A Simple Model of Currency Notes Withdrawal

Abstract

In the backdrop of the demonetization move by the Government of India, this paper proposes a model of optimal currency holding when there is a possibility of currency withdrawal. Our results indicate that if the perceived probability of withdrawal of higher denomination currency is very high, then agents would eventually hold cash in lower denomination currency only, thereby making the higher currency notes redundant. Thus, one of the targets of demonetization, which is less holding of higher currency notes, can be achieved without actually implementing demonetization.