Demonetisation

What’s beneath it?

8th November 2016 at 8:00pm, The Prime Minister announced one of the most radical policies in the history of Modern India. Demonetisation of the country’s highest denomination notes, ₹500 and ₹1000.
8th November 2016 at 8:30pm, people involved in the black economy had begun to find ways to subvert the policy and recycle their black wealth.

Lead up.

On the 5th of April 2011, Anna Hazare (a social worker) and his team started an endless fast demanding a stronger and more transparent Lokpal Bill, aimed at fighting corruption. However, the movement failed in ushering in a strong bill, but, brought the flight against corruption and black money to the mainstream. The first to ride on this anti-corruption wave was the Aam Adam Party. A year later, the three-time Chief Minister of Gujarat, Narendra Modi, who had his eyes on the post of Prime Minister embraced this wave. In his 2014 campaign, he hit hard at the Congress, promising to bring back the black wealth stashed abroad.

“If you give me your blessings, I will bring back every single paisa of black money, back to India” — Narendra Modi, 2014

Present.

Now, let’s fast forward two and a half years, which brings us to where we are today. Demonetisation. A step that aims to tackle black money, corruption, counterfeiting and terrorism. To understand demonetisation, it is important to understand India’s black economy.

“If you do not understand the black economy you cannot understand India’s economy, because the white and the black are interlinked” — Arun Kumar, Economist

As of today, unaccounted income in India is roughly 62% of the declared GDP. So, on the $1.5 trillion USD (declared), there is another estimated $930 billion USD of unaccounted income. Therefore, technically India’s GDP is $2.4 trillion USD.

Black income follows the same logic as white income. For example, as a paid intern, my salary is my main income source. I spend a portion of it on my life expenses (rent, petrol, food, clothes, etc) and the rest I save. I keep a portion of my savings in cash and the rest I invest into fixed deposits, stocks, real estate and gold. Collectively, this is my declared wealth and I pay tax on it. The same applies to black money, expect tax.

Furthermore, estimates suggest that the total amount of black wealth in India is $4.4 trillion USD. To put it into perspective, it is estimated that to eradicate global poverty and world hunger, it would cost $205 billion USD a year. India has enough black wealth to do just that for the next 21 years. (Note — only 1% of black wealth is in cash).

What’s wrong with black money?

It makes a country’s policies fail. If black income is 62% of GDP, it means that no tax is being paid on it. If this income had been taxed, then the economy could have collected an additional 24% of GDP as tax. Currently, tax as a percentage of GDP is at 16%, with this, it could have been 40%. Collecting an additional 24% would allow the Government to wipe out the 6% fiscal deficit and have 18% left. The remaining funds can go towards education, healthcare and infrastructure.

“Policy failure is inherently linked to the black economy” — Karan Hagar, Analyst

The work of the Government is based on a fallacious assumption that ‘cash makes a large chuck of the black economy’. As a result, the Government is trying to squeeze cash out of the system, hoping that the black economy would come under control. Cash, is one of the many components of the wealth, that too a very tiny one. In addition, reports suggest that even the component of black wealth in cash is being recycled. So, the purpose of the Government, to attack the black economy, through cash is being defeated.

How is black money being recycled?

The truth is, no currency previously circulating within the economy has gone waste, as some Government reports had suggested. By the 10th of November, individuals across the nation had come up various option to get their old notes converted.

An insider of India’s black economy stated:

“We identified people who had a hold in certain markets and deputed them to go to each of the small shops and offer them ₹1000 in old notes for ₹800 in new notes. We used old notes to buy new notes. The conversion rate varied from place to place, but the average rate was 17%.”
“In slums, we offered people offered ₹350 and a quarter of alcohol for the old ₹500 notes. As the Sarpanch is respected by the rest of village, we asked him to give us a few people, to whom we gave a small allowance in return for standing in bank queues for us. Each of them converted ₹4500, keeping ₹500 for themselves and giving us the rest. We had 50 people, per day, at one bank, each converting ₹4000 for us, that’s ₹2 lakhs. We also contacted the bank managers and gave them 50 ID cards along with ₹2 lakh. They converted that into new currency or notes of smaller denominations, keeping a cut. Every day, using the same set of ID’s ₹2–3 lakhs were being converted by the bank. Since we had the money, banks would place a ‘no cash’ notice outside.”
“Bank managers across the country had become millionaires overnight” — Arun Kumar, Economist
“Wine shops were used to convert black money. They inflated their sales, as in, if their sales were worth ₹50,000, on paper, they showed it as ₹5lakh. Through this method, one specific group converter more than ₹15 crores.”
“Petrol pumps were also used and given a 30% cut for doing the job. For example, groups would collect ₹50 lakh and hand it over to the pump, promising a 30% cut. The pumps would then inflate their daily sales and exchange the old currency for them.”
“People who had ₹20 crores — 30 crores, could convert the money without much hassle” — Arun Kumar, Economist

The underlying fact is — individuals who deal in black, don’t keep it in cash. Those who had cash, got it recycled. A report released on the 31st of December stated that over 90% of demonetised currency had found its way back into the system.

Who are suffering?

“As of now it’s certainly not the intended one’s” — NDTV

Demonetisation caused huge devastation as far as the rural economy was concerned. There was a crash in ration prices across the nation. Farmer’s were seeing a 50% decline in sales. Many categorised it as ‘the third year of drought’.

