30 November 2016

Demonetisation - by Prashant Kaddi

By Prashant Kaddi:

First things first. It is not really demonetisation as the smaller-denomination currency notes are not touched. It is an extreme case of 'discontinuation' of a series of notes of particular denomination - ie, all series of Rs 500 and Rs 1000 notes.

There are 2 broad objectives that are stated:
a. Removing hoarded black money (money for which tax is not paid or acquired illegally through corrupt means)
b. Removing counterfeit currency (largely used by terrorists and others in anti-national activities)

As a wise professor once summarised:
Money is a matter of functions four,
A medium, a measure, a standard, a store.

The idea is to retain the 3 functions: a medium of exchange, a measure of value, a standard of payment - but to remove it as a store of value.

The simple truth is that such a large-scale move in a country so large and diverse (especially with such large cash-transaction volume) has never been attempted in history. And nobody - no matter how many degrees or four-syllable English words they have acquired - has a handle to be able to predict the outcomes. Also, nobody can predict the behavior of a billion people when such a move is announced and the bottlenecks that develop. One just has to be flexible to manage the availability of cash.

Likely outcomes, simpler one first:

Counterfeit Notes - This problem will get solved for the time being, till the printing presses start to copy the Rs 2000 note as well. On the plus side, there are security features which may be visible to the naked eye as well as under ultraviolet, the problem being you and I have no way to recognise them. Follow-up action generally believed is that the Rs 2000 note will also be similarly discontinued at some point in the near future.

Black Money - While it is true that most black money is in bullion or real estate, there is still substantial amount which would be in cash - ie, political funding as well as the built-up stock which will shortly be used to buy real estate or gold.

Out of the approximately Rs 14 lakh crore in high-value currency, Rs 5.5 lakh crore has already come into the banking system. If we assume that is a large part of the stock and say there is still some Rs 3-4 lakh crore to come, there is still a possibility of a windfall of Rs 4-5 lakh crore for the government - in addition to the tax on the currently deposited monies. The money which does not come back is a reduction in RBI liability. Hopefully this money can be utilised to fund schemes, reduce poverty, give tax benefit to the current carriers of the cross (salaried class, businesses, etc).

Will it stop the generation of black money? No, it won't. But in conjunction with the Black Money Bill, GST and a slew of tax reforms that are ongoing and expected in the future, it would suffice to say that making black money would possibly become slightly more difficult. And with systems of transparency, high-level corruption can be reduced. However, to root out low-level corruption, a social change is required. It cannot be done through enacting rules or introducing technology alone. And needless to say, political and bureaucratic possibilities of making money need to be dealt a blow.

There are suggestions to end taxes which will remove any possibilities of tax avoidance and several radical economic proposals, along with electoral reform. But my guess is that we will go step by step. Nobody can take on all vested interests at once and survive politically. One at a time and that will be killed completely.

Also, the political opposition is not based on facts. Maybe everyone in the opposition is pissed that they are staring at a loss of their main source of power which is wealth, and/or the larger-than-life figure the Prime Minister has taken on with several historic 'strikes'. Either way, there is no credence to the claims that the poor are severely inconvenienced. Everyone is somewhat inconvenienced, but not too much, and almost the entire country is willing to do their part to see the illegally wealthy sweat a bit. Also, the charge that the implementation is botched is probably not true, given that Rs 1.5 lakh crore is already either withdrawn or exchanged by banks within about 10-12 days - which is approximately 1/3 of the notes in circulation. Approximately 1 in 4 of all notes were in circulation as per RBI; the rest were presumably stored (assuming an equal % of all denominations). This scale of distribution is unprecedented and the scale of adjustments done based on ground feedback is definitely a positive.

Make no mistake. This move is not merely about the numbers. It is a strike at the heart of the darkness that is black money. That the state is not impotent against the illegally rich and mighty, who have eaten away at the very fabric of this economy for so long. And putting the fear that though corruption giveth, the long arm of the law can taketh away.