Demonetization - Was it the right thing to do?

Hello friends..  Happy to meet you all with yet another blog.

First off, a big thank you to all who take interest in my blog and read, share and comment on them.  This really encourages me to read, analyze and write more.

On one particular topic, far too many news is making rounds in social media and also becoming topic of spiteful conversation against the current government is Demonetization of old Rs.500 and Rs.1,000 notes and introducing the new Rs.500 and Rs.2,000 notes.

Many common public think it's unwarranted and uncalled for and it has created far more problems than it has solved.  Is that true?  Will the Government, Finance Ministry and other departments do such a big blunder, which common man thinks as stupid idea?  I guess not.  So, let us see what forced the Government to take this decision and try to rationalize this decision.

RBI's annual report indicated number of fake currency notes deducted by the banking system as:

• FY 2013-14 - 4,88,273 notes
• FY 2014-15 - 5,94,446 notes
• FY 2015-16 - 6,32,926 notes

Above were the number of currency notes deducted by the banks/RBI and does NOT include the fake currency notes seized by law enforcement agencies, intelligence, BSF, Police and other agencies.  The above numbers does NOT include number of fake currency notes which were in circulation among common public (the notes never got deposited in banks or found to be fake by receiver of such note).

So, let us try and see how much money did public lose due to fake currency as banks will not return the fake currency note or exchange it.  For this calculation purpose, let us assume all the above notes were Rs.500 notes and no Rs.1,000 notes were given to bank by public (even though % of Rs.1,000 notes on above will be significant).  Below is what the general public lost due to fake currency:

• FY 2013-14 - Rs. 24.41 Crores
• FY 2014-15 - Rs. 29.72 Crores
• FY 2015-16 - Rs. 31.65 Crores

Over a period of three years, general public lost almost Rs.86 crores of their hard earned money as unknowingly (or few individuals, knowingly in order cheat the system and Government) they have received fake currency.

Isn't this a huge amount for common man to lose?  We have the tendency to blame the Government for everything.  But in this case, who is to be blamed?  What's the solution to flush out fake currency notes out of system?  Only way to do it immediately is to make the existing high denomination notes as invalid and replace them with newer version of notes.

In all reality, I won't even call this as demonetization but rather call it "re monetization" as it simply replaced the old high denomination currency notes with new ones (Rs. 500 note was replaced with a new version and Rs.1,000 note was replaced with new Rs.2,000 note).

Demonetization is not new to India.  Previously in 1946 and 1978 India has demonetized the existing currency notes. 

A study conducted prior to recent demonetization - "Estimation of the Quantum of FICN in circulation by the Indian Statistical Institute (ISI), Kolkata along with National Investigation Agency (NIA), which has asked the Government to take immediate steps against counterfeiting as this numbers are only indicative of the extent of menace.  

The study of ISI, Kolkata pointed out that FICN worth Rs.70 crores are inserted into the Indian market every year.  The law enforcement agencies were only able to intercept about one third of them.  This study was accepted by the Ministry of Home Affairs (MHA).  Not just this menace of fake currency printed by non-government agencies (both in India and abroad), even RBI had it's share of printing and circulating currency notes with mistakes, which can also be treated as fake notes.  But luckily, since RBI knew the series and numbers of these notes, these notes can at least be exchanged unlike the fake currency notes.  Refer https://www.pressreader.com/india/alive/20170920/282080572023590 for more detailed information.

Now, another major reason for this demonetization was to eliminate black money from the economy.  Many common public are crying out loud that this demonetization has never eradicated black money from the system.  Is that true?  Again, did the Government, Finance Ministry and all other departments in the Government failed to see what the common public standing in street corner saw?

Here's some numbers to ponder.  Based on various studies and report by Bank of America-Meryll Lynch estimated the numbers as below:

• India's Nominal GDP (estimate) - Rs. 1,51,78,100 Crores
• Black Economy (25% of GDP)   - Rs.    37,94,530 Crores

Can you believe a quarter of India's GDP was in black market?  Add to this the counterfeit currency in circulation, it was almost a parallel economy running.  This economy does not pay tax but get benefits from Government on anything and everything possible. 

While talking to many of my friends, who are in finance sector and banking, they all unanimously agreed on one thing that India's parallel economy was at least 20% India's GDP and within next 5 years, parallel economy would have almost been in par with the real economy.  What a scary situation this is?  We are a democratic country with elected Government but few money monsters were literally running an economy competing with the democratic government.

RBI themselves have stated that 98.96% of demonetized Rs.500 and Rs.1,000 notes were received by them after demonetization was announced.  Now, based on this figure of 98.96% only, the common man is crying that black money was never discovered or eradicated.  If our parallel economy was almost 25% of GDP and after demonetization was announced, RBI recovered almost 99% of the old currency, it means that people who were holding black money in Rs.500 and Rs.1,000 notes have deposited it in the bank either directly in their accounts (thinking of fighting the consequences later) or through "benami" sources (accounts of friends, acquaintances, relatives, employees, etc.).

