Modi’s Demonetization Move: A Hit or Miss?

On November 8th, Indian Prime Minister Narendra Modi executed his very own ‘financial surgical strike’ when he appeared on national television four hours before midnight and announced to the public that, at the stroke of the midnight hour, all Rs. 500 and Rs. 1,000 notes in circulation would cease to be legal tender. In place of the old Rs. 500 and Rs. 1,000 notes, he promised to release new Rs. 500 and Rs. 2,000 notes into the economy by the end of the year. This move is just the latest in Modi’s claimed fight against black money and corruption, a reflection of India’s rank as 85th (out of 175 countries) in the Corruptions Perceptions Index (CPI 2014) at the time of his election.

At the time, Modi explained that his decision to target Rs. 500 and Rs. 1,000 notes was rooted in the fact that the majority of the black money stored in the form of cash is in the form of these higher denominations. He argued that he wished to eliminate black money in order to assist the poor, to propel the Indian economy forward in the long term by forcing the formalization of the informal markets, and to deter the threat of terrorist activities that were often funded through black money. He also mentioned that the sudden implementation of the policy was key to its success, since a longer time frame of function after his announcement would make it easier for those possessing black money to exchange it for gold or deposit it before it turned into ‘worthless pieces of paper.’

While many have praised Modi’s policy, including the International Monetary Fund, there have been equal calls for caution and prudent management in order to minimize disruptions in the economy. Concerns have arisen regarding a potential slowdown of the Indian economy, and for good reason. As of the first week of November, almost 86 percent of all cash in the economy was circulated in the form of Rs. 500 and Rs. 1,000 notes. with about 46 percent of the currency stock coming from Rs. 500 notes, and 40 percent coming from Rs. 1000 notes. Additionally, India’s informal economy, which operates almost entirely on cash transactions, accounts for almost 45 percent of India’s total GDP.

Given these staggering numbers, even the same experts that support Modi’s demonetization policy have also noted that the economy is likely to experience negative growth in the two upcoming quarters. Former Planning Commission Deputy Chairman Montek Singh Ahluwalia anticipates that economic growth will adversely affected up to 1-2 percent, predicting a ripple effect due to changes in consumption and production from a short-term liquidity crunch. Nationally reputable think tanks, such as Ambit Capital, are hopeful that the policy will prompt a formalization of the economy by 2019, but they also predict a significant reduction in GDP growth due to a paralyzed informal economy.

More pressing, however, are the short-term — and in many cases, fatal — consequences for some of the most vulnerable demographics of the population who are already struggling to adapt to the currency change. Among those most adversely affected are the poor and lower-middle class, who are struggling to withdraw cash to run their businesses and households due to lack of access to ATM or credit cards and strict withdrawal limits set by the government. Additionally, up to 50 deaths in the first 8 days were reported by various news sources following the announcement to implement the demonetization policy. These unintended victims mostly include housewives and elderly citizens, who have either committed suicide due to the fear of their sudden liquidity crunch, or passed away from standing in long queues at ATMs to exchange old notes for new legal tender notes. These casualties and hardships are tangible evidence of Modi’s lack of knowledge of the sheer aggregate of notes in circulation in India’s cash-driven economy, as well as a failure to appreciate the cultural importance of saving wealth in terms of cash, particularly amongst housewives and the poor. By underestimating the impact of the demonetization policy on both the overarching economy and daily lives of the lower classes, Modi has found himself several harsh critics from the middle class and the poor he claims to be championing with this very policy.

Consider the long queues outside ATMs throughout the country that have gathered in order to exchange old currency for new legal tender notes. After Modi’s announcement on the night of November 8th, banks remained closed for the next 2 days to recalibrate with the new Rs. 500 and Rs. 2,000 notes and initiate their circulation in the economy. In the week following November 11th, the date the banks reopened, citizens were only allowed to exchange up to Rs. 4,500 per week wit the presentation of state approved identification documents. A week later, the withdrawal limit was reduced to just Rs. 2,000 per week.

These casualties and hardships are tangible evidence of Modi’s lack of knowledge of the sheer aggregate of notes in circulation in India’s cash-driven economy, as well as a failure to appreciate the cultural importance of saving wealth in terms of cash, particularly amongst housewives and the poor.

