Nov 13 2016 : The Times of India (Kolkata)

SWAMINOMICS - Less
black in cash means more
in gold
SWAMINATHAN S ANKLESARIA AIYAR

Black deals in Rs 500 and Rs 1,000 notes have been stopped by demonetisation.

Optimists hope this will end the scourge of black money. Pessimists say no, the new Rs

2,000 notes will soon replace Rs 1,000 notes in black deals.

I prophesy that gold coins will overtake currency notes in financing large black

deals. This will hugely increase the demand for imported gold, causing balance of

payments strains.

A 5g gold coin today is worth roughly Rs 15,000, and a 10g coin roughly Rs 30,000.

So, a briefcase of gold coins will hold several crores, far more than a briefcase of Rs

2,000 notes. Portability and space reduction make gold more convenient for large deals.

Bribes are often a percentage of project costs, and as the economy and projects grow

bigger, kickbacks will too. Large payments will be done most conveniently in gold or

dollars.

Gold is usable anywhere in the world. Not being paper, it can never be

demonetised. Cash keeps losing real value because of inflation, but gold prices rise

faster than inflation in the long run. If rising demand for gold induces the government

to raise the import duty, domestic prices will rise correspondingly, giving a windfall to

gold holders.
 The value of gold fluctuates daily, creating valuation risks for hoarders. However,

holding cash is not riskless either because it depreciates with inflation. Cash only

depreciates, whereas gold coins can both depreciate and appreciate, mostly the

latter.That's why the future of black is gold.

Many nave folk think demonetisation will deal a body blow to black money and shift

India towards a clean, cashless economy. Sorry, but the benefits will be limited. Black

money is both a stock (that is, a hoard of past untaxed money) and a flow (the

constant generation of fresh untaxed income).

As a stock, probably not even 2% of historical black hoards are held in cash--

almost all have been converted to gold, real estate and financial investments, some at

home and much abroad. Cash yields no interest and loses real value through inflation,

so no savvy person holds large hoards. The vast bulk is converted into assets across

the world, and much is brought back to India (via Mauritius and other legal routes) to

be invested in Indian shares and real estate. The overwhelming stock of black money

has been laundered into white ages ago. As a flow, black money is simply income that

escapes taxation. This is not just income from crime, bribes and real estate deals: it

includes the income of the vast majority of Indians. Barely 3 million people file income

tax returns, of whom less than two million pay income tax.

Hundreds of millions of small businessmen, unorganised workers, farmers and self-

employed persons should be paying income tax but do not. Rural India (with 70% of

the population) is very largely a cash economy with no income tax office in sight.

As India modernises, it must shift hundreds of millions of people from the

unorganised and untaxed sector into the organised, taxable sector. Over and above this,

a strong police-judicial system is needed to identify and quickly convict big offenders.

Neither change looks likely anytime soon. So the generation of fresh black income will

barely be touched by demonetisation. So, euphoria is unwarranted.

 Those with huge cash hoards will be hit. Most will find ways of laundering big notes

into gold, dollars or new notes by paying hefty commissions to middlemen. These

middlemen will aggregate the large notes, distribute them through ordinary folk into

millions of small bank accounts that escape tax attention, and then recoup the sums in

new notes.The gains of the middlemen will, alas, be a new form of black untaxed

income.

Cash hoards are held by political parties for operations, by businessmen for paying

cash bribes, by rural folk operating entirely in cash, by hawala operators and other

middlemen in finance. All will take a partial hit. Real estate deals, which have a large

black money component in most states, will also take a hit.

Was the BJP tipped off about demonetisation? Did it convert cash into small notes

and gold in advance, leaving other political parties with cash hoards requiring time and

large discounts for laundering?

Watch out for intense media investigation and speculation on whether the BJP has

gained a big cash advantage in the coming state elections.

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