Rs. 26,000 crore was deposited in Jhan Dhan bank accounts two weeks after the announcement of demonetization. 69 lakh new Jhan Dhan accounts were opened after demonetization.  So, black money hoarders used common public and deposited small amounts into various Jhan Dhan accounts and thus Rs. 26,000 crores worth old currency notes were deposited in bank through benami sources.

RBI found that Rs.2,80,000 crores to Rs.4,30,000 crores were deposited after demonetization in various bank accounts by individuals and business establishments (RBI was still analyzing the deposits when this report was published).  Prior to demonetization these accounts did not have much activity and big balance.

Now all these deposits (26,000 crores in Jhan Dhan account and other deposits of unusual size) show that black money has come into the normal economy, as white, into bank accounts.  All of us would have read news articles regarding number of Income Tax notices served to show source for unusual deposits and number of companies came under radar by Ministry of Corporate Affairs (MCA).  The demonetization brought out a lot of black money into the banking system.

Read this article at: https://www.thehindu.com/business/Economy/post-demonetisation-bank-data-reveals-5800-companies-with-13140-suspicious-accounts/article19807331.ece.  Startling amounts deposited by shell companies.  Now these accounts are non-operational except for paying the liabilities listed by the company prior to demonetization or with proper documentation.

Also, we all read and know about the crazy buying of gold, silver and other metals after demonetization.  Lot of jewelers accepted demonetized Rs.500 and Rs.1,000 notes.  Did big money sharks and politicians stand in queue at jewelry shops?  No, many of them were common people who had cash which were unaccounted for.

Another big cry from critics of demonetization is the amount of money spent in printing new currency notes.  Given the seriousness of the situation in regard to fake currency and black money, the money spent is well justified.  Another positive point on the money spent on new currency notes is that Rs.2,000 and new Rs.500 notes were printed in India at RBI's subsidiary printing unit in Mysore.  Previously, high denomination notes were printed in USA and Germany, which means we paid printing charges in foreign currency and used imported ink and paper.   German press used earlier to print high denomination currency was also printing currency notes for Pakistan.  ISI, Kolkata and NIA repeatedly warned the government that this will increase fake currency note circulation.

Even before becoming Prime Minister, Mr. Modi (during RBI's 80th anniversary) requested RBI to look into the possibility of using Indian paper and ink and print all currency notes in India.  This way, he believed we can control the number of fake currency entering the system as outside entities will not have access to our currency paper and ink.

As I always say, in a huge country like India, an economic policy and/or decision will not show results overnight.  The volume is so huge and requires quite a lot of manpower to analyze all the information and take action.  But this is the right process started to curb fake currency and black money.

Now, let us summarize the benefits (as I see it) the demonetization has contributed to Indian economy:

• Fake currency notes at least worth Rs. 100 to 200 crores became invalid overnight.  As per ISI, Kolkata and NIA's figures, about Rs.70 crore worth of fake currency notes entering every year into Indian economy became invalid including the existing ones which were in circulation. 
• Black money hoarded were deposited into bank accounts (own or others' account).  Thus even if 80% of black money held in India was deposited, that's a huge success.  Just going by above examples of deposits in Jhan Dhan accounts and other accounts, it approximately amounts to around Rs. 4,50,000 crores.
• Real estate and construction industry in India saw it's biggest downfall after demonetization.  Reason?  This industry was always working on black money.  Since people didn't have enough black money, sale of properties dropped quite badly and many construction companies are either already bankrupt or on the verge of being bankrupt.
• Companies/Individuals who deposited black money into bank accounts, have to pay tax and fine on those earlier undisclosed income.  This is crores of rupees in revenue to the Government, which was never there before.
• Unwanted but benefit to poor common man:  Lot of individuals with huge black money used bank account of others to deposit the money.  To do this, they have to pay some sort of percentage to the account holder.  So a common man, who was struggling to make ends meet, did earn something after demonetization.  Is this ethical?  No... But has happened so let us say a common to whom even Rs.5,000 was big money got it thanks to demonetization.
• Thanks to black money being deposited in bank accounts, parallel economy, which almost accounted for 25% of India's GDP has been reduced drastically.

Don't we think these are positive contributions to the country to develop it further?  Again, no change is going to be visible and benefits reaped overnight.  Change of policies and economic policy implementation takes time to see the right result.

