Demonetisation 2016. A Narrative of Political Economy and Beyond

Contents

1.0 Introduction

2.0 Why is Demonetisation Undertaken?

3.0 Historical Underpinnings
3.1 Successful Cases
3.2 Unsuccessful Cases

4.0 Demonetisation in India
4.1 The Demonetisation of 1946
4.2 The Demonetisation of 1978
4.3 Demonetisation 2016
4.4 Implementation Strategies followed in 2016

5.0 Titbits of Demonetisation 2016
5.1 RBI’s Views on the Drive to Demonetisation: The Observations made in the 561st Meeting Minutes of the RBI Board of Directors
5.2 Evaluation of the Basic Objectives of Demonetisation

6.0 The Grand Narrative: Reading the Political Economy of Demonetisation
6.1 Narratives vs Counter-Narratives of Demonetisation
6.2 Is Demonetisation a Total Failure? A Critical Assessment on Select Macro Fronts

7.0 Instead of a Conclusion

References

Abstract

When the Prime Minister Narendra Damodardas Modi made an announcement at 8.15 pm on 8th of November, 2016 about demonetisation of the high denomination notes, viz., the Rs 500 and Rs. 1000 currency notes, people had a very mixed response. People initially supported the move thinking that this would help the economy to become clean: the black money would be wiped out, terrorism would be controlled and fake notes would be removed from the economy. But the trouble people had to undertake, reported deaths in the media and the resultant outcome of demonetisation: all had led to diminishing support from the masses. As the basic objectives of demonetisation were found not to be convincing, the Government came out with a grand narrative which included objectives like removing corruption, digitalisation of the economy, formalisation of the economy, increased tax returns, increased tax revenue earning etc.

This paper is an attempt to analyse demonetisation as a process, with particular emphasis on the demonetisation undertaken in November, 2016. The paper starts with basic meaning of demonetisation, why it is undertaken, whether other countries across the world have succeeded or failed with demonetisation, India’s experience with demonetisation, how was demonetisation planned in 2016 and an overall assessment, including the grand narrative that has come up over time.

Key words: Black money, Digitalisation, formal economy, Grand narrative

1.0 Introduction

‘Demonetisation’ refers to the act of stripping a currency unit of its status as legal tender. It occurs whenever there is a change of national currency. In demonetisation, the current form or forms of money is pulled from circulation and retired, often to be replaced with new notes or coins.

2.0 Why is Demonetisation Undertaken?

While the objectives of demonetisation varies from country to country, the following broad objectives can be underlined:

1) To make a changeover from an existing currency system.
2) To replace old currency with new currency of same or different denomination.
3) To introduce new security features in the existing currency.
4) To implement state policy like fighting with corruption, tax evasion, black money etc.

3.0 Historical Underpinnings

3.1 Successful Cases

Some of the successful cases of demonetisation (Pimputkar, S, November 8, 2017 (a)) include the following:

United Kingdom (1971 and 2018)

To introduce the decimal-based currency system, UK established the Decimal Currency Board and run a public information campaign for two years since 1969 to switchover to the new currency system in February, 1971. Just before the currency changeover on 15th of February, the banks remained closed for four days. Currency converters were available for everyone, and prices in the shops were shown in both currencies. Again, in 2018, the country had demonetised its existing 10 pound currency note to introduce polymer-based currency note of the same denomination.

Australia (1996)

Australia undertook demonetisation in 1996 with the primary objectives of curbing black money and improving the security features of the currency notes. Replacement of paper-based currency notes were done with polymer currency notes of same denominations. In fact, Australia was the first country to introduce polymer currency notes. The exercise did not make any adverse effect on the people or the economy. Rather, it made Australia a business-friendly destination.

European Union (2002)

Though the context is different, the demonetisation drive undertaken by the European Union offers an excellent example of thorough planning in the execution of demonetisation. When the European Union undertaken the currency changeover on January, 2002 affecting its 12 member nations, the European Central Bank undertook preparations for 3 years to distribute 8 billion notes and 38 billion coins via banks, post offices and sales outlet. For that purpose, the European Central Bank started printing new notes since 1998.

Pakistan (2016)

Following India, Pakistan in December 2016, in order to improve security and durability of the bank notes, State Bank of Pakistan (SBP) issued new designs’ bank notes. The move was applicable to 10, 50, 100 and 1,000 rupee notes’ older design. The country issued a tender 18 months back and gave citizens enough time to exchange their old notes for the newly design notes. Earlier, Pakistan had demonetised 5 and 500 Pakistani rupee notes.

