Fast Losing Currency

Prime Minister Narendra Modi’s dream of a cashless society is not only a cruel joke on the ordinary citizen but a desperate ploy to justify the near criminal mismanagement of money supply. The role of money as a medium of exchange has been undermined, threatening the very functioning of the economy. With each passing day, the situation worsens with fewer transactions, reduced incomes and dampened aggregate demand.

Since 8 November, life in India has been thrown into turmoil. The government and the Reserve Bank of India (RBI) appear almost helpless in making up for their ill-planned move to demonetise 86% of the currency in circulation by value. Modi, to appear as a man of action, announced demone­tisation of the ₹500 and ₹1,000 notes as a means to fight “black money,” terror financing and counterfeit currency. He has since had to reorient the objectives of demonetisation to include his ambition of creating a “cashless society.” The chaos that ensued pushed the Union Law Minister Ravi Shankar Prasad to suggest that the RBI advised the government to demonetise high-value currencies, an obvious case of passing the buck. True, a highly-depleted central board of the RBI did formally approve the move but few have any doubt that the decision was taken by Modi. Urjit Patel, who has been associated with Modi from his days as the Chief Minister of Gujarat, has done little to instil confidence in his governorship of the central bank, an autonomous institution which is supposed to be free of political pressure.

Reports from across the country suggest that every sector and region has been adversely affected. The predominantly cash-based informal economy, with the largest proportion of self-employed and casual wage workers, is the worst hit. This vast majority is far removed not only from internet connectivity, but also from the banking system and even a reliable supply of electricity, essential for non-cash digital transactions. How does the Prime Minister realistically expect them to expend their already limited resources to access non-cash forms of money?

Between 10 and 27 November, ₹8,44,982 crore of the demonetised currency has already come back to the banking system, which is more than half of what was demonetised. In addition, the RBI and banks already had high-denomination currencies in their possession as balances. If the deposit/exchange of old notes continues at this pace, nearly all of the demonetised currency notes could revert to the RBI. Although it is expected that some portion of the demonetised currency notes will not return to the RBI, how will the bank account for this? Certain economists and analysts have suggested that any currency that does not return to the RBI can be considered a reduction on the liabilities side of its balance sheet. In other words, with the reduction of its liabilities, ceteris paribus, its net worth will go up, and if its central board decides to pay out an additional “dividend” to its owner, the government, this can be used by the latter for its expenditure.

However, the RBI has so far only “withdrawn the legal tender status” of ₹500 and ₹1,000 notes. This means that the RBI will have to continue to honour these currency notes if someone were to approach it for an exchange. The 30 December last date is for return/exchange of ₹500 and ₹1,000 notes at banks, and so far there is no such deadline for exchange with the RBI. As things stand, even unreturned currencies will remain on the liabilities side of the RBI balance sheet. Besides, any attempt to alter accounting practices on the central bank’s balance sheet may have far-reaching consequences on the meaning of money, and the credibility of the bank itself.

Since the announcement to demonetise high-value currency, the RBI has issued over 30 notifications to banks, altering rules continually to address loopholes in procedures that they themselves had put in place, greatly adding to the chaos and confusion. Even as the RBI assures the public that there is no need to panic and that there is no shortage of currency notes, the ground reality is far from reassuring. In the fortnight after demonetisation, ₹2,16,617 crore was withdrawn from banks, a fraction of the currency required to have a well-functioning economy. Those with bank accounts have not even been able to withdraw what the RBI has permitted as banks in many locations do not have adequate cash and are forced to set arbitrary rationing limits to ensure equity of distribution. While cash rationing rules constrain withdrawals, news reports suggest that government-run presses that were to produce ₹500 notes have failed to meet requirements. Production of notes has been shifted to RBI-run presses. Given India’s currency printing capacity, it could take as much as a year to restore currency in circulation to pre-demonetisation levels.

As it is, the demonetisation is likely to have little effect on the black economy. What has been witnessed instead is the “absolute” nature of the state’s power and the damage its misuse can inflict on its own people. The state with its sovereign power as the sole issuer and withdrawer of currency in circulation has grossly misused its authority to the detriment of hundreds of millions of ordinary citizens. By claiming to act in the interest of the people, the Modi government’s demonetisation decision illustrates how a poor policy executed through secrecy and state overreach does more harm than good.