Let us look at the numbers for the new Jhan Dhan accounts opened after announcement of demonetization.  69 lakh accounts opened and about 26,000 crores deposited.  On an average a common man opened a Jhan Dhan account and deposited about Rs.38,000 in these accounts.  These accounts were opened by common people and used by people hoarding black money.  At a later stage, these people would have withdrawn the money and given it to the actual person and took some commission for letting them use his account.  Now the individuals who had black money in old currency have black money in new currency!!! Is this right?  Ethical?  If we, general public, help black money hoarders to use our account, how can we blame the government?

I am currently working on my next blog about black money and it's menaces, which can be treated as a sequel to this blog.

Hours after Mr. Modi announced demonetization, people started queuing up in front of ATM's to withdraw cash.  What a mad choice???  ATM's doesn't know about demonetization decision and if you withdraw more than Rs.500, it is going to give you the old Rs. 500 & Rs.1000 notes.  Why such mad rush to ATM, which resulted in chaos?  While media was showing the crowd in front of ATM's and asked them why they are there, the most common reply was "Don't know what will happen tomorrow, so wanted to withdraw cash"...  Government just announced demonetization.  Didn't say they won't let you withdraw the money in your account forever...

Many people who oppose demonetization state the long queues at the bank during the demonetization period and few tragic death happened to people while waiting in the queue as failure of this move.  I was moved and deeply hurt when I heard about the deaths during this.  But can we blame demonetization for this?   What are the factors which caused that death?  No stampede was reported which resulted in death.  Nobody beat them up... For all we know, it could be death of natural causes which happened during their wait in bank line... We never know the truth as media only sensationalized and never reported facts.

If we complain about standing in queue for hours, don't we stand in queue from midnight to buy newly launched iPhone (many reports came out from India as this happened)?  Don't we stand in queue for even 12 hours to get application for our children's admission in school?  Don't we stand in queue for 4 to 6 hours in front of embassies to apply for our visa?  When first McDonald was opened in Mumbai, it was reported that people stood in queue for 2 to 3 hours to get their food.  So, for greater good of the country can't we stand in queue for few hours to deposit our cash?

Didn't bank employees work almost 14-16 hours a day and seven days a week during demonetization?  Did they do it for fun?  No, for some greater cause of developing the economy and to eradicate the black money and fake currency from the system.

Indian public believe in rumors spread in social media and panic and throng the banks and create chaos.  If general public had been little more patient to do this, many unwanted incident happened during demonetization could have been avoided.

Before publishing this blog, I wanted to recheck few figures and fact and found the site: http://www.mbauniverse.com/group-discussion/topic/business-economy/demonetisation

Below is the summary from the above web site:

After one and a half year of Demonetization, Indian Economy seems to have done away with all the negative impacts of Demonetization. The Economic Survey of India 2017-18, released just before the presentation of General Budget 2018 in Parliament has emphasized that all the negative impact of Demonetization of Rs.500 and Rs.1,000 currency notes has ended. The Demonetization was announced as a surprise on November 8, 2016.

Impact of Demonetization on Indian Economy in 2018
Economic Survey after careful review of Demonetization, which was announced one and a half year back, has found that the cash-to-GDP ratio has stabilized. It suggests a return to equilibrium:

• The Economic Survey says that India's GDP is set to grow at 7 to 7.5 percent in 2018-19. This is an increase from its prediction of 6.75 percent growth this fiscal year.
• The Economic Survey has cited exports and imports data to claim that the demonetization effect was now over. It claims that re-acceleration of export growth to 13.6 percent in the third quarter of Financial Year 2018 and deceleration of import growth to 13.1 percent is in line with global trends. This suggests that the demonetization and GST effects are receding. Services export and private remittances are also rebounding
• According to the statistics released in the Survey, the Demonetization had led to Rs 2.8 lakh crores less cash (Equivalent to 1.8% of GDP) and Rs 3.8 lakh crores less high denomination notes (Equivalent to 2.5% of GDP) in the Indian economy.
• The Economic Survey has also clarified that income tax collections have touched new high with demonetization and introduction of GST, “From about 2 percent of GDP between 2013-14 and 2015-16, they are likely to rise to 2.3 percent of GDP in 2017-18, a historic high.”

If you visit the above web site, it also lists the demerits of demonetization, but after careful reading of the demerits, I believe demonetization has achieved something bigger in the greater good of the country.  Also, this shows various price indexes, electronic transactions and other details, which all indicate that demonetization had more positive impact.

Any change in system is always painful but we should not look at the pain we face then but look at the result it can bring to the society.  When our children get hurt and we want to clean the wound, they always say "It will hurt... leave it be"... Do we leave it?  No... Leaving the wound without cleaning/applying medicine will infect and become more serious issue.  So, we tell the child to bear the pain so that it can be healed.

In my opinion, we all felt the pain of demonetization in one way or other.  But, this surgery with pain to recoup the Indian economy was far better than doing a postmortem.