Zimbabwe (2015)

Zimbabwe is one the countries that had experienced hyperinflation at its worst. At a point of time, Zimbabwe used to have one hundred trillion dollar note. In 2015, in order to stabilise its economy, which had seen hyperinflation at 2,31,000,000 percent, the Zimbabwean government replaced the Zimbabwe dollar with the American dollar. This demonetisation drive took the country three months to make US dollar as her legal tender. The move was also criticised by wealth holders as it caused a huge decline in their savings.

3.2 Unsuccessful Cases (Pimputkar, S, November 8, 2017 (b))

North Korea (2010)

In order to tighten control of the economy and get rid of the black economy, North Korea undertook demonetisation under the then dictator Kim Jong II. In that demonetisation drive, a measure was undertaken to knock off two zeroes from the face value of the old currency. This resulted in widespread severe food shortage, increase in the price of necessary goods in the economy and left the people with no shelter.

Soviet Union (1991)

During the reign of Mikhail Gorbachev, the then Soviet Union government in January 1991 withdrew 50 and 100 ruble notes from circulation. The basic policy objectives were to tackle the black economy and increase the currency value. At that time, the 50 and 100 ruble notes comprised about one-third of the money in circulation. That almost collapsed the economy; which further led to loss of the citizens’ faith in the government. Many historians argue that that demonetisation drive fuelled the eventual break-up of the USSR.

Myanmar (1987)

In order to curb black money, the then military government of Myanmar in 1987, invalidated around 80 percent of the value of money in circulation. The move had severe repercussions: it resulted in first student demonstrations, caused economic crisis and led to mass protests across the nation followed by a government crackdown leading to the killing of thousands of people. The country also faced sever international criticisms.

Nigeria (1984)

With an aim to fix the debt-ridden economy, the military government under Muhammadu Buhari in 1984 issued new currency notes with new colours to make old notes outdated. However, that demonetisation drive failed miserably as Buhari was eventually ousted in a coup the following year.

Ghana (1982)

In 1982, Ghana got rid of its 50 cedi notes to curb tax evasion, mop up excess liquidity and get rid of corruption. The move was highly unsuccessful as citizens started supporting the black market by investing in physical assets and turning to foreign currency, making the economy weak. Citizens in rural areas had to face many hardships: they had to walk miles to exchange the demonetised money and after the deadline, there were accounts of notes abandoned as worthless.

4.0 Demonetisation in India

The talk about demonetisation got a new blood in India since 8th November, 2016 when the present Prime Minister Narendra Damodardas Modi announced at 8 pm that the currencies in the denominations of Rs 500 and Rs 1,000 will be invalid post midnight. However, the lower denomination –Rs 10, Rs 20, Rs 50, Rs 100 and coins –will be valid. He further announced that new notes of Rs 500 and Rs 2,000 would be introduced shortly. This sudden move left more than 100 crore citizens with a panic attack.

However, prior to November 2016, the country had undertaken demonetisation twice: in 1946 and in 1978.

4.1 The Demonetisation of 1946

After the establishment of the Reserve Bank of India (RBI) in 1934, the bank had introduced Rs 500 and Rs 1000 currency in 1934. Later, in 1938, Rs 10000 currency was also introduced. The demonetisation drive of 1946 removed those high value currency notes from circulation. The ban had very little impact,, as the currency of such higher denomination was not accessible to the common people. However, both the notes were reintroduced in 1954 with an additional introduction of Rs 5,000 currency.

Rs 500 and Rs 1000 notes were introduced in 1934 and after four years in 1938, Rs 10,000 notes were introduced (Pimputkar S, December 16, 2016).

4.2 The Demonetisation of 1978>

On January 16th 1978, the then Prime Minister of India Morarji Desai announced the currency ban taking Rs 1000, Rs 5000 and Rs 10,000 out of circulation. The sole aim of the ban was to curb black money generation in the country.

Later, it was found that the move of demonetisation was not successful. The major reasons cited for the failure (Pimputkar S, December 16, 2016) include the following:

(a) Lack of a broad vision and proper strategy: As experts argue, the most crucial factor leading to failure of the demonetisation drive was the lack of a broad vision and prerequisites and mainly, insufficient groundwork.
(b) No support from the RBI Governor in 1978: It was noticed that at the time of demonetisation, the then Prime Minister Desai did not have the support and fortification of the then RBI Governor Indraprasad Gordhanbhai Patel. In fact, Governor Patel believed that the ban was implemented simply to immobilize the funds of the opposition party. Patel also believed that people never store black money in the form of currency for too long.
(c) Low quantum of higher denomination notes: In 1978, at the time of demonetisation, the quantum of Rs. 1000, 5000 and 10,000 notes in the total economy was only 10 per cent. This meant that large section of the people had access to high denomination notes.
(d) High purchasing power: In the 1970s, a currency note of Rs 1000, on an average, could buy household commodities for about two months. Again, as the circulation of the high value notes was very limited, this had very limited effect on peoples purchasing.
(e) Insufficient secrecy: The drive of 1978 lacked secrecy. One week before the announcement of demonetisation, the 1000 rupee notes were already out of circulation. According to a number of reports, huge amounts of high denomination notes were sent to several Gulf countries, especially to Dubai and Kuwait a few days before the ordinance was announced.
(f) Very small fraction of black money holders turned up: The drive of demonetisation also failed because most of the holders of high denomination notes did not turn up at the bank to exchange their notes. It was found that they sold them to others (mainly to the poor labourers) who could present them at the bank with less suspicion. The value of the high denomination notes in circulation on January 17, 1978 was estimated to be Rs 180 crore. Of these, notes worth only Rs 20 crore were immobilized.

