It has been nearly two years since the Indian Prime Minister Narendra Modi announced in November 2016 that his government would repudiate old 500 rupees and 1000-rupee notes and replace these with newly issued 500 rupees and 2000-rupee notes. The government advised that anyone holding the old notes can exchange these for new notes at any bank (up to a maximum limit per day) or deposit unlimited amounts as credit into a bank account. The Indian demonetization experiment has been promoted as a way to crack down on black money circulating in the economy, with the rationale being that those evading taxes by holding funds in cash or criminals keeping ill-gotten gains in cash would be forced to make such money visible to the government due to the need to deposit old notes into a bank account. This global ‘War on Cash’ is an attempt by governments to raise revenue from the cash transactions that occur in an economy, but the price of doing away with cash, especially in a developing country like India where many do not even have bank accounts, is likely to be high. By many accounts, the demonetisation experiment has been extremely troubling, with reports of mass financial dislocation and harm to some of the poorest individuals in India. Reports indicate that several deaths are directly attributable to the demonetization, since some hospitals refused to accept the old notes. Businesses have lost their customers who only had the old worthless notes on hand. The poor were unable to buy food and clothing since no one would accept their cash given that uncoordinated implementation meant that banks ran short since not enough new notes were printed. And in a country where police are reluctant to take domestic abuse complaints by women seriously, Indian demonetisation wiped out the ‘secret savings’ of many housewives, many of whose husbands discovered their secret stash when they had to line up at banks to exchange their old notes for the new ones.
At the time, many economic forecasters at institutions such as Goldman Sachs, Morgan Stanley and HSBC revised downward their economic growth estimates for the Indian economy. In hindsight, it is now possible to confirm the accuracy of their predictions. The combination of an impending Goods and Services Tax and Prime Minister Modi’s secret and swift demonetisation contributed to a 3-year low in economic growth during the April-June 2017 quarter. While there are those that deny imposing a new tax and creating financial chaos through demonetisation had any negative impact, to put things in perspective, even a minor reduction in Gross Domestic Product growth implies job opportunities have contracted and India is performing below its potential. And it is not likely that demonetisation had much impact on corruption, since less than 10 percent of black-market wealth is kept in the form of cash. Many criminals keep their assets in the form of gold, as Harvard economist Lawrence Summers has observed. There are reports of politically-connected persons having advance knowledge which would have allowed them to launder their cash into white money before the measure came into effect. Like in India, at any moment the United States government through its Federal Reserve System can introduce an exogenous shock into the economy that kickstarts the next global recession. Actions in the monetary policy realm can ruin the livelihoods of millions given the interconnected nature of international trade. Witness, for instance, the Great Depression of the 1930s or the recession beginning in 2007 which many believe was the result of the American central bank under Chair Alan Greenspan holding interest rates too low for too long. The monetary mischief in India reminds us how important it is to let some sunshine into monetary policy. If anything, human beings are fallible and the more eyes watching over momentous decisions, the better. Transparency is the key to preventing a fiasco on the scale of India’s demonetisation occurring through arbitrary action by the Reserve Bank of Australia. In developed nations too, cash provides much needed flexibility and anonymity; it underlies many transactions that would not otherwise occur without it. Cash payments are useful for low value items or if other payment methods are unreliable. Removing cash means removing these transactions and hence reducing standards of living. Why would anyone in their right mind destroy the livelihood of millions this way? Comments are closed.
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