The Indian Demonetization: Success or Casualty?

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The Indian Demonetization: Success or Casualty?

Chetan Vijayvargiya (s5129022) | 7013IBA Politics of Global Economy – Dr. Tapan Sarker  

Written Assignment | 17.05.2018 | 2189 words

Introduction

The entire Indian subcontinent was surprised and left clueless when the Prime Minister Mr. Narendra Modi held a press conference which was broadcasted live on the night of November 8th, 2016 08:00 pm IST on every news channel in India. While most people returned from their work and tried to relax over dinner, the announcement was made declaring that the two highest denominations of the Indian currency i.e. Rs.500 and Rs.1000 notes were now considered to be an illegal tender.

Demonetization is defined as being “an act of stripping a currency unit of its status as a legal tender. It occurs whenever there is a change of national currency. The current form or forms of money is pulled out of circulation and retired, often to be replaced with new notes or coins” (Investopedia, XX). Likely, the old Indian Rs.500 and Rs.1000 INR denominations were pulled from circulation and new Rs.500 and Rs.2000 units were introduced in the financial system of India and the citizens were given a deadline to exchange their old denominations with the new one from their banks.

However, this is not the first time the Indian financial system has undergone demonetization. The first time was back in 1946 when Rs.1000, Rs.5000 and Rs.10,000 denominations were declared illegal tender (Samuel and Saxena, 2017). Both the current and historical demonetizations were undertaken to mainly target the eradication of ‘Black Money,’ yet the current one has received way more appreciation.

According to the government, the current demonetization decision was adopted mainly because of three reasons:

1. To control the accumulation of “Black Money”.
2. To abolish counterfeit currency and fight terrorism.
3. Encourage cashless economy.

“Black Money” is a serious problem in India as a large percentage of population is involved in tax evasion and have accumulated surplus of unaccounted wealth mainly in the form of cash that is in high denominations.  Secondly, Terrorism is a huge threat to the entire world and India has been experiencing a lot of terrorist activities in the past years (Rani, 2016). It is claimed that major terrorist attacks on India are funded through the counterfeit currency circulation and that too mostly in the higher denominations due to the feasibility in mobility (Lowe,2006). According to the Financial Action Task Force (FATF) report 2013 Indian Rupee was the 9th most duplicated currency in the world. Lastly, the Indian economy is an important participant of globalization and is considered among the rising emerging markets but lack of digitization in the financial sector has always held the Indian market backwards (Ramamurti and Singh, 2009).

Demonetization is not a decision that can be made in no time. It can have serious consequences to the Indian economy. Understanding the process and the planning behind it, converting the plans into actions, keeping in mind the winners and losers of the process and most importantly making it a success for the overall citizens of the country is important. This essay discusses the efficiency of the Indian Government in carrying out the recent Demonetization in India and to what level it has been successful.

Literature Review

Samuel & Saxena (2017) discuss India’s Demonetization and establish its link to ‘Black Money’, ‘Short-Term’ and ‘Long-Term’ effects on the Indian economy. The authors have addressed the term ‘Black Money’ in three categories namely ‘Black Wealth’, Black Income’ and ‘Black Currency’ with parameters showing that the Indian black wealth is certainly much bigger in size than black income and the smallest black currency. Quoting Raghuram Rajan, the former Reserve Bank of India (RBI) Governor, “Since many people do not stack their black money in cash, it is not easy to flush out Black Money. Of course, a fair amount will be in the form of gold, therefore even harder to catch”. Hence a lot more regulated policy plans must be made to control the Black Money (Samuel & Saxena ,2017, IJIRAS, p. 288).

Demonetization in India has produced both positive and negative impacts for the economy. As short term positive impacts the authors believe the process has left a positive impact in the aspects of terrorism and smuggling of arms. A good amount of unaccounted wealth stacked in the Rs.500 and Rs.1000 denominations have been flushed out. The RBI will be relieved on managing future inflation with a possibility of rate cuts. In the long run, the collection of higher taxes tends to improve the country’s infrastructure and government’s revenue. Accumulation of wealth in the banks will provide feasibility in providing loans to students and businesses at cheaper rates. Also, the rise in cashless economy will prove to be more efficient while dealing with various businesses (Ganiger & Rangantha, 2017).

 Considering the negatives of Demonetization, Mehta (2016) argues that replacing the currency denominations with new ones had a significant cost which has exceeded the overall gain of demonetization as to print new notes costs the RBI certain money and calibrating ATMs across the country consumes man power. Mehta (2016) also claims that real estate sector will suffer as the GDP is affected with less consumption demand. Professor Arun Kumar, JNU emphasizes on the scheme’s failure by stating that the counterfeit currency imports will not stop. Matching income with the respective tax payers is one key policy to be implemented rather than demonetizing denominations. Bloomberg’s data projects that 98% of transactions in India are cash transactions because of the rural population and hence Digitization though being an improvement has failed (Samuel & Saxena,2017).

Financial inclusion is a term used to measure the availability and equality of opportunities to access financial services or in broader terms it is the accessibility of useful and affordable financial products or services to an individual or business to carry out their needs. It also is responsible for valuable changes like keeping citizens informed about the country’s financial architecture in a nation’s economy but requires proper regulations and infrastructure such as promoting Self Help Groups (Dangi & Kumar, 2013). The authors have revealed that formal savings have eased the process of overcoming the costly credit business barriers which leads to growth in income and expenditures. This not only relieves stress in businesses but also provides efficient risk management during the time of crises with the help of reduced inequality, social cohesion and undivided attention (Hannig and Jensen, 2010).