On November 8 the government of India demonetized all existing Indian currency notes of rupee 500 and 1,000 denominations effective from midnight. The old notes will be replaced over time and can be exchanged in banks till December 30, on production of proof of identity.
In the meantime cash is being rationed, with a withdrawal limit of Rs. 2000 (about $29).
This is part of a long war on cash that the country has waged.
The two reasons given for this step were undermining currency counterfeiting and controlling black money.
The move has caused significant harassment to the masses in India’s cash-based economy and has proved to be politically controversial.
The opposition alleges that the move is primarily a distraction by the government to hide its failure to bring back “black money” from offshore accounts.
This argument reflects the popular image of black money as a kind of pirate’s buried treasure.
In reality black money is as much a flow as stock; it is a revenue stream generated from certain activities that are either illegal or go beyond what is legally permitted.
Part this flow can be converted into stock (cash, gold, or offshore account) or social goods like political power. But to sustain the activity, bribes need to be paid regularly to officials and police, and lawyers accountants and musclemen need to be bankrolled, among others.
None of this can be done through the banking channels. So high denomination currency notes supply the working capital. Demonetization not only destroys the black money stock in cash, it also destroys the operating capital as well. And it signals to the “black–economy participants” that purely cash transactions are inherently unreliable, thereby undermining the confidence in the black economy.
A note of caution though. Demonetization will have to be followed by a reduction in high denomination notes (presently at 86 percent of currency in circulation) otherwise the black-economy will regain the equilibrium over a period of time.
Some say the move is a tactical ploy to disadvantage the regional parties in the upcoming Punjab and Uttar Pradesh Assembly polls in January 2017. There might be kernel of truth in the matter. Regional parties who lack the large financial infrastructure of national parties like BJP tend to rely more on informal / illicit cash channels for election financing.
But then again, in India in any given period there is a State, local government, or national election scheduled somewhere, and it is difficult to see any pattern in the timing.
Most importantly, concerns have been raised about certain vulnerable groups. Women hiding meagre savings from alcoholic or abusive husbands, people with no access to identity documents or banking channels, farmers, small shopkeepers — all of them could be rendered penniless by this move.
These human issues should have been considered more fully before the demonetization decision was made. I fear that the war against black money won’t be painless or without collateral damage.
Suvrajyoti Gupta is Assistant Professor at O.P. Jindal Global University in Delhi, India, and Assistant Director of the Centre for Alternative Dispute Resolution. His teaching and research interests include dispute resolution, international arbitration and corruption.