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(T.Y.B.F.M. SEM-V)







Affiliated to University Of Mumbai

Reaccredited by NAAC with A Grade

S.V. Road, Malad (West)

A.Y: 2017-2018




Affiliated to University Of Mumbai

Reaccredited by NAAC with A Grade

S.V. Road, Malad (West), Mumbai-400064


I, Prof. _ hereby certify that a student of

Ghanshyamdas Saraf College of Arts & Commerce of T.Y.B.F.M. (Semester V)
has completed project on in the Academic
year 2017-2018.

This information submitted is true and original to the best of my knowledge.

External Examiner: Principal


Project Coordinator:


I take this opportunity to thank the UNIVERSITY OF MUMBAI for giving me a

chance to do this project.

I express my sincere gratitude to the Principal Dr Sujata Karmarkar, Chief

Coordinator Dr Lipi Mukherjee, Course Coordinator Prof. Prasanna
Choudhari and Project Guide Prof.

As well as teaching staff and our library staff for their constant support and helping
for completing the project.

My deep sense of gratitude to the staff and employees of (Company Visited) for their
support and guidance.

I am also grateful to my friends for giving me moral support during the course of my
project work Lastly, I would like to thank each and every person who helped me in
completing the project successfully

Especially My Parents.

I a student of Ghanshyamdas Saraf College of Arts &

Commerce, T.Y.B.F.M. (Semester V) hereby declare that I have completed project
on in the
Academic year 2017-2018.

This information submitted is true and original to the best of my knowledge.

Date: Signature of Student



1 Executive Summary 1

2 Research Methodology
Objective of Demonetisation 2

Scope of Study 2

Data Collection Method 2

3 Introduction
Introduction 3

Evaluation 3

History 4
5 Data Analysis & Interpretation
6 Case Study / Articles
7 Recommendations & Conclusion
8 Bibliography
1. Executive Summary

Demonetization is the process of withdrawal of a particular form of currency from circulation.

Demonetization becomes necessary whenever there is a change in the national currency. The old
unit of currency must be retrieved and replaced with a new currency unit. It involves either
introducing new notes or coins of the same denomination or completely replacing the old
denominations with the new denomination which is usually carried out as an ambush on the black
market. In India demonetization has occurred thrice. The first was on 12th January 1946
(Saturday), second on 16th January 1978 (Monday) and the third was on 8th November 2016
(Tuesday). The purpose of this study is to compare and analyse the impact of demonetizations and
their significance in the economic development of India by comparing with other countries.
Considering the importance and the influence of Indian economy in the global financial markets
and the growth rate of Indias GDP, this article attempts to document the historical importance of
the demonetizations and their impact on the export and import. This article also covers the various
other countries who tried demonetization, they are, Nigeria, Ghana, Pakistan, Zimbabwe, North
Korea, Soviet Union, Myanmar and Australia. The results of this study provide an insight into the
demonetization process and about its impact on the growth and development in these countries.
Thus, the findings of this study reveal that, India will achieve a significant growth by adapting the
demonetization strategy and it will create a huge positive impact on the entire economy in a long
2. Research Methodology

2.1 Objectives of Study

To know about actual present outcomes of the note banned decision.

To know the potential of the note ban decision.
To estimate the consequences for future of the note ban decision.
To know the impact of note ban decision on the Indian economy.

2.2 Scope of Study

This study will helpful for the citizens of India, Indian government, businessman and the Indian
customers. Through this study government will be able to know about the future conditions of the
economy. This study will help to the government for policy making to the betterment of the
economy. This study will also helpful for the Indian citizen because they would be able to know
the present and future condition of the economy and they can take rational decision on their income
and expenditure. Any businessman can also take the wise decision so that he will be able to
generate more revenue and can earn the profit in the actual market scenario. Finally everybody
would be able to know the impact of note banned decision on Indian economy as well as Indian

2.3 Data Collection Method

Secondary data has used for the study.

Secondary data is collected from library, text books, and journals, articles from newspapers and
from relevant websites available on internet.
3. Introduction

3.1 Introduction

The argument posited in favour of demonetisation is that the cash that would be extinguished
would be black money and hence, should be rightfully extinguished to set right the perverse
incentive structure in the economy. While the facts are not available to anybody, it would be
foolhardy to argue that this is the only possibility. Therefore, it is imperative to evaluate the short
run and medium-term impacts that such a shock is expected to have on the economy. Further, the
impact of such a move would vary depending on the extent to which the government decides to
remonetise. This paper elucidates the impact of such a move on the availability of credit, spending,
and levelling of activity and government finances.

3.2 Evaluation

Demonetization is the stripping a currency unit of its status as legal tender. Demonetization
becomes a necessary when there is a change of national currency. The old unit of currency has to
be retired and replaced with a new unit of currency. It include either introducing new notes or coins
of the same denomination or completely replacing the old denomination with the new
denomination which is often carried out as an ambush on the black money and market. The
opposite of demonetization is called as remonetisation in which a form of payment is restored as
legal tender. Currency is a commonly accepted form of money, including coins and paper notes,
which is issued by a government and circulated within the economy. As used a medium of
exchange for goods and services, currency forms the basis for any trade. The currency or legal
tender is issued by a countrys central bank or a monetary authority. The national currency of a
country is usually the principal currency used for most of the financial transactions in that country.
Basically each country has its own currency as Switzerland's official currency is the Swiss franc,
and Japans official currency is called the yen. An exception would be the euro, which is used as
the currency for a group of European countries called European Union. In India the currency is
called the Indian Rupees (INR). In most of the cases, the central bank of a country has the absolute
right to issue money or the currency for circulation.

3.3 History


Paper Money as a legal tender was first introduced in the late eighteenth century. The Victoria
portrait series was initially issued in few denominations of 10, 20, 50, and 100. Then the Victoria
portrait was replaced by the following under print series in 1867. Rs.1000 and Rs.10,000 currency
notes were circulated between 1938 and 1946. Notes in Ashoka Pillar watermark series in Rs 10
denomination were first issued between the year 1967 and 1992, Rs 20 in 1972 and in 1975, Rs 50
in 1975 and 1981 and Rs 100 was launched between 1967-1979. The banknotes issued during this
period carried the symbols which represent the science and technology, patron and orientation to
Indian arts. In 1980, the legendary Satyameva Jayate truth alone shall prevail was
incorporated under the national emblem for the first time ever. The highest of all denominations
ever printed and circulated by the Reserve Bank of India (RBI) was the Rs 10,000 note in 1938
and was issued again in 1954. Mahatma Gandhi (MG) series banknotes were issued in 1996 in the
denominations of Rs 5, (introduced in November 2001), Rs 10 (June 1996), Rs 20 (in August
2001), Rs 50 (March 1997), Rs 100 (in June 1996), Rs 500 (in October 1997) and Rs 1,000 (in
November 2000). The Mahatma Gandhi Series 2005 bank notes were issued in the denomination
of Rs 10, Rs 20, Rs 50, Rs 100, Rs 500 and Rs 1,000 and carried some additional/extra security
features as compared
The Southern Regional Conference on Management Education A Global Perspective, Organized
by PSG Institute of Management, Coimbatore 06.01.2017

to the 1996 MG series. A new redesigned series of Rs500 banknotes and a new denomination of
Rs 2000 banknote are added and are in circulation since 10th of November 2016.


