A NOTE ON THE IMPACT OF
DEMONETISATION IN INDIA.
Prof. Joseph K
Alexander, Chairman, KRB. IIPA Kerala. 2017
The economy of India is the seventh-largest in the world measured by nominal GDP and the third-largest by purchasing power parity(PPP).
India is a newly industrialised country,
and one of the G-20 major economies, Despite
a higher growth during Liberalisation, Globalisation and Privatisation of the
economy in the 1990s and very low growth of 3.5 % during our economic planning
period up to 1991. India had an average growth rate of approximately 7%
over the last two decades,
Two major domestic policy developments of 2016-’17 is the
passage of the Constitutional amendment, paving way for implementing the Goods
and Services Tax (GST), {including its
implementation in July 2017} and the demonetisation of the two highest
denomination notes with profound implications for the economy.
The background facts of demonetisation are impressive.
1. India’s
parallel economy created by black money; counterfeited Indian currency printed
outside in enemy countries and smuggled in bulk consignments into India, hawala
money brought by smugglers of contraband goods: gold and drugs
2. Corruption
wilfully encouraged by election- campaign fund seeking politicians and their
agents, aiding bureaucrats, police, quotation mafia, and under links.
Transparency International in their 2016 Report ranks India as the 130th
worst corrupted of the 160 countries examined by them. Scandinavian countries -first
and second- are the least corrupt among them.
3. Prevalence
of black money created through tax evasion by not reporting whole income or a
part. Income is of two kinds. Well earned white money and ill-earned under the
table income not reported to the Income Tax authorities.
4. Un-earned
income in all purchases by the Government authorities assisted by the
bureaucrats in the different Ministries.
On November 8, 2016, the government “demonetized” two
largest denomination notes, Rs 500 and Rs 1000, with immediate effect as part
of . country’s Swachh
Bharat Abhiyan (Clean India Campaign). “While the supply of notes of
all denominations had increased by 40% between 2011 and 2016, the Rs.500
and Rs. 1000 banknotes increased by 76% and 109% respectively in this period owing
to forgery. This forged cash was being used to fund terrorist activities against
India. Govt. deprived their legal tender status, At one stroke; 86
percent of the cash in circulation (of Rs. 16, 63,600 crores in Oct. 2016) ,
ie; Rs.14,30 696 was thereby rendered invalid.
There were two previous instances of demonetisation, in 1946
and 1978, the latter not having any significant effect on cash. India’s
demonetisation in 2016 is unprecedented in international economic history, in
that it combined secrecy and suddenness
amidst normal economic and political conditions (no war, internal uprising or
excessive issue of currency)
It has been a radical, unprecedented step with short term
costs and long term benefits. The liquidity squeeze was so severe that the
common man and daily wage earners suffered the most. India has given a new
expression of unconventional monetary policy, with the difference that whereas
advanced economies have focused on expanding the money supply, India’s
demonetisation has reduced it; a “reverse helicopter drop”: suddenly lifting
away 86 % of cash in circulation.
In conventional Keynesian economics monetary policy is to
increase money supply to augment consumption and investment or reduce money
supply, through the central bank and the banking system, to get the reverse
effect to curb inflation or heating up of the economy. This Indian experiment
is thoroughly unconventional: blow or
burn away 86% of the currency.
The benefits of Demonetisation
itemised are:1. Curbing Black
Money 2. Controlling Corruption 3. Creating a cashless transparent economy
4. Rise in Tax Receipts 5. Reduce artificial Investments in
Real estate transactions 6. Inflow
of more white money into banks. Rise in cash reserves (C R.around 6%) of banks enabling
them to lend 16 times more of that amount.7.
Reduction in rates of interest, rise in Investments and consequent growth of employment,
consumption and GDP.
The cost or defects
of demonetisation of 2016 raised by the public are:1. The long queues before all banks to file details and surrender
illegalised money 2. “ “To withdraw the allowed paltry amount Rs.
