The Logistics of Cash

I was in Budapest recently for a conference on the relative importance and usage of cash and non-cash methods of payments. The primary message from the conference was that cash is reliable, secure, and accessible to people. It was organised by a non profit organisation that is an association of companies dealing with cash management. Before heading to the conference, it seemed strange that there would be multiple companies involved in cash management and logistics in a country. We largely tend to take cash for granted and do not think about the vast logistical network that exists behind the usage of cash.

Here’s a brief glimpse into the fascinating world of cash logistics and management:

First, you would need specialised paper to print the notes on, which is supplied by few companies in the world. The material on which the notes are printed differ from country to country. India uses a pulp made of cotton and balsam, whereas the US dollars are made of cotton and linen. Australia, and a few countries, have shifted to an innovative polymer (or plastics).

The ink used to print the notes are also highly specialised and secure ink that does not get worn out easily. The ink would be made from a special dye that is not available to anyone except the central bank. Then, comes the host of security features, such as the hologram, watermarks, security threads, serial numbers, anti-copy marks, magnetic ink and microprinting. Each of these would be manufactured and supplied by a set of private companies, according to the central banks’ specifications.

Then, for distribution, you would require armoured vehicles to move the cash from the vaults of the reserve banks to the commercial banks and finally to the ATMs. There are private companies that specifically design these armoured vehicles and provide security guards as well. You also need specialised large vaults in commercial banks to store the currency. There are also machines developed exclusive to count the currency notes.

There are companies that manufacture and distribute ATM machines and who maintain them. A separate company would take charge of managing the ATM machine and making sure that they have enough cash to distribute. On the retail side, you have companies that manufacture tills to hold temporary cash required at point of sale. Of course, the complexity of the business determines the level of sophistication required for the cash handling machines. A Casino will require a more customised and complex machine to handle and store cash, as against a corner retail store selling milk. There are also companies that manufacture paper rolls for till and ATM receipts.

This is just a sample of the number of companies involved in cash management in a country.

P.S: I am reproducing the steps involved in cash printing and distribution in India from this Business Standard article:


* The Reserve Bank of India (RBI) chalks out the requirement for currency notes before the start of the financial year

* The requirement is then communicated to the government

* When the government gives permission to RBI, the central bank raises ‘indent’ or order for printing specific bank notes to four presses

* Papers for banknotes were earlier procured from overseas but now the material is supplied locally

* The security features are installed by the mills first and then sent to the printing presses

* The printed notes are sent to RBI’s 19 regional offices

* There are 4,000 currency chests where the notes are kept

* RBI then raises a voucher for the notes needed

* Banks raise their demand for cash with RBI’s regional offices

* RBI then sends money to banks

* Banks keep the money in their currency chests and engage cash management firms to fill the ATMs

* ATM service providers do a daily calculation of cash required at night for the next day, called indent

* Banks validate the indent and the cash is transferred to the bank branch linked to that ATM

* These bank branches generate their own cash and in case of shortage, they borrow from currency chest

* Cash management companies transfer cash from branches to ATMs

* The companies fill up the ATMs with four ‘cassettes’, which can hold up to 2,500 notes each

* The money is dispensed when customers use their card

Do Coasian Solutions Work in Real Life?

One of my students from the Graduate Certificate in Public Policy – Satish Terala (@satisficed– wrote a rejoinder to my Pragati blog post on why I should get compensated by my neighbour who is building a house. While he is sympathetic to my cause, he believes that the trade will not actually takes place. His post follows:

Anupam Manur in his post “Dealing With Construction in Your Neighborhood” sets up an interesting problem – construction activity in his neighbourhood undertaken by his neighbour is disturbing the peace and tranquility of his life. Anupam then rightly concludes that his neighbour’s actions are imposing a negative externality on him (actually the entire neighbourhood) and then invokes the Coase Theorem to solve for it. The solution would involve the offending party (his neighbour) paying Anupam a certain amount. Anupam would then promptly buy a new pair of heavy duty earbuds, soundproofs his house and perhaps gets some extra cleaning help.

Sounds simple enough. But why did that not happen in this case. I would surmise that getting his neighbour to understand the economics of externalities and Coase theorem is still not going to help matters here. Why is it that then perfectly rational actors fail to trade even when there are gains to be had by doing so. The answer to this comes from another equally important but not as famous theorem called the Myerson-Satterthwaite theorem.