In India demonetization has happened thrice. The first was on the 12th of January 1946 (Saturday),
second on 16th of January 1978 (Monday) and the third was on 8th of November 2016 (Tuesday).
In the January of 1946, notes of denominations 1,000 and 10,000 rupees were withdrawn from
circulation and new notes of denominations 1,000, 5,000 and 10,000 rupees were introduced in
1954. Then Janata Party coalition government again demonetised banknotes of denominations
1,000, 5,000 and 10,000 rupees on 16th of January 1978 with the notion of curbing counterfeit
currency and black money. The highest of all denominations ever printed by the Reserve Bank of
India was the Rs 10,000 note in 1938 and was again in 1954. But these notes were demonetized in
the January of 1946 and again in the January of 1978, based on the RBI data. The first occurrence
was in 1946 and the second in 1978 during which an ordinance was issued to phase out various
notes with denominations of Rs 1,000, Rs 5,000 and Rs 10,000 respectively. The demonetization
of denominations Rs. 500 and Rs. 1,000 banknotes was a policy decision carried out by the
Government of India on 8th of November 2016. In the declaration, the use of denominations of all
Rs. 500 and Rs. 1,000 banknotes of the Mahatma Gandhi Series would be invalid after the midnight
of the same day, and was also announced that the new Rs. 500 and Rs. 2,000 banknotes of the
Mahatma Gandhi New Series will be issued in exchange for the above mentioned old currency
notes. The move by the government is defended as an attempt to eliminate a reasonable volume of
currency notes which is in the circulation because of inflation.
3.4 Definition

DEFINITION of 'Demonetization'

Demonetization is the act of stripping a currency unit of its status as legal tender. It occurs
whenever there is a change of national currency: The current form or forms of money is pulled
from circulation and retired, often to be replaced with new notes or coins. Sometimes, a country
completely replaces the old currency with new currency.

The opposite of demonetization is remonetization, in which a form of payment is restored as legal


BREAKING DOWN 'Demonetization'

There are multiple reasons why nations demonetize their local units of currency:

to combat inflation
to combat corruption and crime (counterfeiting, tax evasion)
to discourage a cash-dependent economy
to facilitate trade

India has carried out demonetization exercises twice before, in 1946 and 1978.

In Jan 1978 episode, currency worth INR 1.46 bn (1.7% of total notes in circulation was
demonetized. Of this INR 1.0 bn (or 68%) was tendered back.

In 1978 the value of demonetisation was very small (only 0.1% of GDP). However, the
2016 demonetisation efforts covers 86% of the total currency in circulation (11% of GDP).


Deposit Growth -Rose sharply

Currency in circulation -Moderately sharply

SLR Security Sharp increase in investment

In government securities by


Credit Growth -Initially subdued but started

picking up after 4 months (by

May 1978)

GDP Growth -No major impact as high

Denomination notes which

were cancelled only accounted

for 0.1% of GDP.

4.2 Principles of Tackling Black Money

The first principle is that remove the systemic pain that leads to creation of black money in the
first place. Blame lies with the tax department. Black money is nothing but money generated in
legitimate transactions which are hidden from government so as to avoid paying the transaction
cost (usually tax) in the legitimate economy his is usually done by using physical cash. This cash
thereafter must be processed to convert into consumption or investment. Black economy refers to
various activities, transactions etc. that help process this physical cash, create returns on this cash,
facilitate consumption using this cash etc.

The second principle has two parts. First, not all cash transactions are necessarily black money
transaction. They become black money transactions only if they are hidden from the legitimate
economy. Thus, a shopkeeper who does not give receipt but declares the sale (its only
hypothetical) does not create black money. Conversely, a shopkeeper who gives a receipt but
discloses other receipt book to the tax authorities (happens all the time) creates black money
transaction. Second, the black money must at some time or other be plugged into legitimate
economy. Thus, it cannot be done using user created currency that cannot be exchanged with local
currency. So it depends on legal tender. It means somewhere down the chain there must exist a
person for whom part of this black money is legal cash income which he can use for his own
consumption in legitimate channels. Usually, this is the construction worker, or other poorest of
the poor who will give certain services and his income will remain under the government radar. It
can also be illegal traders in gold or diamonds etc. who can convert this into precious items that
have quasi legal tender status.

The third insight is that black economy is continuously fed by parts of white economy that go
underground. Quite a few people who do not want to promote black money contribute to it. They
are either coerced say developer forcing buyer to pay him in cash or government officer seeking
bribes in cash. Therefore, preventing white money from becoming black the starting point. The
recommendations of Report titled Measures to tackle Black Money in India and Black economy
depends on black money financiers. These are money lenders earning like 2% per month on their
investments for financing the activities in black money friendly sectors. Film financing,
construction financing, retailers, dance bars, alcohol, etc. These financiers also need enforcement
mechanism to ensure their money is safe. Naturally they ally with criminal elements. Al Capone,
the famous Chicago mobster, was previously an enforcer but later a financier.

Other Black Money Creators

There are other critical elements in black money chain or black economy. These elements represent
turning smaller amount of white money into black by aggregation and misrepresentation. For
example, take NGOs. Some of the NGOs existing only on paper. Their model is thus. These NGOs
collect legitimate amounts from citizens and push it into causes like animal shelters, girl child,
medical aid to needy etc. The main problem is that the costs of these NGOs is unreasonably high.
They also commit fraud by misrepresenting number of animals and kind of facilities etc. creating
a source of black money for the promoters who get salary and or benefits like cars and drivers
from the NGOs. Cooperative banks are another piece of the puzzle. These accept smaller deposits
from individuals and loan to founders and directors. The process is illegal and escapes the law only
because it is not regulated by the RBI but by Politicians who are themselves directors in such
4.3 Impact of Demonetization on Indian Economy

Government aided/recognized schools, colleges and institutions which look innocuous and have
no actual teachers, students or infrastructure but simply using approvals from complicit education
officers create a chain wherein legitimate money turns into black money. Others institutes have
proper systems but use management quota to pool students money into black money pools for the
founders. Some use both mechanisms. Such entities are inherently different from SMEs which
exist to service the needs of a wealthy black money holder or create black money through banks.
These elements will be hit substantially by the demonetization and their promoters will be forced
to declare these amounts or destroy them. However, the issue is that they can continue to create
black money sources since their model has not been dismantled.

Role of Religious and Other Public Trusts

The model of trusts is a little different but they are as important elements in processing black
money as SMEs and others listed above. The trusts are both receptacles and users of black money.
They are not creators. Some allow devotees to make small but numerous donations while spending
substantial amounts on expenditures related to their promoters. Others are created out of
anonymous black money donations with specific beneficiaries. Their nature makes them a hot-
potato issue where they seem to be untouchable by any government, religious entities being
protected by constitution.

So Will Demonetisation Eliminate Black Money? Not by itself. It is just one move of one piece in
the chess board of black money. To check-mate the black money king, you have to win the board.
There are various steps required as detailed above. Government can play all these moves and still
fail if they play improperly. All we can say is that Government is playing well. But will it succeed?
The efforts will bring massive amounts of cash into the banking system a benefit in itself. Once
the money is in the legitimate channels, it should be better utilized and revenue will be generated
from its use. If that is success enough then yes.

Strategies for tackling Black money

The distillation of various approaches can be summarised as under: Establish identity of persons
(through PAN Card, Aadhar Card etc.) operating in the country citizens and foreigners. Enable
low the cost direct bank transfers (Implementation of NEFT/IMPS/RTGS and other formats)
including direct transfers of subsidies to the beneficiaries under the Aadhar scheme. Enable
electronic register of assets (Underway through electronic land records, digitisation of revenue
records) Reform tax system so that cost of compliance is lower than cost of tax evasion. (through
initiatives such as Saral forms, e-filing, self-declaration etc.) Indirect tax system through
simplification (GST). Widen the net for disclosure by filing Income Tax return. (Auto
processing returns for tax refunds) Regulations that increase costs for black money creating
activities. (Prevention of Corruption Act etc.) Create attribution chain for funds entering and
exiting the country (such as through P-Notes, FDI, Prevention of Money Laundering Act etc.)
Create e-trails of both incomes and expenditure. Control on holding of cash and physical money
including Indian and foreign money.
4.4 Impact on the Economy

Short-term impact

The demonetisation, by removing 86 per cent of the currency in circulation, has resulted in a very
severe contraction in money supply in the economy. This contraction, by wiping out cash balances
in the economy, will eliminate a number of transactions for a while, since there is no or not enough
of a medium of exchange available. Since income and consumption are intrinsically related to
transactions in the economy, the above would mean a severe contraction in income and
consumption in the economy. This effect would be more severe on individuals who earn incomes
in cash and spend it in cash. To a lesser extent it would also affect individuals who earn incomes
in non-cash forms but need to withdraw in cash for consumption purposes, since a number of
sectors in the economy still work predominantly with cash.