2000/- from one’s own SB or current Account 3. Lack of cash to pay daily wages to workers. Even corporate
offices found difficulty in convincing workers with cheque payments.4. Sudden decrease in consumption
demand of the people shattered the traders and distributers of wares and
services of all kinds. Even Out- Patient-departments of most of the hospitals
remained idle or closed. 5. Decrease
of production in agriculture and allied activities in primary sector,
industrial sector and service sector causing a sudden drop in GDP and its
growth rate. Farm income suddenly decreased. 6. Fear and anxiety of the public of the repetition of the 1998
international crash of economies. 7.
Decrease in employment of immigrant labour and their return to home states of
Orissa, M.P. Bengal, Etc; disrupting local economics.8. Cash intensive parts of the economy suffered the most. 9. Remonetisation was so slow and highlighted
incompetence of planning the demonetisation project.
By industry, the most important and the
fastest growing sector of Indian economy are 1. services with more than 60
percent of GDP: Trade, hotels, transport
and communication, financing, insurance, real estate and business services and
community, social and personal services. 2.
Agriculture, forestry and fishing constitute around 12 percent of the output, but employs more than 50 percent of the labour
force. 3. Manufacturing accounts for
15 percent of GDP, 4. construction, another 8 percent and 5. mining, quarrying, electricity, gas and water supply for the
remaining 5 percent. We may examine
the detailed effects of demonetisation on these sectors and people engaged in
them.
Sudden stopping of
cash payment made demanders and suppliers of goods and services equally stunned
causing a decrease in their contribution to the GDP. Agriculture and crops
languished for want of agro-care. Many of the farmers failed to repay banks and
were declared bankrupt resulting in farmer suicides. In short, GDP from the
five sectors dipped.
Eight months passed
since the demonetisation. Despite remedial actions the defects still persist
and refuse to vanish. Forged Money is yet imported and printed in India. Black
money is still being created despite the increased intervention of the income
tax authorities to curb tax
evasion.Total amount of black money has been estimated to be only 6% of the
currency in circulation. So such a sudden demonetisation with so great
sufferings of the society was unwarraented. Corruption is rampant, and the
unearned income is still being extracted from all major suppliers of goods and
services to the Govt. Dept.s and PSUs.
The public debate on demonetisation raised three sets of
questions:
First. Its management. Broader aspects of management, as reflected
in the design and implementation of the initiative. Govt. was unprepared for
the heavy demand for legal currency. Lack of enough planning in the supply of
new currency caused untold misery and suffering of the public. Second, its economic impact in the
short and medium run was not very positive. The colossal and massive sufferings
of the people and its negative impact
on the GDP and personal income of the people warrant quantification. It will be
gigantic. Third, its implications
for the broader vision underlying the future conduct of economic policy and the
expected benefits highlighted above This deserve detailed analysis of Fiscal-
Monetary Policies and Administrative strategies.
Apart from forged currency or hawala money, Cash can be
understood along two dimensions: its function and its nature. In terms of
function, cash is a medium of exchange (for transactions) or as a store of
value (Milton Freidman and the Chicago School of Economists) like other forms
of wealth such as gold and real estate. In terms of nature, cash can be illicit
or not. Function and nature are quite distinct. For example, cash used as a
store of value could be white (the savings that all households keep for an
emergency), while cash used for transactions could be black (if it was earned
through tax evasion and / or corruption).
Most black money is
earned through perfectly legal activities. In most cases, this income becomes
black solely because it has not been declared to the tax authorities. The
higher the amount of cash in circulation, greater the amount of corruption, is the
measurement result conducted by Transparency International.
Remedy is to reduce
cash payments and encourage financial intermediation through cheques and other innumerable
financial instruments. Transparency and automatic entry of all transactions in
the Income tax returns can curb many of these evils. A number of similar follow-up
actions including fast, demand-driven, remonetisation would minimize the costs
and maximise the benefits of demonetisation..
END