In presence of private information about the value of certain good (Anupam’s peace and tranquility) to the buyer and the seller, Myerson-Satterthwaite theorem says that no mechanism exists that guarantees that a trade will always happen. The problem here is that of information-asymmetry. In a Coasian world, all information about the externality is public and bargaining will ensure that an efficient outcome for both parties is reached.

In Myerson-Satterthwaite’s world, people’s valuation of the good are private i.e. the buyer only has a vague sense of the what the seller is willing to accept and similarly the seller only has a notion of what the buyer is willing to pay (for the math inclined: buyers view of sellers cost is uniformly distributed on the interval [0,1] and vice versa). This private information induces sellers to act as if the costs of their goods are higher than they actually are and similarly for the buyer to act as if good is of lesser value than their private valuation of it. The theorem then shows that the gains of trade are not sufficient enough for either of the players to honestly reveal their costs and values. This implies that no fool proof mechanism can be designed that guarantees a trade will happen even when there is a price that would be agreeable to both parties.

Turns out that worst case scenario is the case of a single buyer and a single seller. As the number of buyers and sellers increase, these informational problems disappear and markets become ‘efficient’.

So Anupam might then just be better off buying those heavy-duty earbuds himself; Coase is not going to help him much in this case.

Note: While I highlight only the applicability of M-S theorem in case bargaining does occur, there are many other reasons why bargaining might not even occur. Social norms, inability to assign the responsibility of the externality, hold out problems and other issues often have large transaction costs dissuading the participants from even bargaining in the first place.

Satish is a technology professional based out of Boston. He has degrees from UC Berkeley and University of Toronto in ‘doing marginally useful things’. He still hopes to finish his GCPP – some day.

Dealing With Construction in Your Neighbourhood

Dealing with construction activity near your place is a real pain. There’s a house that is being constructed right opposite my place and it is alarming how much it has disrupted my life. My productivity and peace of mind has been severely affected. This is a perfect example of negative externality, where a third-person (me) is affected by a transaction of which he is not a part.

The construction noise, from digging the borewell to cement mixers, have made it impossible for me to work from home. I find it hard to think about regulating platform economies or give a webinar while a guy outside my place is hammering on iron. That adds a couple of hours of travel to work and back.  Then, there’s the problem of fine dust that is deposited in all corners of my house. I have to either pay extra to the domestic help or spend a couple of hours to clean it myself. Not to mention, the added health risk of inhaling the particulate matter. All of these presents a real cost to the neighbours of a house that’s newly constructed.

The externality presents a market failure. The price of a house (whether it is rent or the cost of production) does not include the damage/suffering caused to others who will not benefit from that house construction. How do you solve for this  externality?

Most people would silently go through the suffering with minor complaints made to the owner and a lot of internal whining. Very few would have the power to stop the construction or put significant hurdles in the way, so as to increase the project timelines. Neither of it is an efficient solution. The owner has a right to construct a house on a plot of land that he has purchased and the neighbours have a right to peace and quiet and a right to expect their house not to get inundated by cement dust.

The only solution seems to be a Coasian solution. The owner can pay an amount to compensate for the damage caused to the neighbours and carry on with the construction activities. The externality will be internalised this way. The receivers of the payment can use the money to hire cleaners, install an air purifier, or invest in sound proofing. The additional payment gets added to the cost of construction, which can be passed on to the eventual occupiers of the space. The rent can be slightly higher to reflect this charge or if the owners decide to stay there themselves, they will bear the cost over many years that they live there.

Now, I’m off to find the owner and give him a lesson on Coasian solutions to externality and try extract compensation payments.

The Ten Commandment for Economists and Non-Economists

This is a fascinating set of rules I came across in Dani Rodrik’s book Economic Rules:

The Commandments

I really liked the 6th commandment for non-economists, which states “When an economist uses the term “economic welfare,” ask what he/she means by it”. While you are at it, make sure you ask them what they mean when they use the term “structural reforms” as well. It seems to be the single greatest solution to all of mankind’s problems. The specifics are often missing though, and perhaps, therein lies the reason why they have not been carried out.


Election Manifestos and Cow Dung

There seems to be no dearth of effort from the two national parties to woo the voters of Karnataka. Unfortunately, very little of it is geared towards long term growth strategies, employment creation, or raising the income levels. Can you identify the key differences between the two parties’ manifestos?

Spot the difference! From The Indian Express, found on Twitter.

As you can notice, there is actually not much of a difference between the two parties’ promises. Both the manifestos are ripe with populist schemes – from free laptops and smart phones, to Indira Canteens and gold and cash for marriages. Why does the government have to pay for ornaments and weddings, I will never understand.