In terms of the sectors in the economy, the sectors to be adversely affected are all those sectors
where demand is usually backed by cash, especially those not within the organised retailing. For
instance, transport services, kirana, fruits and vegetables and all other perishables, would face
compression in demand which is backed by purchasing power. This in turn can have two effects:
while it is expected that supply exceeds demand, there would be a fall in prices, however, if supply
too gets curtailed for want of a medium of exchange, prices might, in fact, rise. Thus, while
generally people seem to expect prices to fall, it is quite possible that prices would instead rise.

Alternatively, to keep the flows going, people might take recourse to credit - both the retailers and
other agents in the economy might make supplies on credit in the hope that when the liquidity
status is corrected, the payments can be realised. In these cases, the price of commodities might
rise instead of falling. In other words, the impact of an incremental reduction in money supply
where the demand and the supply chain remain unaffected would be different from a case where
there is a drastic reduction in money supply and outputs might adjust rather than the adjustment
being in prices. In other words, the expectation that inflation would decline might be belied.
Medium-term effects:

In the medium term, the effects would be related to the extent to which the currency is not replaced
within the economy. If the entire currency is replaced, there would not be any major effects on the
economy. However, it is to be expected that the entire currency would not be replaced to the
extent currency is extinguished and to the extent some of the currency remains as bank deposits,
there would be some impact on the economy. The first effect would be a compression of the
economy to the extent the extinguished currency was working as a medium of exchange. The
currency that is placed in the banks but not withdrawn, it is argued, would generate an expansion
in deposits in the economy. In the discussions on demonetisation, there is a consistent reference to
the resultant increase in credit creation in the economy. Like Finance Minister Arun Jaitley says,
Bank deposits will increase and they will have more capacity to support the economy.

The total cumulative credit that can potentially be generated is defined in terms of the reserve ratio.

Total credit potential = incremental deposit generated*(1/reserve ratio)

In India, the cash reserve ratio is 4 per cent while there is a statutory liquidity ratio of 22 per cent

In determining the credit creation, it is important to take into account only the CRR and the
additional credit creation can be 25 times the amount of money deposited in the banks as a result
of the proposed demonetisation.6 this amount however, will be generated only if there exists an
equivalent demand for credit in the economy.
4.5 Transition Issues

There are a number of transition issues that need to be managed for this transition to be effective:

The projections are done using the ratio for 2011-12 since in subsequent years the ratio declined
due to low off-take of credit in the economy.

Infrastructure Issues

There is need for a significant upgrade of the banking system as well as in the telecom
infrastructure that would provide the backbone for digital transactions. For people to be able to
transact at any time and place as well as for them to consider it a reliable medium of exchange, it
is important that not only the banking system is upgraded to ensure that transactions can be
completed without a hitch, but the supporting infrastructure too is up to the mark. For instance, in
many parts of the economy, there is limited and intermittent supply of electricity as well as mobile
connectivity. In these areas, it would be difficult to expect people to shift to electronic medium of

Consumer behaviour Issues

Apart from the technological issues, there is a behavioural change that is being expected in people
from using cash as a medium of exchange to using other cash substitutes both for making payments
and receiving payments. This transition requires individuals to make two changes in their
behaviour: one, agents need to move from tangible means which can be seen and felt to forms
which are less tangible or not tangible, and second, they have to learn to rely on technologically
advanced tools to undertake regular day to day operations. The latter requires agents to be educated
to the extent of comprehending the content of transactions. If this transition is not suitably
managed, agents might be tempted to move to non-official cash substitutes.
Accessibility in language

In addition to all of the above, most of the banks and the mobile instruments for transaction are
currently adapted to a single to two languages. If the bulk of the population of this country needs
to come on board, it might be important to make these facilities available in a myriad of Indian
languages to ensure that the user can comprehend the transaction that they are entering into.

Transition issues for banking sector

There are multiple issues here.

i. The banks too might have a transition issue to deal with. Banks would have a model of the
fraction of deposits that they can safely lend without an excessive risk of withdrawal of the
amount. This is important since, while banks can borrow money from the call money
market, the costs of such borrowings can be large. These models, however, might need to
be altered in the new regime since the character of the new deposits that come into the bank
would be different from the pre-existing deposits. In the latter, while a fraction of the
deposits would be for transactional purposes e.g. salary earners another fraction would
be depositing only savings into the account. By eliminating high value currency notes,
these agents who were operating through cash, would now have to move to non-cash
instruments and hence, the balances in their accounts would not be savings but transaction
values which will be retained in the account for shorter durations of time. The banks
therefore would need to re-model their decisions on how much of the deposits can be lent
out and for what duration. It is, for instance possible, that a larger proportion of the deposits
would be retained for short-term lending and can even be dedicated to the call money
ii. Second, while 1/reserve ratio defines the potential maximum amount of credit that can be
generated in the economy, the actual credit generation would be defined both by the
demand for credit and the extent to which cash intervenes in the functioning of the
economy. For instance, if people who receive credit from the bank make payments through
cheques alone and they in turn make payments through cheques, then the potential credit
creation can be realised. However, if on receipt of payment, the agent withdraws the money
to cash and makes payments, only a fraction of the credit/deposit will return to the banking
system. Thus, larger is the extent to which cash is used as a means of transacting, smaller
is the total credit that can be generated. With a withdrawal of cash from circulation, the
deposits will continue to remain in the bank, it would merely shift from account to account
or from bank to bank. Thus, even on the earlier deposits, the amount of credit that can be
generated would be larger. This is another reason why the banks would need to remodel
their investment decisions corresponding to a given level of deposits.
iii. A third issue that might arise as a transition issue is because of the mismatch between
peoples preferences for cash and the availability of cash. In the interim, until people adjust
to the use of non-cash instruments, there would be an increased demand for the cash that
is available and that might generate a situation where the agents have to pay a premium to
access legal tender. In periods of scarcity of coins for instance, it is commonly known that
people pay a premium to get the change. While this can be considered a transition issue,
there are two different implications of such a development:
a. If the premium on cash is high, it would encourage both the shift to non-cash instruments
on one hand, and to informal substitutes of cash on the other.
b. This might undermine the confidence that people have in the currency and hence,
encourage move to other currencies.
4.6 Mode of payment and spending behaviour

There is growing literature that points out to the possibility of changes in spending behaviour as a
result of moving to instruments other than cash. There are many substitutes for cash in the modern
economy ranging from cheques, debit cards, pre-paid cards, credit cards and mobile wallets. When
compared to cash, these instruments differ in a number of key characteristics. Temporal separation
or degree of coupling is the extent to which a purchase and the payment for the transaction from
resources are separated in time. If the two are de-coupled, people may not perceive a sense of
separation from money at the time of incurring the expenditure and hence may overspend.

The second characteristic is related to the pain of payment flowing from salience. It is argued that
people perceive the pain of payment depending on the tangibility or salience of the outflow.

A third feature is the stringency of budget constraint while cash limits ones ability to spend to
the amount of cash in hand, a debit card expands it to the balances available in the account and a
credit card further relaxes it to include future earnings as well

Payment Salience Salience Transparency Temporal Temporal

Mechanism Of Form of amount Separation Orientation

Cash High High Very High No, Do not Perception of

exist present-
Cheque Medium High High Low Perception of
Credit Card Medium Medium Medium High Perception of
Debit Card Medium Medium Medium No, Do not Perception of
Exist present-
Store Value Low Low Low Medium Perception of
Card present-
Auto Very Low Very Low Very Low Low Perception of
Pay(direct present-
debit from present
bank account
Digital Wallet Medium Medium Medium High Perception of

We summarise the results of some of these studies which compare the behaviour of consumers
using alternative instruments as follows:

In a comparison of debit cards with cash, studies suggest that with the use of debit cards,
the level of consumption tends to be higher.
In a comparison of credit cards with cash, this effect is more pronounced.
Credit cards often are associated with more spending resulting in an increase in debt as
Further, spending with cards seems to encourage spending on non-essentials.

