supply. So the government takes tat back from the public through commercial banks.
The commercial banks receives other bills which they can give to the customers in exchange for giving those coins. These coins are not use for any purpose by the banks but are returned to the central bank, and that is balanced with the amount of other bills at hand. The central bank simply "destroys" the coins or convert them into some alloy to be used at a much lower rate for other purposes. So the central bank in fact converts --exchanges the coins for other bills --through the intermediary of the commercial banks.
As your question of financial statements, you may think it this way: the central; banks are doing nothing other than just taking the coins, getting other bills from the central bank, and returning the coins to the central bank. Naturally, this does not come into the picture when the commercial banks are preparing their financial statements like B/S and others.
The banking customers are not at all incurring any loss since they are getting exactly the equivalent amount of money in other denominations that are in currency. So the quantity of money in circulation is not changed.
I hope, Prashant, this goes to answer your query. Best.
[an error occurred while processing this directive]---------- FOLLOW-UP ----------
QUESTION: Dear Prof Raza
So in all/most of the countries, Banks accept the lower denomination value coins which are not accepted for transactions from banking customers and in return the equivalent value.
Thanks & Regards,
Prashant S Akerkar
Yes, they do. Commercial banks have nothing to do with the quantity and circulation of money.
For example, Canada recently decided to do away with 1-cent coins "after a declared date." Up till then the coins were used in all stores. When time came the stores deposited that to Canadian central bank. After that, there was a time limit, a sufficiently long period, within which people could deposit their 1-cent coins and receive equivalent sums, say in 25-cent coins. Since this is a very rich country, many people may not have bothered to deposit their accumulated 1-cent coins --that's a different story.
There are, of course, abnormal circumstances, especially when forged money floods the economy. In that case, banks would receive the bills, even if each 100-rupee bills, and on inspection if turning out genuine, new notes would be issued. Sure enough, no bank, no central bank or the government need to bear the responsibility to exchange genuine bills for fake bills. That's obvious. For example, India's neighbor, Bangladesh, had huge stacks of fake notes printed from West Bengal, flooding the market of Bangladesh. The price level went up many times in the mid-1970s. The government had no chiice but to demonetize the 100-taka notes. Those who were holding genuine notes received new replacement in exchange. You will be surprised to learn that sackfuls of wads of 100-taka were found discarded in the drains of Dhaka, capital of Bangladesh. Who did that? Those who were the culprits. This was a good measure taken up by the government. This is, however, an abnormal circumstance.
Another super-abnormal example is that of Germany. Money was getting printed millionfold. Buyers went to market with basket-full of German marks and came back home with pocket-full of eggs. Even that was also solved.
Now the question is: Were people who had too much of almost-useless marks in bad shape? No. Because they got back "equivalent sums." For example, say, a dozen of eggs is Rs 40. Then because of illegal printing of money, egg price shoots up to Rs 400 a dozen. Suppose all prices go up more or less hundred-fold. Then the government decides to get rid of the "foul" money and inject good money into the economy. The government may call back all the existing money supply through banks. People deposit their money and get back one-tenths in new bills. So you may think it something like viewing the old 100-rupee bill equal to one-rupee bill. It is all the same. The economy is regenerated. Meantime, bad and fake money goes out of circulation.
I hope this clears your confusion.