To add to all of this, the BJP is also promising a farm loan waiver for loans up to 1 lakh. This follows a mini farm loan waiver done by the present Siddaramaiah government in 2017.  How many more times should we do farm loan waivers before the farmers are made better? The answer is not blowing in the wind. (Apologies to Nobel Laureate Mr. Dylan)

Finally, the BJP manifesto also proposed the launch ‘Gobar-dhana Yojane’ to help farmers monetise cow dung. Then, at least the cow dung will be worth more than these manifestos.

Should GDP be Value-Neutral?

The Economist has a lovely series on the shortcomings of the economics profession. This week, they are focusing on measurement issues in economics. These issues are all well known and accepted within the profession, but will make a good read if someone is new to the field.

They start with the complaint that economists often equate price and value and put a dollar figure on the value of certain products, commodities or even intangible aspects such as emotions and happiness. I don’t quite agree with this. One of the first lessons in the Microeconomics course that I teach at Takshashila is the difference between cost, price, and value. The perceived potential value of a certain commodity is necessarily higher or equal  to the price that they pay. If not, they wouldn’t be undertaking the transaction. The price of a bottle of water in summer can be just Rs. 10, but the value that we derive from it will be much higher, if we are hungover and dehydrated, for example.

Then, it lists the familiar complaints with GDP as a measuring tool. Some of these are valid and provides a scope for improvement in the methodology, but some others are just plain bunkum. They start with the fact that GDP measurement is value neutral.

In a speech in 1968 Robert Kennedy complained that measures of output include spending on cigarette advertisements, napalm and the like, while omitting the quality of children’s health and education. Despite efforts to improve such statistics, these problems remain. A dollar spent on financial services or a pricey medical test counts towards GDP whether or not it contributes to human welfare.

Now, I would have categorised this in the pros column of GDP rather than the cons column, as The Economist has done. The mandate of GDP is to measure economic activity, not to make value judgement. We would want such measurements to be value neutral and not take moral positions. Imagine the consequences of ascribing moral weights while measuring economic activity. Who would have the moral authority to issue weights? Will spending money on alcohol have a lower weight than spending on religious rituals?

Another oft repeated complaint is that GDP does not measure unpaid activity or the social costs of environmental damage or resource abuse. These are valid concerns and the answer lies in continuously improving the methodology and capturing as much information as possible, and not discarding GDP, as some critics have suggested. GDP is still the most comprehensive tool available to measure economic activity.

Do listen to a podcast I recorded by Pavan Srinath on GDP. We go through the history of GDP calculation and try to address some of the problems with GDP as a measurement tool.

Brush up on Your History, Mr. President

Back in 1930, 1028 prominent economists wrote a letter to Congress urging them to reject the highly protectionist Smoot-Hawley Tariff Act. Messrs Smoot and Hawley, Senator and Representative respectively, sponsored the Tariff Act which raised the tariffs on more than 20,000 imported goods. Congress did not heed to the advice of the economists and went ahead with the Tariff Act. Naturally, other countries followed suit and retaliated against the US protectionist measures. This had disastrous consequences on the American economy and global trade, in general.

US imports decreased 66% between 1929 and 1933, and exports decreased 61% in the same time period. Gross National Product fell from $103 billion in 1929 to $76 billion in 1931 and bottomed out at $56 billion in 1933. Overall, world trade decreased by some 66% between 1929 and 1934. The tariffs, which were meant to protect American jobs, did not do much on that account either. Unemployment was at 8% in 1930 when the Smoot–Hawley tariff was passed. The rate jumped to 16% in 1931, and 25% in 1932–33. To be sure, not all of these effects can be attributed solely to the protectionist measures, given that the economy was in a downturn already, but it did have a significant negative effect.

Now, in 2018, President Trump has introduced a host of protectionist measures and imposed tariffs on washing machines, solar components, and even steel and aluminium used by U.S. manufacturers. With the reintroduction of tariffs, the economists are back once again. More than 1100 economists, including several previous Nobel prize winners, have signed a letter to Trump warning him of the dangers of the new protectionist measures. They draw his attention to history, to the Smoot-Hawley tariff in particular. In fact, the latter half of the letter just reproduces the economic principles laid out in the original letter. They reason that though the components and volume of trade have changed, “the fundamental economic principles as explained at the time have not”.