4.3 Demonetisation 2016

When the Prime Minister Narendar Damodardas Modi made the live announcement of demonetisation of Rs 500 and Rs 1000 notes at 8.15 pm on November 8th 2016, he talked about three basic objectives, viz., (a) to break the back of black money, (b) to end the circulation of fake currency, and (c) to end terrorist financing. The major highlights of the demonetisation drive are as follows: (Demonetisation: Success & failures)

- The demonetization announcement made the use of Rs.500 and Rs.1000 banknotes invalid past midnight of November 8.
- At the time of demonetisation, the total amount of high denomination currency circulating in the system was estimated at Rs 15.44 lakh crore of which Rs 8.58 lakh crore was in old Rs 500 notes and Rs 6.86 lakh crore in Rs 1,000. Those two high denomination notes (HDNs) constituted nearly 87 percent of money in circulation.
- It was also announced that the new Rs.500 and Rs.2000 would be introduced in exchange for the old banknotes.

4.4 Implementation Strategies followed in 2016

Former Deputy Governor R. Gandhi in an article written in the Economic Times (November 8, 2017) had outlined the strategies adopted by the RBI to implement the demonetisation drive. Some of the major aspects of the implementation strategy include:

- A planned strategy: Contrary to the criticism raised as the drive being an whimsical, unplanned one, the strategy was a totally planned one. As a part of the game plan, it remained confined only within a core group. It was sudden and totally unexpected. Even the introduction of new series of banknotes was also part of the grand plan: whether be it the size, look, colour, design and orientation.
- Introduction of the 2000 Rupee currency note: If the RBI were to exchange the demonetised currencies of Rs 500 and Rs 1000 on ‘one-to-one’ basis, the bank would have needed to print 4 billion 1000 rupee notes and 21 billion 500 rupee notes. Due to the introduction of Rs 2000 currency note instead of the old 1000 Rupee note, RBI could readily save printing of 2 billion notes extra, even if we assume that the 500 rupee note were to exchange on an one-to-one basis.

However, if the bank were to keep such volume of currencies ready beforehand, the entire process would have needed some 15 months’ time to complete the tasks of designing, procuring paper, printing etc. Then it could be termed as a ‘note withdrawal programme’ and not demonetisation. The objectives of the Government would not have served at all.

- Printing and distribution of currency notes on war footing: Printing of the new currency notes were undertaken on war footing: only the new currencies were printed in all the presses, a three tier distribution system was followed. All the presses were used to their fullest capacity. The currency management wings of the Reserve Bank and the banking system were geared up for long hours on weekdays and to work on holidays. Additional manpower was deployed, including contracting retired personnel. The presses also enhanced their labour force; worked on long shifts and on holidays as well.
- Distribution channel enhanced: Direct touch points for cash delivery were trebled in number. Turnaround period of logistics were shortened. Airlifting of currency was adopted to rush stocks to needy locations. Daily monitoring of production, supply, delivery, demand, withdrawal and stock were intensely monitored at multiple levels. Lower denomination notes were issued in plenty.
- Tackling the aberrations: Aberrations like money mules getting employed to exchange the old notes, Jan Dhan Yojana accounts being misused, involvement of bank personnel in abetting inappropriate exchange, etc., were actually foreseen. To address the money mules problem, use of voting ink to identify the persons exchanging the notes was adopted and it had a good deterrent effect.

5.0 Titbits of Demonetisation 2016

The drive of demonetisation had took all general citizens of the country aback. In fact, it had to be such, if its objectives were to be achieved in its true letter and spirit. The implementation strategy that was initially planned, had to be adapted to mitigate various emerging issues. However, it also caused severe crisis both to individuals and to different sectors of the economy. Reports came up that some 100 persons (Worstall, T, December 8, 2016) had died while maintaining long queue in front of the banks, post offices. However, the Government had summarily rejected occurrence of such deaths due to demonetisation, on the ground that no such incidents has been reported (Ibid).

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