These changes in consumer behaviour can have long-term consequences on the economy as well
as on the budgets and lifestyles and priorities of agents in the economy. It could, for instance, lead
to a ballooning of consumer debt which in turn could push the financial system towards a crisis if
not suitably managed. Further, if available debt in the economy is channelled towards consumer
debt, while at the same time lowering saving in the economy, it could adversely affect the
investment within the domestic economy.
4.7 Impact on Macro Variables

Apart from the transition issues faced by banks, in judging the impact on the economy, it is
important to differentiate between the two changes that the demonetisation can bring about in
money supply. The first change, i.e., cash being extinguished, to the extent it was being used as
medium of exchange, would result in a compression in incomes, employment and consumption in
the economy. On the other hand, the effect of the second change, i.e., cash being only partially
replaced in the system would have the opposite effects of expansion in potential credit creation.
The potential credit creation would translate into actual credit creation provided there is sufficient
demand for credit. If the demand for credit in the economy is large enough, the potential credit can
be realised. Of the credit created, other things remaining the same, it can be expected that at least
a part of the credit, will be for productive purposes. This would mean expansion in investment in
the economy and subsequently an increase in GDP and employment.

If there is increase in investment in the economy, the demand for capital goods rises. If output can
expand in this sector, there would be an expansion in the income generation and in demand for
goods and services. Sectors that are not operating with excess capacity cannot meet the expanded
demand with increased output, leading to increase in prices. This would hold for agriculture as
well as any industry with long gestation lags to investment. In other words, in the short run there
is a possibility of increase in inflation.

With increase in GDP, since imports are supposed to be related to the size of the economy, it is
expected that imports will rise, but the same cannot be said about exports. In other words, the
balance of trade could worsen. This could result in pressures on the rupee towards depreciation.
Any increase in inflationary pressures too could augment these pressures.

MSME is one segment of the economy which is credit constrained Expansion in the potential credit
in the economy could expand the credit available to this segment of the economy which is more
employment intensive than the organised manufacturing. In other words, if the access to credit for
this segment can be improved, it can generate many positive spin-offs. One reason why this
segment might get better access to formal sector credit would be if all their transactions move to
the digital format, thereby making available to the lending institutions evidence of credit
worthiness. However, for this the transactions need to move digital before they can get access to
credit. In other words, unless the banking sector is exploring more risky asset categories, they
would not be the beneficiaries of the expansion in potential credit.

It should be kept in mind that credit is not the only constraint faced by the MSMEs. There is a cost
of compliance with regulation in the formal sector both of tax legislation and other legislation
which would increase the cost of operation. In the absence of economies of scale, after incurring
all these costs, some of the MSMEs might not be viable in the new environment. In other words,
the decision to move from the informal sector to formal sector is a non-trivial decision for the units
and merely changing the access to credit might not be adequate to alter the status quo. Under those
circumstances, they might explore the use of alternative currencies as a means for survival.

It is, however, not correct to assume that expansion in credit will definitely materialise. In the last
two years, the demand for credit in the economy has been sluggish at best. In comparison to a
credit deposit ratio of 1.53 in 2011-12, the figures for 2014-15 were as low as 0.54. While there
might be many factors that contributed to this outcome, what is of consequence is that the
demonetisation has been introduced in this environment where demand for credit is rather low. A
compression in demand in the economy would further depress the sentiment driving investments.
In other words, demand for credit would continue to be low and the potential credit will not be
realised immediately.

The first consequence of this would be a fall in the interest rates in the economy which could revive
some of the sentiment since firms with outstanding debt would have lower interest liabilities and
hence, can see improved balance sheets.

The compression in demand would mean a decline in imports while exports might not be adversely
affected. This change in the balance of trade would induce an appreciation of the currency. Along
with lower interest rates, this could result in inflow of investment by FIIs as well.

If the demand for credit is not very sensitive to interest rates then the lower interest rates would
not bring in sufficient demand and banks would need to explore alternative ways of placing the
additional deposits available with them. This could mean that banks take in more risky assets
potentially opening up the economy to more volatility and risks. This could include real estate,
consumer credit and consumer credit cards. The housing loan bubble of the US economy might be
one such example of lending to more risky projects, thereby bringing in more volatility into the

Two more extreme possibilities that might follow are: a loss in the confidence of the people in the
official currency leading to bank run kind of situations if the current description of waiting for
long hours for withdrawing money persists and the caps on withdrawal are not relaxed.
Alternatively, they could shift to alternatives to currency. Second, there could be social unrest if
the compression in incomes and consumption are severe and persistent.

Alternatives to currency: would they evolve in the face of demonetisation?

A number of agents in the economy would be required to move from the informal sector to the
formal sector. For these agents as well as for agents who have been operating through the medium
of cash and find the transition difficult, certain informal cash substitutes might emerge. For
instance, even at present, there are coupons like the SODEXO coupons which are used for paying
for certain purchases. These are accepted by a range of establishments in place of formal currency.
It is, therefore, possible to see an expanded use of these coupons. The change might induce the
generation of other tokens as substitutes for money as well - the agency collecting MCDs green
tax has started issuing tokens in place of change. Similarly, for high value transactions one can
think of bitcoins and other such crypto currencies on one side and foreign exchange on the other
as a mechanism for settling transactions. Perhaps these would not take on a dimension large enough
to challenge the official currency, but it can disturb the expectation that the unaccounted economy
would be brought into the formal sector since there might exist alternatives to the formal currency.
Here it is important to explore the possibility and acceptability of peer to peer payment instruments
a category which has been evolving in recent times.
Effects on government finances:

The effects of demonetisation on government finances can be divided into three categories: the
impact through RBIs finances, the impact through taxes and the impact through credit available
to finance deficits.

Through RBIs finances

The RBI earns seignior age through the printing of currency. In the demonetisation, a part of the
currency will be extinguished. For this part of the currency, the RBI can print the notes given the
assets on its books, but there would be no takers. In other words, this part of the currency would
be like new money that can be introduced into the economy and hence yields seignior age to the
RBI once again when released into circulation. RBI, however, cannot lend this to the government
since that would involve additional liability build up on its balance sheet. So, this currency can
only be released when foreign exchange is being converted to rupees for instance and not sterilised
thereafter. At this point there would accrue some dividends to the government as well. However,
to the extent the government and the RBI seek to move the economy towards digital instruments,
this option might not be exercised and the dividend might not accrue.

Impact through taxes: There are multiple channels through which taxes will be affected:

At the point of transition to the new regime, people have attempted to convert cash balances
into commodities like gold or luxuries. On these transactions the governments would have
a spurt of taxes. This would however not last beyond the transition phase.
In the subsequent period, the impact on indirect taxes would be negative because of the
compression in demand.
On property taxes, some local bodies have given people a window of opportunity to pay
old as well as current taxes in the scrapped notes. This would result in an increase in
revenue collections in property tax. 16
On income tax there can be two potential effects: first, with compression in the economy,
there could be a reduction in the tax collection. In the unlikely event of people choosing to
deposit unaccounted balances in the bank and pay taxes and penalty on the same, or if the
tax department through investigation, finds that some of the deposits are not explained
income tax collections would increase. For any individual depositing balances above Rs
10 lakhs, the tax and penalty together would absorb the over 90 per cent of the deposited
amount. This would serve as a disincentive for people with large balances to come and
deposit the same into accounts. In other words, the government cannot expect to get major
collections in terms of the tax and penalty on unaccounted incomes revealed. Through
financing of fiscal deficit: The generation of additional deposits and credit, as a result of
the SLR requirements can make more credit available to governments. Given the FRBM
(Fiscal Responsibility and Budget Management) limitations, the amount of borrowing that
governments can take on may be limited and the additional supply can mean a decline in
the interest rate that governments pay on their debt. This could be a positive spin-off for
the governments.
5. Data Analysis & Interpretation

November 8, when the whole world was waiting for the outcome of US presidential elections,
Prime Minister Narendra Modi came out with his master stroke on corruption, counterfeit
currency, terrorism and black money by announcing demonetisation and ceasing Rs 500 and Rs.
1000 notes as a part of legal tender in India.