A BJP spokesperson stated: “If we are aiming for monumental change, then we all have to contribute a bit towards it”. However, many argue that the ‘bit’ is being stretched too far.

When a farmer’s income drops by 60–70% the impact is felt on the entire chain. The adverse effects of demonetisation was felt by farmer’s in a small city known as Una. From the thousands of kilos rotting at the cold storage plants, to the 70% drop in sales at the local mandi, to the 50% drop in purchases at the fruit vendor, at every stage the enforced liquidity crunch had created a dip in livelihood.

Worst off were the daily wage labourers in all sectors across the nation. Indian express reported that Agra’s footwear industry faced a 90% decline in production post demonetisation.

“Go to any retail shops, there are no buyers, nobody has cash. Business has taken a hit. Retailers have stocks piled up, as they are unable to sell. Due to this I, have had to let 50% of my workforce go” — Agra businessman

Moving on, the Government in a recent report claimed to have opened 270 million Jan Dhan bank accounts to further their policy of 100% financial inclusion. However, 82% of India’s workforce (392 million) lie in the unorganised sector. A sector that largely relies on cash and contributes to about 40% of GDP. Many argue, how individuals within the unorganised sector would use electronic forms of payment when they have for over half a century been reliant on cash.

What is the unorganised sector?

Consists of enterprises and jobs that fall outside regulation. They have zero job security, no fixed working hours and highly variable pay. Everyone, from farmers who grow your food, to the migrant workers who build your roads, to the runner in your office and even your cook. They are paid in cash, so they save in cash and spend in cash. In fact, last year, 78% of all consumer payments in India were made in cash. The flip side of this cash is that India has a huge black economy.

Tackling terrorism.

On the 26th of November 2008, 10 terrorists who had set sail from Pakistan, near simultaneously attacked multiple locations across the city of Mumbai. It took close to four days for security forces to neutralise the attack. By that time, over 160 people had been killed and close to 300 injured. The attack changed the face of Mumbai, with crores spent on adding security features and personnel across the city.

What is scarier than the attack itself, is the fact that in an age of state sponsored terrorism, the estimated sum spent on carrying out the terrifying Mumbai attacks was just 40 lakhs.

“The cost of a terrorist movement is very small for any state to support. I mean, a state the size of Pakistan pumps in, I mean estimates are usually in the range of about a 100 crore a year to sustain the Islamist terrorist movement in Kashmir and out of Kashmir. What is a 100 crore for a country the size of Pakistan? Look, after the surgical strikes, you have an intensification both of terrorism and border violence and this is also overlapping with the period of demonetisation. To say that, demonetisation happened so terrorism in Jammu and Kashmir is declining or has stopped is nonsense because they can always keep sending people across and they will always have some ways and means to generate funds.” — Ajai Sahni (Executive Director, Institute for conflict management)

Now, suppose, you demobilise the ₹500 and ₹1000 notes and the currency in circulation which was counterfeit is gone. That doesn’t affect the terrorist’s because in financing terrorists, state actors are involved and can counterfeit ₹500 and ₹1000 notes in spite of all safety features. Thus, with a few hiccups along the way they would be able to counterfeit the new currency notes.

“Even the people who have large hoards of black money, somehow got around the system, so if they have managed to get around the system, be assured that people who are at the lethal end of law breaking will have managed to put their money where it is going to be transformed into new currency. I don’t think even temporarily; this will have caused any very grave losses to terrorist and criminal organisations.” — Ajai Sahni
Post the 8th of November, 12 Indian soldiers have lost their lives in 4 terrorist attacks across Jammu & Kashmir.

While the total value of counterfeit currency is Rs. 400 crores, the cost of printing the new notes is Rs. 1200 crore.

A few days into the policy, cashless became the new mantra:

“Today, thanks to technology, if your money is deposited in banks, then you can use your mobile phones to make purchases” — Narendra Modi, 2016

It is estimated that digital payment services alone could generate 21 million, much needed, new jobs and add up to $700 billion USD to India’s GDP by 2025. But going cashless seems like jumping the gun especially when more then half the country still defecates in the open, and do not have access to electricity nor the internet.

“This is an act of desperation” — Arun Kumar, Economist

The narrative has shifted towards a cashless economy because all the other claims made by the Government have failed. They are desperate since there is a lot of cash in circulation. If India wants move towards a cashless economy, then there should be a different template for it.

“The nation has to be prepared better” — TOI

In India, corruption is decentralised, whereas in other place corruption is centralised. For example, South Korea is 80% cashless, but they have recently impeached their President for financial irregularities. Thus, in India we are trying to ensure that corruption is centralised in the hands of those who can afford it.

“Cashless should not be equated with the control of black economy. Cashless should be linked to efficiency of the economy.” — Arun Kumar, Economist

Some would argue that governance is about ensuring the greatest good for the greatest number. And in that light, it seems strange that when the top 1% of India owns close to 60% of the country’s total wealth and therefore black wealth, it is the other 99% who bear the brunt of demonetisation.

As a result of Demonetisation, some lost their livelihood, while others saw a decline in their incomes. All in the name of a better tomorrow, a better India. Though it will take months to understand the real loss, those who have lost, the masses continue to believe in the leadership and the decision of the government.

“This currency ban is a really good decision” — Common man

However, the truth is that black money has been recycled, terrorists continue to attack India, corruption still exists. And even after the 50-day deadline, citizens do not have compete access to their own money.

The question remains:

How many tangible gains are needed to justify the very real loss of demonetisation?