We are convinced that increased protective duties would be a mistake. They would operate, in general, to increase the prices which domestic consumers would have to pay. A higher level of protection would raise the cost of living and injure the great majority of our citizens.

Few people could hope to gain from such a change. Construction, transportation and public utility workers, professional people and those employed in banks, hotels, newspaper offices, in the wholesale and retail trades, and scores of other occupations would clearly lose, since they produce no products which could be protected by tariff barriers.

The vast majority of farmers, also, would lose through increased duties, and in a double fashion. First, as consumers they would have to pay still higher prices for the products, made of textiles, chemicals, iron, and steel, which they buy. Second, as producers, their ability to sell their products would be further restricted by barriers placed in the way of foreigners who wished to sell goods to us.

Our export trade, in general, would suffer. Countries cannot permanently buy from us unless they are permitted to sell to us, and the more we restrict the importation of goods from them by means of ever higher tariffs the more we reduce the possibility of our exporting to them. Such action would inevitably provoke other countries to pay us back in kind by levying retaliatory duties against our goods.

Finally, we would urge our Government to consider the bitterness which a policy of higher tariffs would inevitably inject into our international relations. A tariff war does not furnish good soil for the growth of world peace.

P.S: I had recorded a “The Seen and The Unseen” Podcast with Amit Varma on the 8 Myths of Protectionism. Check it out:

The Second Order Effects Have Begun

Financial Express reports that demonetisation and glitches in GST implementation has led to a loss of 4 lakh jobs, erosion of wages, and reduced exports in the textile industry in Surat.

The Federation of Surat Textile Traders Association (FOSTTA) claims that after the rollout of the new tax structure, over 4 lakh jobs have been lost with many of the textile units in the city running far below their installed capacity. Moreover, the past 18 months have seen sales slump by about 30-40 % and payments getting delayed.

It further mentions that the small and unorganised textile units are not able to comprehend the complex GST rules. The delay in refund has also led to a fall in export orders.

Nearly a year and half after demonetisation, the second order effects are beginning to show up. The recent shortage of currency is another such second order effect. Any big macroeconomic shock will have multiple rounds of effects – the growth slowdown and all the associated effects in 2016-17 was just the first order effect. Unfortunately, I believe we’ll see many more stories of particular industries getting affected in novel ways due to the double whammy of demonetisation and the faulty implementation of GST.

Karnataka’s Electricity Woes

It is the election season. We are talking about Bangalore in the year 2018. Yet, the city is facing scheduled and unscheduled power cuts up to 4-6 hours per day. It is simply unacceptable by any standards. If the government cannot ensure uninterrupted power supply in peak election season in the most important city in the state, I shudder to think of the situation in rural areas.

BESCOM, the power distribution company in Bangalore, supposedly received 6552 complaints on just one day (April 24th) regarding power disruption. For the month of April, the number of complaints touched nearly 40,000.

The two normal reasons given for power cuts are: increased demand and disruption due to technical reasons following rains. These are not tenable excuses. BESCOM seems to be surprised every year that people use more electricity during summers. There are no steps taken in advance to manage the higher demand.

This is the statement given by N Jayanthi, the General Manager of customer relations of BESCOM:

Transformers get overloaded, flashovers occur and there are other technical problems. Sometimes, trees bring down feeders with them, and as a precaution, we have to cut off the power, so that no one gets electrocuted.

Is our critical infrastructure setup so fragile that a bit of rain and wind can leave an entire city dark? Surely, there are solutions to prevent such damage to the power lines due to wind and rain.

Ultimately, to solve the problem, the government would need to increase the price paid by the consumer for electricity, which would allow the ESCOMs (Electricity Supply Companies) to buy power and invest in better technology. BESCOM can introduce also special seasonal tariffs for summer or prepare for a weak monsoon by making arrangements to buy power in advance. Privatisation will also go a long way in ensuring uninterrupted power supply. Cities in India, such as Mumbai and Gudgaon, which have privatised has witnessed good power supply.

Finally, ESCOMs in India should operate the way a private firm does: project production quantities, projecting demand, possibilities for production disruption, alternatives for mitigating the disruptions, etc.

The Oil Conundrum: Reduce Taxes vs. Reinstate Price Controls

Global oil prices are rising, but still only half of their record high at $75 a barrel. However, the price of petrol and diesel in India is the highest that it has ever been, causing quite a bit of distress to consumers. The knock on effect of high diesel prices, mainly used in transportation, can also be significant. It can have an inflationary effect on the commonly consumed goods and of course makes the visit to the petrol bunk all the more painful for owners of motorbikes and cars.

