The Poor Are Paying for Demonetisation

Posted Friday December 16, 2016 by CSLRA India

Demonetization Queque

Story Credits: The Wire

One month into demonetisation, the hardships faced by India’s citizenry have not abated. This is significant because it is not the result of some natural calamity but follows directly from actions taken by the government. As we are a democracy, the actions of the government and its associated bodies need to be scrutinised in public. We may start with the actions of India’s monetary authority, the Reserve bank of India (RBI). On the RBI’s website, its preamble states, “To regulate the issue of Bank Notes to generally to operate the currency and credit system of the country to its advantage”. Some of its recent actions would leave one doubting whether it has striven to uphold its own mission statement. Now, in the midst of the impending economic deflation brought on by demonetisation, the RBI needs to reflect upon this statement. This would also help the RBI to see that maintaining ‘monetary stability’ is not only about holding the rupee’s purchasing power steady but also involves upholding the public’s trust in the currency. There is no doubt that the latter has been shaken somewhat by the demonetisation – some people have even mentioned not wanting to hold onto higher denomination notes because they think another round of demonetisation may happen. Then there is capital flight from the rupee itself as agents shift their funds overseas.

We have had over a month now to establish that ordinary Indians are the ones most hit by the hardships brought on by demonetisation. The government has referred to the cash crunch as a ‘temporary inconvenience’ and called these hiccups ‘inevitable’ as the plan to demonetise had to be kept secret.

This is out of line with the stated position of the RBI. At a press conference held on November 8 its governor, Urjit Patel, stated that “… in the past weeks and months we have ramped up our production” of the notes to be replaced and the bank was “ready to meet the requirement in the weeks and months to come.” There was also a clear message that the RBI and the government were on the same page, for the governor stated that there was “a congruence of thought between the RBI and the Government” on the need for  demonetisation, even though he made the case for it mostly in terms of the presence of counterfeit currency in the money supply. If there had been months to prepare for the changeover, why should there be a shortage of cash in the banks even four weeks later?

Economic concerns

The argument that demonetisation is a scheme for eliminating black money was also made by the government’s representative, also present at the same conference. The finance ministry’s economic affairs secretary made the case for demonetisation, saying, “over the period 2011-16, the currency of all denominations rose by 40%, the circulation of Rs 500 notes increased by 76% and that of Rs 1000 notes by 109% while the economy grew only by 30%.” The secretary also referred to reports of unaccounted income being held in the form of the high denomination notes. While it is entirely believable that some of this unaccounted amount is held as cash, the evidence used to justify demonetisation is still flimsy enough to damage the RBI’s credibility.

Even if there is no real requirement to keep the growth of money supply in strict equality with the growth of output, why was money increasingly supplied in the form of large denomination notes, something entirely within the RBI’s control? Besides the implication that this may have facilitated the generation of unaccounted income there is the possibility of the proliferation of high denomination notes constrained low-value transactions, which surely outnumber large transactions. This lapse was taken to the next level when in place of the demonetised notes the RBI went on to issue a new Rs 2,000 note for the first time. On December 2, at the Hindustan Times Summit, finance minister Arun Jaitley explained that the new note was a way to quickly replace the value of the notes that were in circulation before their sudden withdrawal. The impact of such reasoning can be seen in silent marketplaces, migrant labourers returning to their home states for want of employment and idle buses, all reflecting the slowdown in the economy. This cannot but make one wonder whether the RBI’s decision to stray from its preamble was constraining output growth even before the demonetisation was announced.

Ethical considerations

To the economic considerations, we can add ethical ones. In what can be seen as an attempt to shift the goalpost, the government has now rationalised the demonetisation as a strategy for transitioning to a cashless economy. There are undoubted advantages to such an arrangement. In what serves as a rebuttal of the argument that the demonetisation will eliminate corruption, there have been reports that raids in Karnataka and Tamil Nadu unearthed hoards exceeding Rs 5 crore in new Rs 2000 rupee notes. If evidence is needed that extortionist public servants prefer to be paid in high denomination notes, you have it here. This not only shows that the demonetisation has not succeeded in ending corruption but also that causing hardship to the larger populace is not necessary for unearthing black money. What is needed is specifically directed action. Instead, unable or unwilling to punish the few for generating black money, the government has unleashed insecurity on the many economically vulnerable innocent.

Much the same goes for the government’s aspirations of moving to a cashless economy. This objective could have been achieved without the demonetisation. It could have been implemented by a pre-announced and time-bound transition to less cash by the RBI merely reducing the growth of the money stock and the government capping transactions, so that payments above a certain value could be made exclusively through verifiable accounts. While the rich in India are already a long way ahead in terms of adopting cashless transactions, to enforce a transition under emergency conditions is unethical. It is not as if the peasants and workers of India are unaware of the advantages of digital payment. It is only that their historical disadvantage has left them unprepared for it. Unlike the educated middle class, the majority of Indians has not had the opportunity to make this transition, partly because financial institutions, including the public sector banks, have not found them attractive enough as customers. The timeline for transitioning to a cashless economy, as proposed by professional economists, is seven years. Here we have a government trying to squeeze it into what is left of its tenure.

Finally, there is the argument that demonetisation will benefit the poor by strengthening public finances. The funds are supposed to come from two sources – namely increased income-tax revenues and the reduced liabilities of the RBI, reflecting extinguished currency – which can be given to the government in the form of dividends. These will be but one-off accruals and we do not yet know the exact figures. From an ethical point of view, however, this is immaterial. The financial gains of the state are connected with the loss of income incurred by millions of citizens. Not only would money thus collected be tainted, but to distribute it via the Pradhan Mantri Garib Kalyan Yojana would make a mockery of governance. It would amount to paying a man after first having robbed him of his livelihood. But there have been more tragic consequences. At Balrampur in Bihar’s Katihar District a 32-day-old baby died in the arms of its mother as she queued-up to withdraw money from a bank. India’s poor, in whose name the authoritarian state has once again acted, are paying for demonetisation.

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