The Reserve Bank of India manages currency in India and derives its role in currency
management on the basis of the Reserve Bank of India Act, 1934 and a new redesigned series of
Rs 500 banknote, in addition to a new denomination of Rs 2000 banknote is in circulation since
November 10, 2016.The new redesigned series is also expected to be introduced to the banknote
denominations of Rs 1000, Rs 100 and Rs 50 in the coming months.

The term demonetisation is not new to the Indian economy. The highest denomination note ever
printed by the Reserve Bank of India was the Rs 10,000 note in 1938 and again in 1954. But
these notes were demonetised in January 1946 and again in January 1978, according to RBI data.

Since less than 5 percent of population in India had access to such notes and most banks never
had such currency notes, demonetisation did not have a big impact on the country. The decision
was taken to curb the illegal use of high denomination currency which was used for corrupt deals
in the country.

However, with the latest round of demonetisation, the common public and bankers are
undoubtedly facing hardship since more than 85 percent of currency in circulation has been
rendered illegal in one single stroke. Demonetisation is surely hampering the current economy
and will continue to do so in the near term and will also impact Indias growth for the coming
two quarters but will have positive long lasting effects. The question that arises is why
demonetisation was required at this point of time. There are certain pros and cons of

One of the biggest benefits of this move is that it is going to drastically affect the corrupt
practices. People who are holding black money in cash will not be able to exchange much as they
would be in a fear of getting penalised and prosecuted by the authorities. Enemies of the country
which are involved in counterfeit currency and terrorism will not be able to continue it further for
quite some time at least.

The smuggling of arms and dealing with the terrorist will not sustain further as all of the money
will be on record now. Secondly, the banking system will improve as it will slowly head towards
a cashless society. Cashless society will increase credit access and financial inclusion. The
existing white money of people will be known to the government and it will remain with banks
so that it can be put on loan, and interest can be generated from it (though interest rates would
fall) with a corresponding fall in Inflation.

Further Banking System will get a boost, as more than Rs 7-8 lakh crore base money (new legal
money) will enter the system. However, it needs to be seen how much money actually remains in
the system, once the cash withdrawal limits are eased.

Thirdly, it will reduce the risk and cost of cash handling as soft money is safer than hard money.
It will also reduce government liability. Since every note is a liability for the government, the old
currency will become worthless for those people, who choose not to disclose their income. Thus,
this will extinguish government's liability to that extent. It is expected approximately Rs 5 lakh
crore may come to the government in the form of extinguished RBI liability, taxes and penalties.
This amount is enough to take care of India's entire fiscal deficit for one year or more.

It will also reduce tax avoidance. Whatever money will be deposited or exchanged, authorities
will keep a track of it and they will be extra cautious in this period. Dealing in this period in
sectors like jewellery and real estate will be on radar and those entering into Loan transactions
may also undergo tax scrutiny. Search and Seizure activities of the IT Department will also rise
to curb such malpractices. Limits have already been prescribed for reporting to the IT
Department those bank accounts in which excess cash deposits are being made in this 50-day
window (Rs 2.5 lakh in case of individuals and Rs 12.5 lakh in case of firms).

Importantly, in the longer run, tax and interest rates on loans are expected to come down as
higher income tax collections arising from better compliance would offer scope to reduce rates
over the long term. This, in turn, will drive up disposable income. This can give a positive
impact on consumption demand in long term.


The liquidity squeeze caused by demonetisation will be negative across sectors with high level of
cash transactions. Real estate, jewellery, retailing, restaurants, logistics, consumer durables and
luxury brands, cement and some segments in retail/SME lending space will be facing short term
instability. Those companies with high level of debt will face more pressure and can face loan

Secondly, there will be an added replacement costs of currency. We cannot ignore the increased
cost of operating ATMs need to be refilled more often and also it will be a huge burden on
banks. Initially, it is very difficult to create a cashless society as more than 50 percent of Indian
population is not well versed with card transactions. Also for these initial months, it will be very
difficult to make cash transactions of a higher amount. But the government is taking steps to
improve liquidity into the system and reduce inconvenience as much as possible.
India is certainly going to experience "Acche Din" in Modi's regime. The decision of this
surgical strike on black money was not taken in a day or two. Rome was not built in a day and
similarly, this plan is the result of Prime Minister's meticulous planning and never ending fight
against corruption. As a result, he has successfully made the right stroke at the right time.
Further, the penal provisions are hefty enough to ensure that corrupt practices will find it hard to
take roots again. Despite certain short term troubles, demonetization is certainly going to give a
boost to the Indian economy in the long run. As of now, all of us should stand and support this
bold move of our Prime Minister and help those needy, around us.

Expected impact on fake currency

A study by the National Investigation Agency and the Indian Statistical Institute, in 2016,
estimated that fake Indian currency notes in circulation have a face value of Rs. 400 crore. This
is an incidence of fake currency of 0.022%. The scale of counterfeiting of the Indian rupee is not
out of line with what is seen in other countries, and the procedures adopted worldwide to address
this include investigative actions against counterfeiters, phased replacement of old series of notes
with new notes that have better security features, etc. Demonetization is generally not seen as a
tool for dealing with counterfeiting. We must also not forget that the counterfeiters will now get
to work on the new 500/2000 rupee notes, while India will likely never do a demonetization

Expected impact on unaccounted wealth a.k.a. black money

The analysis presented in the finance ministrys White Paper on Black Money, 2012, shows (on
page 47) that, on an average, the amount of cash seized during raids by income tax authorities is
4.88% of total undisclosed income admitted in those cases. This data is from more than 23,000
warrants executed. Even if this decision inflicted a 100% loss upon holders of unaccounted cash,
this would imply a loss of only 4.88% of their total unaccounted wealth, which is not much of a
shock for those with such wealth. If, as is more likely, the demonetization has imposed a 40%
loss upon holders of unaccounted wealth (who suffer a 40% discount when laundering their
money), this implies a loss of just about 2% of unaccounted wealth.
Expected costs

Cash is a store of value (white or black), but it is also a medium of exchange. Most people in
India only transact with cash. More than 90% of shops accept only cash or very short-term credit.
Large numbers of laborers and small value suppliers are paid in cash. While these facts may
change over time, they mean that this sudden ban may be leading to disruptions in consumption
and production. Compared to the 10,000 yen note ($137 in purchasing power parity), the 1000
swiss franc note ($775), the USD 100 note, or the 500 euro ($530) note, the Rs. 1000 ($31 in
purchasing power parity) and Rs 500 ($15.5) are practical notes that are used for daily
transactions. Hence, demonetization of these notes is a large adverse monetary shock perhaps
the largest ever such shock in world history. The constraints of ATM recalibration and currency
printing are leading to a long transition period. Even ensuring 50% re-monetisation in cash form
about Rs. 7.5 lakh crore by December-end appears hard. The Centre for Monitoring of Indian
Economy has estimated that a few elements of the first-round impact give a reduction of GDP of
around Rs 1.3 lakh crore; the total impact will be higher owing to the multiplier effect, the
hysteresis associated with the monetary shock, the impact upon expectations, etc.

Who bears the costs?

While there is much talk about the GDP impact of this decision, a unique feature of this episode
is that there may considerable other costs that fall disproportionately upon the poor. The rich
have access to electronic payments, employees who will stand in queues to obtain cash, and
savings that are used to cope with a decline in income. The poor lack all these. If a poor person
suffers an income shock, or is not able to get medical treatment, the consequences are enormous
for the individual, but the GDP impact may be negligible. In terms of welfare implications, these
costs matter a lot more than the impact on GDP.
Approach to comparing benefits and costs

The benefits are primarily in the form of losses inflicted upon those with black money, while
costs are imposed on legitimate economic and social activities. Ordinary people, going about
their lives, have suddenly been asked to bear a burden associated with the project of imposing
costs upon people who have unaccounted wealth. Some of the costs are incurred by poor people,
whose welfare loss might be much more for a given level of rupee cost incurred.

Given this difference in the nature and incidence of benefits and costs, each rupee of cost should
be given a much higher weight than each rupee of benefit.