With many state elections around the corner and the general elections next year, the government is feeling the pressure to restore the price controls on fuel. Early in 2014, the government had decided to remove all subsidies on diesel and free up the prices on diesel and petrol, in an effort to reduce the massive subsidy bill.

Simultaneously, in 2014, oil prices came crashing and the government decided not to pass on the entire reduction in prices to the final consumer. Instead, it decided to levy a tax on fuel, which is still in place. Now, with global oil prices rising, and the tax still in place, consumers are feeling the pinch.

So, the government has two options – reduce the tax, which roughly amounts to 50% of the price of a litre of fuel or go back to price controls. The government is preferring the second one. The government has gotten addicted to the revenue that excise duty and other fuel taxes bring – estimated to be about 2.5 trillion rupees for 2018-19. Reducing taxes might severely affect its fiscal health and is thus, favouring the second option of partially reinstating price controls.

Taxes on gasoline is far higher than many parts of the world. It accounts for a bit more than 50% of the final price. There are union and state level taxes on gasoline. Excise duty, one of the major components of federal tax, was hiked nine times between 2014 and 2016. To get an idea, of the Rs. 75 final price of petrol in Delhi, nearly Rs. 39 are taxes.

Price controls on fuel would again damage the finances of the upstream oil companies. In the previous regime of price controls, the finances of HPCL, IOL, etc were in a bad shape. If their bottom-line gets affected, it is again the citizens who will pay for it. It might also worsen the debt situation of these companies, which will affect an already fragile banking system. To give a taste of this, when the fuel subsidies and price controls were lifted, the debt burden of the oil companies reduced by as much as 50-65%. A reversal is not in the public interest.

P.S: Back in 2016, I had written a blog on the break-up of petrol price in Delhi. The main image from that blog is reproduced here and shows the price break up of a litre of petrol costing around Rs.60:


Closure of Bars on Election Day Reflects Failure of Democracy

The Election Commission in Karnataka has been overzealous in enforcing the model code of conduct, with special regard to sale of alcohol. Election times are generally a pain for owners of liquor stores and bars, but this year seems to be a whole lot worse.

The EC has issued directives and guidelines for owners of bars and other establishments selling liquor. They must maintain diligent accounts of every sale of alcohol. The specific order that has many bar owners worried states: “If there is more than 10 per cent difference in sales compared to the previous year, such outlets will have to face inquiry”. This is ridiculous.

The 20th of April in 2018 was a Friday, when sales generally tend to be high and in 2017, the date fell on a Thursday. The discrepancy could easily be 10 percent.

There will also be a flying squad constituted by the excise department which will patrol the city. It can visit any shop at any time and ask the owners to produce the accounts and sale details. This makes it ripe for rent seeking and discretionary abuse of power. Consider this:

Till Tuesday afternoon, 303 excise licenses have been temporarily suspended in the city alone, and a total of 793 establishments have been temporarily shut till the polling day for various violations across the state.

Further, there has been a lot of seizure of alcohol stock by the excise department, the flying squads and the Election Commission’s vigilance units. In less than a month, these entities together have managed to seize a total of 3,65,388 litres of alcohol seized since March 27.

There are also restrictions on how much alcohol a retail store can sell to an individual: no individual can be sold more than 2.2 litres of beer, or 750 ml of hard liquor. Again, these limits are ridiculous. Is it impossible to imagine a person buying two full bottles of alcohol for a private party he is hosting at home?

Finally, the biggest problem I have with all of this is that it curbs economic freedom. How is it fair to restrict the business of one type of commercial establishment? How is it fair to close down bars and disrupt business on election days? The election day closures are a feeble compensation for state failure and on a larger scale, failure of our democracy. If people vote based on liquor they receive, the problem is not with whether bars are open or not. Finally, I would argue that it is on the election day and the day of results that I could really use a drink.

Inefficiency in Toilet Construction

There have been a series of infographics that have been circulated to show that the NDA government has performed better than its political rival, the UPA. One of these images deals with the number of toilets constructed and the amount of money spent on toilet construction.


According to its own data, the NDA government has spent nearly 3.5 times more for construction of one toilet.

If the data is true, the NDA government has clearly done better on both counts. However, what the numbers betray is that the NDA has also spent more money per toilet, thus indicating inefficiency or worse. The UPA has spent Rs.1750 per toilet and the NDA has spent nearly 3.5 times more per toilet – Rs. 6176.