CHAPTER 15

An Epilogue: Two Years Later

There has been a renewed debate around demonetization on its second anniversary; the government and the opposition attacked each other over its lasting impact. On November 24, 2016, speaking in the Rajya Sabha, a little over 2 weeks after demonetization, former prime minister Manmohan Singh had described it as “organized loot and legalized plunder of the common people.” Again, on the second anniversary of demonetization, he asserted that it was an “ill-fated” and “ill-thought” exercise. “Notebandi” impacted every single person, regardless of age, gender, religion, occupation, or creed. He advised the government to show prudence, thought, and care in its handling of economic policy making and urged the government to restore certainty and visibility in economic policies.¹ Critiques view demonetization was devoid of economic rationale. India was not suffering from hyperinflation or loss of faith in its currency calling for a radical recall of notes. The economy, on the contrary, was in fine fettle. Demonetization proved to be just an unnecessary disruptor. More than slowing growth and derailing reforms, demonetization inflicted avoidable pain. Nor did it deal a body blow to black money.²

The dishonest had got the better of the government. They invented innumerable ways to deposit their illegal holdings of cash in the banks. But one should not be blind to the fact that the larger part of black money generation now takes place inside and not outside the circuits of the banking system. Nirav Modi and Mehul “Bhai” Choksi looted the banks and transferred wealth through banking channels. It is far too early to claim any transformation in tax revenue collections. In some respects, black money has actually taken steps to facilitate the greater use of black money. Its system of electoral bonds (introduced in 2017 after demonetization) in which the donor is anonymous—and can, therefore, call in favors after an election—is designed for corruption (Reddy 2018).

The government did not celebrate the second anniversary of demonetization. The finance minister did come out with a statement listing the achievements of demonetization. He made a valiant defense of demonetization. According to him, an ill-informed criticism of demonetization is that almost the entire cash money got deposited in the banks. The objective was digitalization, better tax compliance, and “formalization” of the economy. The system required to be shaken in order to make India move from cash to digital transactions. This would obviously have an impact on higher tax revenue and a higher tax base.³ The increase in tax revenues after demonetization does not justify such a large-scale disruption.

Demonetization led to considerable uncertainty increase in the economy. Experiments in macroeconomic policy like India’s demonetization are rare. One has to make a decision, which requires guts and courage; right or wrong is a different thing. A moment comes in the nation’s history when some harsh and unpleasant decisions are to be made. Every policy has a stated goal as well as secondary consequences, some of which are unintended. The implementation was a bit haphazard, everyone agrees with that. It seems that the government had not anticipated the magnitude of the problem. The enormity of the challenge has brought out the weakness in governance. The inherent limitation of demonetization has to be kept in mind while evaluating it. Political dynamics can be quite different from economic dynamics. Implementation process should not in itself be cast as a blanket indictment of the demonetization strategy.

Demonetization will continue to enliven analysis for a long time to come. A lot has been written and speculated about demonetization since its introduction. Such a large and unexpected policy change naturally carries with it a large collateral damage at least in the short run. Intellectuals and analysts have slammed the step. The economics and politics of demonetization bear no connection, with the idea of finding favor with citizens by virtue of the populist appeal of its moral logic. Demonetization is a perfect example of one such impactful socioeconomic change. Despite the hardships people faced, economic activity continued, growth happened, and corporate profits grew. The stoic manner in which ordinary Indians were willing to be part of an economic and social experiment requires deeper sociological analysis (Baru 2017). In some surveys, it was found that people felt the pleasure from thinking about corrupt politicians suffering losses and most negatively affected by the demonetization than farmers and workers. Ironically, it does not appear that the “corrupt rich” lost too much.⁴ But it is not clear whether the people, in general, understand this, and the result is far from definitive.

Demonetization’s worst effects on the economy are a thing of the past now. Benefits of digitalization are a slow natural process. India cannot leapfrog advanced economies and get there by a policy intervention like demonetization. The most basic thing is the stability of the money supply. There is a tendency for people to hold on to high currency notes. Looking at the currency in circulation, the 2,000 note, few want to hold as a medium of exchange but many might want as a store of value. In other words, it would have high demand, but low velocity (the rate at which it is transacted). The 200 note is more liquid. Demonetization may be a tool for rebalancing currency circulation, including mix of higher and lower denomination notes. It is not known what the ideal combination should be, but it is in the realm of the government and the RBI to have some sense of intelligence of these dynamics. There may be more currency circulating now than on the eve of demonetization, but India’s nominal GDP is far higher. The transactions demand for cash is related to income. If income (GDP) increases, cash demand also increases. In the 11 quarters since pre-demonetization (September 2016 to September 2018), cash has increased by 8.3 percent; and nominal GDP is estimated to have increased by 23 percent; that is a cash-income elasticity of one-third the historical average. This shows that demonetization had an impact on cash demand (Bhalla 2018). But while viewing cash as bad, one should not forget the fact that it drives a large part of the economy.

One cannot see the demonetization move in isolation—this is part of the larger design to unearth black money. Any method to curb black money will have a certain amount of uncertainty associated with it. There is no perfect method. There are lakhs of suspicious transactions where people have deposited large amount of cash with banks, which their financial background does not justify; the investigative agencies will get into action and track down these people. People with black money now know that they are under scanner. Controlling black money is in the nature of work in progress.

One should also need to take into consideration the rise in cashless transactions. Digital payments have risen sharply and become commonplace, which testifies to the significant impact of demonetization on increasing such transactions. Two years after demonetization, retail digital payments have soared. Retail digital transactions include paper clearing or checks; retail electronic clearing, such as NEFT (national electronic funds transfer), IMPS (immediate payment service), and card transactions that happen at Point of Sale (PoS), including online transactions pre-paid instruments (PPIs); and mobile banking. Almost every single instrument of digital transaction has shown a phenomenal increase. The increase in digital transactions, taken together with the introduction of the GST, will also have the effect of increasing the size of the formal economy and reducing that of the informal economy. It has improved transmission in the banking system and led to the greater financialization of savings. But digitization does not necessarily check black income generation.

Whoever expects that the demonetization process will be a great success is mistaken. The ongoing battle over demonetization appears to be waged more in the social media and between politicians than in the public imagination. That demonetization has and will continue to have many enemies is undeniable. The significant political connections of the black economy also meant that all attempts to ensure better compliance through a combination of incentives and threats inevitably failed to achieve the desired results. The discourse always favored a show of political will, and there was always a lament that this would never be forthcoming (Dasgupta 2018).

Demonetization has raised more questions than it has answered. The difficulty in making a cost–benefit analysis is that the demonetization move was not purely economic. It would be fair to say the intent was good. But certainly at this point, one still cannot in any way say it has been an economic success. Several other supportive measures are required by the government to change the economy for good. Moreover, it is critical to emphasize that demonetization was a unique event, and hence, drawing inferences based on theory, armchair analysis, or even short-term data could lead to misleading conclusions. Serious research needs to be done extremely carefully, and reasonably long-term data must be considered before reaching any conclusion about unprecedented policy events such as demonetization. It will probably take several years before the outcomes can be evaluated with analytical rigor. This becomes even more important when there are other related moving parts such as GST, clean-up of the banking system, real estate sector reform, and others going on at the same time. So, at the moment, it is better to wait a bit longer until a complete analysis of effects of demonetization is done to reach the correct conclusion. However, demonetization will not produce bad outcomes in the long run.

Endnotes