Note Ban a Bungled Move, Nothing Less Than a Monumental Failure

Instead of the ill-conceived demonetisation move, government could’ve gone for tax reforms, writes Sandeep Dongre.

Instead of the ill-conceived demonetisation move, the government could’ve gone for tax reforms. (Photo: Rhythum Seth/ The Quint)

In simple terms, demonetisation means withdrawal of a particular form of currency from circulation. In the Indian context, this was done for Rs 500 and Rs 1,000 notes. The PM announced that the move was adopted to stop the circulation of black money and the measure would effectively address counterfeit currency, terrorist funding, corruption etc.

This move was a huge setback to those hoarding large sums of money as that would become unusable, unless exchanged. Later, the hoarders were given an option to make declarations of their money by paying a penalty. By doing this, the counterfeit currency will become defunct. The terrorist activities will receive a huge jolt as they finance all their activities with the higher denomination notes.

As per RBI, the total money in circulation is around 16.5 lakh crore, an amount that includes all denominations put together. Out of this total money in circulation, Rs 500 and Rs 1,000 notes constitute approximately 86 percent, which comes to around 14.5 lakh crore. The same report reveals the counterfeit currency to be around Rs 400 crore.

At the stroke of the midnight on 8 November, all Rs 500 and Rs 1,000 notes were made invalid.  Was this a masterstroke? No matter how noble the intention, economic prudence can never allow that 86 percent of the money should be removed from circulation. This alone has a potential to create a mayhem in the country. There was no immediate replacement of notes, thus further worsening the situation. A crippled economy will never allow any benefits from demonetisation, as is being expected.

Is Demonetisation a Flop Show?

1) Counterfeit Currency: Yes, note ban does serve the purpose of one-time wiping out of all the counterfeit currency.

However, 400 crore out of 16.5 lakh crore is a minuscule percentage to have any merit to carry out such a large-scale activity.

Moreover, several cases of duplication of new currency came to the limelight and a real question mark was put on the process of wiping out counterfeit currency when a young ‘Make in India’ awardee from Chandigarh was caught with fake new Rs 2,000 notes.

2) Terrorism: It has reached an advanced stage and is absolutely not cash-dependent, leave alone dependence on the rupee. There are several instances of money being wired for terrorism purposes and if we genuinely think that such an activity will stop by note ban – we deserve to be terrorised!

3) Black Money: We get it completely wrong if we think that a large chunk of black money is hoarded in Rs 500 and Rs 1,000 denomination and is never circulated. In fact, most of this money is in circulation.

I will take example of a person known to me. Rs 2 crore of non-declared, non-taxed money in their household has the following components:

Real Estate (1 Flat + 4 small plots): approximately Rs 1.2 crore

Gold: Approximately Rs 50 lakh

Shares: Approximately Rs 15 lakh

Car purchase in January this year: Rs 16 lakh

Cash they have at home (at any point of time): Approximately Rs 7-8 lakh

The cash component comes to 3.6 percent in this case and I guess this is no different for most individuals who have non-taxable income. The most optimistic estimates point to black money having a cash component of at the most 3-4 percent. If this is indeed the case, it is anybody’s guess that this demonetisation move will stop short of just scratching the surface with nothing substantial achieved.

People wait outside banks to exchange currency notes in New Delhi. (Photo: IANS)

Expectations from a Flawed Policy

Now we know, the cash component of black money that we are trying to unearth is not very high. The hoarders have found a way around this too. Several cases of bribing the bank officials have come to light and they represent just the tip of an iceberg; a significant amount is getting legalised through this route.  There are agents available to convert black money at 20-25 percent commission, either by giving real estate at lesser value or by simply arranging gold deals.

Several relatives have come to their rescue to help deal with the crisis. If not relatives, people are available to get this done at a cost. Paying off salaries of employees for the entire next year, paying off car loans etc., are several other ways adopted to legalise the black money. After all, there are some of the benefits of living in a Jugaad nation!

I am also reminded of the fact that was hammered on us literally in every speech made during the elections – that the biggest chunk of black money is stashed in foreign banks. How will demonetisation address that?

A large sum of money belonging to the poor and uninformed people will become invalid. It is their hard-earned savings which they are unable to convert either because they don’t have access or right information about the whole process. The demonetisation move was announced on TV with almost a change on a daily basis in the rules, and it might just turn out to be a case of Chinese whispers for these people.

Will the introduction of Rs 2,000 note put an end to the hoarding activity?

Will it not write off any benefits that were expected from the discontinuation of Rs 500 and Rs 1,000 notes?

The latest reports point to a deposit of close to 12-lakh crore of invalid Rs 500 and Rs 1,000 notes, thus validating 82 percent plus notes in circulation. This is just short of the 14.5 lakh crore, the total circulation of Rs 500 and Rs 1,000. There are still 18 days to go and this deposit of 12 lakh crore will further increase, thus wiping off any benefits that were expected from demonetisation.

Informal Economy Crippled

Demonetisation aims at pushing people who are hoarding black money to come out in the open and make declarations. If however, they do not make such declarations or get their hoarded money exchanged, that undeclared amount becomes the profit of the RBI and in turn of the government. This can be used for re-structuring and development projects.