It seems, thus, that the economic costs of this decision are likely to outweigh its economic
benefits.Some have compared this decision with a surgical strike, but it is more like a nuclear
strike. The nuclear option has been exercised before exhausting other options. Although
measures to help people disclose their undisclosed incomes have concluded, the efforts to
directly or indirectly curb illegality have barely begun. This raises concerns about the wisdom of
using this lever of demonetization.

What the media says and doesnt say

The mainstream media narrative around the decision is not as pessimistic as the analysis
presented above. There is a disconnect between the mainstream narrative and the facts emanating
from the ground

Four key arguments are being forwarded in support of the decision:

i. It is claimed that the decision is likely to have a smaller impact on the poor than what
many, mostly anecdotal, reports suggest.
ii. The monetary shock can be, and will be, quickly overcome by the use of monetary policy
instruments to restore liquidity.
iii. This decision will expedite the process of making India a cashless economy, with
benefits that will make short-term costs worthwhile.
iv. Since the decision is popular, it must be good. This raises an interesting question: in a
democracy, can there be a better measure of goodness of a policy than its popularity?

Small impact on the poor?

Two ideas have been offered in the claim that the adverse impact upon the poor will be small:

Cash savings as predictors of impact on the poor: Estimates based on national surveys show that
cash earnings of the poor are small, and they usually lack cash savings. So, it is argued, they are
likely to seldom visit a bank branch or post office, and they are not particularly inconvenienced.

Credit as a mitigant of the impact on the poor: It has been argued that since the rural economy is
significantly credit-driven, the impact on the rural poor will be small. If transacting parties know
each other, they would be willing to extend credit, which would make short-term non-availability
of cash less costly. Given the practices in rural markets, many commercial relationships are
indeed credit-driven, and cash calls are only made periodically. I fear that a broader
understanding of the financial and economic lives of the poor yields an understanding of the
impact of demonetization that is quite harsh.

The financial lives of poor households are very different from those of the middle class and the
rich in one crucial aspect the intensity and frequency of financial transactions involving cash.
The ratio of financial turnover to assets held, during a given period, is much higher for poor
households. Financial turnover is the total value of all financial transactions, i.e. putting money
in or pulling money out from any informal or formal financial instrument.

Think of a middle class household with one salaried person earning Rs 6,00,000 a year, with
total financial investments worth Rs 10,00,000. From the bank account, money is withdrawn and
spent, or drawn down through card/online payments, or transferred into an investment
instrument. If this person has a credit card, each purchase on the card would create two financial
transactions of equal value drawing credit, and repaying credit. Other than this, there may not
be much push and pull in the persons financial life; only simple drawing down or investing
up. She may occasionally take loans or switch across investment instruments. Financial turnover
during a year is likely to be much lower than the total value of the financial assets owned. The
cash portion of the transaction value may be smaller yet.

Why Claims Backing Demonetization Are Faulty

Proponents of demonetization say it was required for market correction. However, given the
magnitude of government interference involved, it is likely to disrupt markets rather than correct

Demonetization may significantly disturb the markets, which may adversely affect economic
activity and employment. Credit: Reuters

Prime Minister Narendra Modis 50-day deadline for a return to normalcy post demonetization is
over and the move has proved to be a failure. But despite clear evidence of its failure, the
supporters of demonetization still consider it to be successful, making several vague claims in its
defense. One of the commonly made claims is that demonetization will clean up the economic
system. Another is that of employment generation.

It has been argued that India had jobless growth because a large share of the transactions
were not accounted for. Some point out that high denomination notes were hurting the economy.
The problem with such claims is that they are often accepted as the truth simply because they
come from a renowned person or a minister. Even if these ardent supporters accept failure, it is
attributed to the faulty implementation of demonetization and not the policy per se.

But some of the claims made by those supporting demonetization need to be looked at in more
Claim: Black money generated in the past was negatively affecting growth
rate, job creation

To understand the problem with this claim, one has to first understand the way in which black
money affects the economy. There are two major sources of black money corruption and tax
avoidance. Corruption affects economic activity by increasing the cost of doing business. For
example, if the cost of producing a commodity is Rs 100 and Rs 20 has to be paid to a
government official as a bribe, then the actual cost of production is Rs 120. The higher cost of
production has a negative effect on economic activities.

The second source tax avoidance does not affect economic activity directly. Instead, its effect
is through a higher burden of tax on a small number of businesses. The higher burden of taxes
affects the growth of these businesses, whereas the businesses that can avoid taxes enjoy higher

Although it is difficult to say whether aggregate welfare loss due to lower production for some
businesses is higher than the gains from higher production of others, there are other
consequences of this that may hurt economic activity in the long run.

Three negative effects of tax avoidance may be identified. First, it leads to higher corruption and
other wasteful activities in the economy. Second, it prevents businesses from shifting to more
efficient production methods, and third, it interferes with the peoples consumption choices by
changing the relative cost of commodities.

Even though corruption and tax avoidance hurt economic activity, the damage cannot be undone
by recovering the black money that has been generated earlier. The government can only avoid
future damage by preventing these activities.

For instance, if a firm had produced less in a previous year due to corruption, then recovering the
bribed money from the corrupt official is not going to increase the production of that year.
Similarly, the higher burden on tax-paying businesses in the past is not going to vanish just
because the government had recovered some money today. It is because corrupt actions and not
the previously created black money are responsible for the damage. The growth rate is hurt by
the present creation of black money and not due to the existence of black money in the system.

Therefore, even if demonetization had destroyed some of the existing stock of black money, it
would not have any positive effect on economic activity. Some do claim that demonetization will
scare the dishonest and corrupt. However, the cases of money laundering by bank employees and
recovery of crores of currency in new Rs 2,000 notes fly on the face of such claims. If the
corrupt are not scared while the demonetization exercise is going on, how likely is the move
going to control the problem in the future?

Claim: Demonetization was required for market correction

Ironically, this claim is made by some of the supporters of market economy. The bizarre thing
about this claim is that demonetization is against the basic philosophy of a market economy.
Market economy requires inaction of the government. The believers in market economy ask for
less interference. They believe that the markets are inherently good and it is the interference of
the government that disrupts the working of markets and creates inefficiency.

It is the demand and supply forces that lead to market adjustment. In fact, the working of
a market is not affected by the existence of black money. The advocates of market point to
corruption and tax evasion as the outcomes of government interference and higher tax rate,
thereby leaving no logical connection between demonetization and market correction.

Demonetization, on the contrary, is one of the biggest government interventions in independent

India. Given the magnitude of this interference, it is likely to disrupt markets rather than correct

There is also the possibility of a demand-supply mismatch, which will require reallocation of
resources. As per the estimates of the government and of several experts, black money in the
form of cash was about three lakh crore. The media reports suggest that many hawala traders,
corrupt bank officials and other such middlemen are converting the old currency notes into new
ones for a commission of about 30-40%.
As a result, 30-40% of the black money kept in the form of cash will go to these people. These
unintended beneficiaries of demonetization are likely to put this money into different use than
the original hoarders of the money. This new use may require the reallocation of resources. For
instance, if those who lose the cash were not using the money, whereas the new recipients start
spending it, then its effect will have the effect similar to printing new currency.

If it is the opposite, then it will lower the money supply in the economy. If the original owners
were the producers of houses and the new owners are buyers, then production of houses will
decline, whereas the demand will increase. There are a number of other possibilities. Most of
these possibilities will require the markets to readjust.

If the estimates of black money are true, then demonetization may significantly disturb the
markets, which may adversely affect economic activity and employment. This problem would
have existed even if the government were successful in destroying all of the black currency. In
fact, the situation might have been worse as the whole money instead of 30-40% would have
been put to a different use.

Claim: High denomination currency notes were hurting the economy and
cause for black money

It is argued that several economists have recommended the demonetization of high denomination
notes to control black economy and illegal activities. Some researchers, like Kenneth
Rogoff, had argued for the gradually phasing out high denomination currency. However, this
suggestion was not made for developing country like India.

Another problem with this argument is that it considers the value of currency to be fixed. High
denomination notes are only problematic if they have high purchasing power. In reality, the
value of currency note does not remain the same as its purchasing power declines with inflation.