However, India, which has a population of about 1.252 billion, only has 220,000 ATMs, out of which about only 40 percent had been re-calibrated with the new notes. Citizens that went to the ATMs that had not been re-calibrated were only able to exchange their old notes for Rs. 100 notes. While the preemptive move was initiated to decrease inconveniences caused by the demonetization policy, the nation witnessed unbelievably long queues outside ATMs for the first week. Moreover, with the failure of alternative and accessible provisions for the elderly, many passed away due to heart attacks while waiting in lines. While this obstacle was emblematic of the issues in more urban areas, rural areas of the country faced even greater challenges, as only 27% of Indian villages have access to banks within 5km, forcing many to travel long distances to exchange their notes. Often, these long journeys were found to be useless, since the ATMs had already run out of notes.

Another trend that Modi seemed to have underestimated was the cultural importance of saving wealth in terms of cash in India, particularly for the lower classes and housewives. For some, the demonetization caused major inconveniences from being unable to exchange their legally earned money at bank accounts due to lack of paperwork accounting for their savings; for others, the demonetization had fatal consequences. One example is Sukdhev Singh, a man from from Tarn Taran, a city in Punjab, who died from a heart attack after no one was willing to accept his cash savings for his daughter’s wedding. This is hardly an isolated incident; several people — especially from the lower classes — have already suffered similar experiences, after the demonetization policy nullified their savings overnight.

Similarly, there have been extensive reports of housewives committing suicide from extensive economic loss. In a culturally dictated practice — wherein the breadwinner of the household, often the husband, sets aside a given amount of cash for the household — housewives will secretly stash away petty amounts of cash from the entire lump sum for future expenditure in times of need. However, since the demonetization policy, a shocking amount of these savings have become worthless. Some housewives have responded with extreme measures, committing suicide or otherwise harming themselves. Still, other housewives have found that their household allowances are increasingly difficult to use for payments that would normally be carried out in everyday life, as most retail shops are struggling to hold enough change to complete transactions.

Given these short-term fallouts, has Modi’s policy been effective and timely enough in its implementation to achieve its intended goals? Moreover, is it possible to rationalize the short-term negative consequences for the sake of possible long-term benefits and goals? While Modi clearly stated that his primary intentions with the policy were to benefit the lower and middle classes, the short-term outcomes of demonetization have most directly and negatively impacted these very groups of people, challenging not only Modi’s efficacy, but also his intentions. Moreover, while the middle and lower classes are almost entirely reliant on cash, only about 4% of the total black money in India’s economy exists in the form of cash. The rest of it, mostly possessed by the top 1%, is either stashed away in offshore accounts, or in the form of benami properties, which are properties that are held in one person’s name, but are paid for by another person.

When confronted about these ideological and logistical obstacles, Modi elaborated on his previously implemented policies to achieve financial inclusion and counter other forms of corruption and black money, including the Pradhan Mantri Jan Dhan Yojana (PMJDY), the amendment to the Benami Transactions (Prohibitions) Act 1988, and The Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act, 2015 for Foreign Black Money.

The PMJDY, which was implemented on India’s Independence Day in 2014, was a financial inclusion campaign that broke world records for opening the largest number of bank accounts within a week, opening about 18,000,000 accounts in total. Additionally, his past legal amendments have zeroed in on penalizing those with benami properties and deposits off shore. Still, while in theory these policies fit the national anticorruption agenda, in practice they have only made life more difficult for the common man, and have hardly affected those possessing the majority of black money. In addition, there has not been enough time since the implementation of these legal amendments to evaluate how effective they have been in countering the majority of the black money and corruption in the country.

Unfortunately, despite Modi’s promises since the implementation of the demonetization policy to eliminate corruption and assist the common man in combating poverty, the bigger picture still looks pretty grim for the masses in India. Many of those dissenting from Modi’s policy are being silenced by being called anti-nationalist for expressing their frustrations due to the daily inconveniences caused by demonetization.  Meanwhile, counterfeit Rs. 2,000 notes have already started pouring into the economy.