Banking system is up for revival and it is almost certain that demonetisation will lead to banks having far more funds than earlier. Interest rates are expected to come down and give some relief to the middle class. The rich class, as usual, will be the biggest beneficiary. These benefits will, however, not trickle down to the poor and unprivileged people for the simple reason that they do not have access to banking. The Jan Dhan accounts are still far from being an operational reality and hence these people have to depend on local systems of banking, loosely termed as the informal economy

The informal economy is collapsing for the simple reason that it thrives on cash transactions. More than 90 percent of the labour force in India is dependent on this, receiving the biggest jolt of their lives. The demand has come down and the small/micro enterprises have slowed down on their production.  Since the labour force works on a daily-cycle, a loss of one-month of their pay has crippled the informal economy like never before.

An Indian shopkeeper counts notes at his shop. (Photo: Reuters)

Weeding Out Corruption

The PM tells his core group to spread the word that demonetisation (and hence less use of cash) will accrue benefits to the common people – adverse impact on taking/giving bribes, ransom, dowry and capitation fee.

I find this argument most strange of all. Bribe is a form of corruption. Corruption is a state of mind and black money or rather any other money form, is just a tool for indulging in corruption. If not the earlier Rs 500 and Rs 1,000 notes, corruption will happen with the help of new notes, gold or just through a barter. Bribe will find its own medium to stay alive.

I cannot think of a family refusing dowry just because Rs 500 and Rs 1,000 notes are not there. Same is true for ransom money or capitation fee.

Bribe, ransom, dowry, capitation are the evils of our society which will find an expression in some form or another. Demonetisation, as a tool is not even remotely effective in curbing them.

Bungled Implementation

Having addressed the strategic question, ‘can demonetisation actually lead to a positive impact’, it is very critical we spare a few minutes on the actual implementation part.

I will quote my CEO to start with. You may be equipped with the best of knowledge and previous best practices that may lead you to devise the best strategy one can probably have. But God still lies in the way you implement it, the detailing part. No matter how noble your intention, a faulty and not-so-well-thought-of implementation will be a big dis-service to the organisation and ultimately to the nation.

86 percent of circulated money was discontinued and this alone has the potential of creating a crippled economy. The plot further worsens when we overlook our logistical capabilities and are unable to provide replacement notes in time.  This was a case of a monumental planning failure and now the most conservative estimates point to a 3-5 months period by when the note circulation will become normal.

The simple fact of new notes not being compatible with the ATMs points towards a sheer lack of visualisation of post-demonetisation process.

The salaried got salaries on time, just that they don’t have access to it. This has led to the biggest violation in a democracy – “People not being allowed to withdraw their own money in the manner they want”. This is nothing short of a ‘Financial Emergency’ in the country!

I wonder when people say that the pain is short-term and invoke patriotism to make the gullible people accept it as part of their lives. Truth is actually very simple, all this could have been avoided if authorities had planned it well.

A cost-benefit analysis makes perfect sense. It is a pertinent question to ask if the benefits exceed the cost of this demonetisation initiative. CMIE points towards an estimated cost of Rs 1.28 lakh crore to the economy for the 50-day time period till the end of depositing period of old currency.  That’s an irreversible loss for sure!

• This 1.28 lakh crore includes an amount of approximately 61,000 crore, a cost on enterprise sector – farmers, transporters, stockists, manufacturers, retail etc. They belong to cash-dependent sector and cannot cope up with non-availability of cash
• It puts a cost of Rs 17,000 crore towards the government and the RBI for implementing the demonetisation process in India – printing new currency notes, cost of transporting the new notes to all bank branches and post offices, recalibrating ATMs, human resource cost etc.
• The cost of people standing in the queue, Xeroxing of Id cards, number of work-hours put in by bank officials at expense of something else etc. comes to around Rs 20,000 crore, claims CMIE.

Net, the cost of demonetisation implementation in India was very high. Obviously, this was not taken into account by our strategists.

Demonetisation is a one-time event; after creating the initial wipe-off, it will cease to have any impact. Cashless economy, tax reforms, GST etc. can help us achieve a long-term economic growth

Cashless economy is an ideal thing to have, but we should not be naïve enough to believe that it will become a reality anytime soon. The total population of the country using net banking/credit cards/debit cards is less than 10 percent and the best estimates indicate movement to cashless economy of maximum 25-30 percent in the next five years. However, going cashless comes with a transaction cost and the government policies have to address it adequately. The more we move in this direction, the better it is for us.

Tax Reforms

The government revealed a very shocking fact that out of a total population of 123 crore, while 2.8 crore filed the IT returns, only 1.25 crore paid the Income Tax, an abysmal 1 percent of India’s population. Since such a small number of people pay IT (Direct Tax), the indirect taxes keep on increasing continuously and this is really a punishment for the poor of the country.

A simple step to widen the tax base can be to consolidate the consumption-related data – anybody buying a car or say a white good costing beyond a certain amount. Then there is a huge chunk which files IT returns but does not pay Income Tax, almost 1 crore such people. This can be immediately addressed. A strong political will is needed to widen our tax base – to increase the number of people who file IT returns. This will not only reduce the burden on the fewer people who pay IT, but will also reduce the ever-increasing unfair Indirect Taxes.

(The writer is Senior Vice President, a leading handset company and can be reached @sandeepdongre20. This is a personal blog and the views expressed above are the author’s own. The Quint neither endorses nor is responsible for the same.)

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