The consumer price index of agricultural labor shows an increase in prices of about 47.76 times
between 1960-61 and 2015-16, i.e. a bundle of goods that used to cost Rs 100 in 1960-61, costs
Rs 4,776 in 2015-16.
In other words, there was about 48 times decline in the value of a currency note between 1960-61
and 2015-16. It means that the purchasing power of a Rs 1000 note in 2015-16 was almost equal
to the value of a Rs 20 note in 1960-61. Therefore, Rs 500 and Rs 1000 notes in 2016 were no
more high denomination than the Rs 10 and Rs 20 notes in 1960-61.

The low value of Rs 500 and Rs 1000 notes is also evident from the fact that, unlike in the past,
the high denomination currency was widely used by common people before demonetization.

Moreover, the existence of black economy does not need the existence of high denomination
notes, as the corrupt can accumulate wealth in other forms. For example, the corrupt can start
using gold and silver in their illicit transactions. Given the lower value of demonetized notes
when compared to the same denomination notes of the past and possibility of using other
methods of accumulating wealth, the claim that high denomination currency was hurting the
economy is not based on any sound reasoning.

Claim: Economy will bounce back once the currency notes are replaced

Pulapre Balakrishnan, Radhika Pandey and Rajeswari Sengupta have already pointed out that
economic recovery may take longer than what is being claimed by the government. Claiming
that the economy will recover once currency notes are replaced ignores the effect of income and
expenditure decline on the expectations of the producers and consumers. Once the decline in
money supply affects economic activity significantly, it is very difficult to bring the economy
back to normal. The decline in income of the people in one period affects the sales in the next

A significant decline in sale increases the uncertainty in the economy and producers respond by
lowering their production and postponing new investments. Given the uncertainty in income, the
people may also start curbing their consumption, which will amplify the problem. In such a
situation, even the banks may prefer to ration the credit if they fear an increase in their non-
performing assets.
5. Case Study/Articles

5.1 Case Study

I expect that most of you will by now have read a fair bit about the (to my mind) fabulous living
monetary experiment that is India. Obviously, I feel sorry for people who have been (to put it
mildly) inconvenienced by the chaos caused by the removal of 85% of the cash in circulation in
the country, but as a student of monetary history and the interaction between technology and
economics, it is absolutely fascinating to look at what is happening.

Indian Prime Minister Narendra Modi has announced that the existing 500 and 1,000 rupee
banknotes will be withdrawn from the financial system overnight. The surprise move is part of a
crackdown on corruption and illegal cash holdings, he said in a nationwide address on television.

From India scraps 500 and 1,000 rupee bank notes overnight BBC News

I saw some television reports of aggrieved and panicked Indians who were unable to get any cash
and since much of the economy is cash-based, worrying about a slowdown in economic activity.
Its a bit of shock to go to the bank and discover it is closed. When the banks re-opened, it was
with new money. Or at least it would have been with new money, had replacement been produced
and distributed beforehand.

On November 8 evening, Reserve Bank of India governor Urijit Patel and senior government
officials unveiled the new currency note of Rs 2000 and redesigned Rs 500 note.

From New Rs 2000 note to be introduced in India after banning old Rs 500 & 1000 notes: Pictures
of 8 best looking currency notes across the globe

The result was pandemonium. People went to ATMs to try to obtain new bills only find that there
were none to be had. Rich people started paying poor people to stand in line for them to get money.
I even saw a photo of people praying to a garlanded ATM! India is a big country and the ATM
vendors had no more warning of the change than anyone else, so as you can imagine the planning
and logistics were complex. The ATM operators were as non-pulsed as the general public by the
sudden change.

Re-configurations takes time so it has to be done one by one. Things should be normal in ten
days. You have to understand there are 2 lakh ATMs in the country but there are only three to four

From Just 35,000 personnel to replenish 16 lakh crore in ATMs | business-news | Hindustan

The net result of all of this was that the country ran out of money. Literally. There was no money
available for commercial transactions. So to Indians, it really was a big deal and a major disruption.

So why was this done? There were two explicit reasons given for the demonetisation. One was
that it was an attack on terrorist funding, and the second was that it was an attack on the black
economy. I dont know enough about terrorist financing in India to comment on the efficacy of
the move, but it seemed to target counterfeiting operations in Pakistan.

It disrupts the production of FICN in Pakistan, and makes redundant existing stocks of fake
currency with a vast network of terror funders-the hawala traders and money launderers. The
phase-out of these notes is a double whammy for Pakistan, says Colonel Vivek Chadha of
the Institute of Defence Studies and Analyses, Delhi.

From Taking out Pakistans terror mints : The Big Story India Today 21112016

As for the black economy, there is no doubt that the move has had, and will have, an impact. There
was an awful lot of money sloshing around outside of the banking system, and as far as I
understand, there was rampant tax evasion amongst the more well-off amongst the population.
Having spoken to a couple of people recently returned from India, I got the impression that
members of the public were comfortable that the disruption, bad though it was, was a price worth
paying. And there is no doubt that the move shifted many transactions on the record immediately.

A majority of our transactions have suddenly become white because of card payments and people
are also not tipping as much now, a waiter at the restaurant said.

From demonetisation of currency: Card payments surge, trip & steady after restricted flow
of money Times of India

The governments plan was that people would bring their cash to the bank, declare it, pay tax on
it and then either get new cash in return or actually start using bank accounts (a great many of
which are dormant). And, indeed, this is what seems to have happened, with the cash being
returned in amounts greatly exceeding the governments calculations. By the end of the year,
almost all of the notes had been deposited.

Banks have received 14.97 trillion rupees ($220 billion) as of Dec. 30, the deadline for handing
in the old bank notes, the people said, asking not to be identified citing rules for speaking with the
media. The government had initially estimated about 5 trillion rupees of the 15.4 trillion rupees
rendered worthless by the sudden move on Nov. 9 to remain undeclared

From Govt likely to put curbs on jewellers | Business Standard News

That seems a reasonable deal. Pay tax to the government and potentially have to give up the rest
of the cash because of anti-corruption investigations or pay tax to the jeweler and mums the
word. Since India has a long tradition of using gold jewelry as a store of value, this seems
unsurprising in retrospect. It led to another crackdown on those who decided to convert their black
money into black (but still quite liquid) gold.
This move will halt such sales of gold at a huge premium against old currency notes, which
jewellers were doing till the Income Tax (I-T) department raided them across the country on Friday
and sent around 600 notices to jewellers asking the details of daily sales from November 7 to 10.
The I-T department, in its notices, also asked for CCTV footages, especially of cameras near cash
counters, to seek date-wise information and to check if PAN numbers or ID proofs were collected
from customers.

From Govt likely to put curbs on jewellers | Business Standard News

Anyway, the upshot of all of this was that cash vanished from circulation without a viable
alternative in place. What kind of alternative might there have been? Well, the answer is obvious.
India really should have a widespread, vibrant and effective mobile payment infrastructure, but it
has been slow to develop. I wrote about this a few years ago, noting that it was the regulatory
environment that was holding back the evolution of the sector (the Reserve Bank of Indias
calibrated approach to mobile payments). As the figures from Kenya that I recently posted
show, it is possible to use mobile phones as an alternative to cash.

Look at Kenya, where there are now more than 33 million mobile money users and 174,000 mobile
agent locations. The most recent figures from the Central Bank of Kenya (CBA) show an
astonishing trend. From February 2013 until September 2016, the number of monthly M-PESA
transactions almost tripled, going from 53 million to 131 million, while the number of card
transactions fell from 34 million down to 18 million.

From Fish without cash | Consult Hyperion

So, Kenya (and, for that matter, China) show just how effective mobile solutions can be. Hence
my thinking that it may have been better for India to have waited until the more flexible regulatory
regime had begun bear fruit before taking the quite drastic step of removing those banknotes. Im
sure I will blog again and in more detail about the Indian experiment as more data comes in, but I
think we can already see a shift in government rhetoric from corruption and terrorism to
cashlessness and efficiency, with officials urging banks, merchants and mobile players to
accelerate the deployment of alternatives.
Meanwhile, I just want to pull in a couple of other observations on the great experiment underway
in India right now. First, the potential for alternatives:

Bitcoin adoption in India sees surge

From Bitcoin adoption in India sees surge The Hindu

In fact, bitcoin volume on India exchanges doubled in the couple of weeks following the
announcement but then fell back again at the end of the year. I think it highly unlikely that bitcoin
will step in to fill the gap left by the removal of the highest value banknotes. It looks to me that a
more widely-used alternative to cash will be nothing. In the cities, the merchants are getting
payment terminals or mobile phone alternatives, but outside the cities, people could easily get by
for some time without a circulating means of exchange.

This is not wild prediction. I have previously posted about the famous case study of the Irish bank
strikes that demonetized the Emerald Isle in the 1960s and 1970s. Subsequent economic analysis
showed that the absence of money had surprisingly little impact on the economy! People just began
to write cheques or IOUs and these debt instruments began to circulate.

Murphy points out that one of the key reasons why a personalised credit system could substitute
for cash was the local nature of the circulation which was centred on pubs so that the
credit risk was minimised.

From Payments without banks | Consult Hyperion

In summary Ireland was a more rural economy in those days so life continued in a reputation-
based transaction economy. Well, guess what: the same thing is happening in India.
However being a very close knit society, local people count on each other so they are able to buy
the essential commodities from the shops in good faith, the payment of which they would make
later on after having money. So this way, they are not feeling panicky like rest of the country

From Here, banks are giving only 10 rupee coins Times of India

OK so the demonetization of Ireland and the demonetization of India are wholly different in origin,
scale, purpose and destination. Still. Mr Modis actions must have set a few more national leaders
thinking about taking radical action to move toward a less-cash economy more quickly than
otherwise might have been the case especially since we know that high-value banknotes in many
countries (e.g., the UK) are primarily used for criminal purposes.

5.2 Experts and Economists views about demonetization in India

Amartya Sen (Leading economist; Noble Laureate; recipient of the Bharat Ratna)
According to Indian express, Professor Amartya Sen said that millions of innocent people
have deprived from their money and being suffered to get their own money back.

Dr. Manmohan Singh (Former Prime Minister; eminent economist; former RBI governor)
According to Indian express, the former prime minister, RBI governor, and economist Dr.
Manmohan Singh said in Rajya Sabha that this demonetization is an organized loot. In his
speech he said that, the way the scheme has been implemented will harm the agricultural
sector in India, it will also harm the small scale industry and informal sectors of the
economy. He also said that Indias GDP can falls about 2 percentage point as a result of
this note banned policy. Cooperative banks which serves the rural areas are non functional
and has been prevented from cash. Former prime minister also said that this note banned
policy is a monumental mismanagement.
Kaushik Basu (Leading economist; Senior VicePresident and Chief Economist at The
World Bank) According to Indian express, Mr. .Kaushik Basu said that government of
India made policy that any person who deposits money beyond the limit of 250000, have
to pay huge penalty. This policy created a new black market, in which large amount of
illicit cash broken in to smaller parts and deposited by the members of team; which is a
legal way of illegal activity. Mr., Basu said this move is hurting innocent people who has
no illegal money but they have built up cash reserve over a long period of time.

Arun Shourie (Former economist at the World Bank; recipient of the Padma Bhushan and
Union Minister) According to Indian express, Mr. Arun Shourie said in an interview with
NDTV, that this note banned policy made by present Indian government is not poke on
black money, because the owner of black money converted their money into tangible and
intangible assets. The persons who have huge black money, they never keep money in cash,
they never keep money under the mattress, or in gunny bags. They invested their black
money in properties, jewelries, stock markets or in other assets.

Arun Jaitley (Current Finance Minister of India; Senior Advocate, Delhi High Court)
According to Indain Express Mr. Arun Jaitley gives his opinion that the demonetization
is good for economy, Indian banks were facing NPA problem since last many years, now
banks will have more money to lend for many sectors of the economy.

Arvind Virmani (Leading economist; Former Indias representative at IMF; Former Chief
Economic Adviser, GOI) According to arvind virmani demonetization is a useful
technique to solve the problem of black money, but he also said that it need the deeper
study to check the effectiveness of demonetization. Immediate effects of demonetization is
negative impact in retail trade in goods and services. Currency for everyday transaction
have to be replace soon.

Surjit Bhalla (Chairman, Oxus Investments, a Delhi-based economic research/advisory

firm; Former Professor at Delhi School of Economics; Previously worked at the World
Bank) According to Mr. Surjeet Bhalla BJP government take a Courageous step, and the
credit goes to our prime minister Mr. Narendra Modi. If this step would be successful then
it will be biggest reform in India. This policy will silently create the money for the
7. Recommendations & Conclusion

Through demonetization, Prime Minister Modi successfully portrayed himself as a leader willing
to take decisive and, if necessary, drastic steps to tackle bribery, money-laundering and channels
of income-generation, by-passing the formal mechanisms of the Indian state. While the long-
term impact of demonetization is yet to be seen, the policy illustrates the priorities of the Modi
government: Corruption is primarily presented as a cash-based issue; demonetization did not
explicitly target noncash-based corrupt activities such as property transfers, gold or the use of tax
havens. By creating and cementing a narrative on corruption that emphasizes the role of cash,
demonetization may therefore divert attention from future attempts at shaping anti-bribery and
corruption policies taking a more holistic approach.

One of the reasons for this development lies in the increasingly prominent role anti-corruption
plays within electoral politics in India. Returning black money from foreign tax havens and
distributing it to the poor was one the key promises made in Modi's successful 2014 election
campaign; demonetization, thus, can be seen as more than economic policy but rather as a
political tool. With previous schemes, such as a 2016 amnesty offer for tax evaders, being less
successful than anticipated, Modi and his party have a strong impetus to portray demonetization
as a show of their commitment to anti-corruption. In order to do so, the government had to
establish in the public mind a strong relationship between cash and corruption. This, however,
may have skewed the public understanding of anti-bribery and corruption frameworks,
downplaying not only other means of acquiring and storing income generated from corrupt
activities but also presenting corruption as a conflict between rich hoarders of cash and the
marginalized poor. The Prime Minister's attempts to position himself as a Robin Hood-type
character whose focus is to take illicit cash from the rich and redistribute it among the poor risks
reducing ABC initiatives to a precarious binary of us-vs-them, which in turn may undermine
more serious discussions on the role of policy, the law and institutions.

Internationally-recognised ABC objectives such as strengthening checks and balances, building

capacity of public institutions and incentivising integrity and transparency measures within the
private sector may have a harder time gaining recognition in India after the top-down and
somewhat simplistic policy of demonetization captured the public imagination on what the fight
against corruption should look like.

The outlook is not all gloomy, however. Demonetization is a continuation of a larger trend that
demonstrates the increasing role of anti-corruption policies in the Indian public discourse. The
Modi administration has successfully incorporated some of the momentum of the India Against
Corruption Movement, which had its high-points in the year 2011. At a time when one-third of
Indian members of parliament were facing criminal prosecution, the Modi successfully
campaigned on a platform of good governance. The fact that the number of MPs with criminal
charges against them has not significantly reduced since 2014, on the other hand, also points
towards the fact that a lot remains to be done when it comes to transparency and integrity in
Indian electoral politics (Vaishnav, M. 2016).

Demonetization may be an important step in that direction, having garnered significant public
support for ABC policy-making and further strengthening the relevance of integrity within the
political discourse. Political parties across the board are paying attention to the re-invigorated
debate on bribery, corruption and nepotism. We expect their ability to portray themselves as
tough on corruption to play an increasingly important role in electoral politics. A recent example
for this trend are the elections in Uttar Pradesh state, which saw the current chief minister
Akhilesh Yadav go through a highly-publicized break from his father, a former chief minister of
the state, to portray himself as an honest leader in a party riddled by corruption.

Demonetization has changed the tone and pace at which corruption is spoken about in India.
Crucial for the long-term success of ABC policy-making, however, will be in how far the policy
has set the agenda on the relationship between cash and corruption and the role of institutions
and the private sector
8. Bibliography