Government’s Affidavit on Demonetization Confuses & Damages Institutions

Arun Kumar

The Government of India has filed its affidavit in the Supreme Court in the Vivek Narayan Sharma vs Union of India case filed in 2016, questioning the legality of demonetization promulgated on November 8, 2016. The case is being heard six years after it was filed and six years after the event.

The inordinate delay has literally killed the case since neither demonetization nor its consequences can be reversed now. No order of the court can undo the unfortunate deaths in the queues at the banks or the chaos in the economy for months. Can compensation for the loss of income, especially in the unorganized sector, be computed and paid, and to whom? The only possible outcome of the case can be to determine whether what was done was legal and within the bounds of the constitution.

The court could look into the narrow aspect of the legal correctness of the ex-post legislative actions. But would it be able to pronounce a verdict on the broader aspect of moral correctness? The government has been taking the stand that on policy matters, the courts should not intervene.

Legal aspects

Be that as it may, the affidavit gives a chance to revisit the event and its consequences. In the affidavit, the government has not only clarified its stand on demonetization but provided justification(s) for carrying it out. The arguments can be divided into legal, social, and economic, and further into the short run and long run.

On the legal aspect, several prickly issues arise. The government notification was ‘issued in exercise of the powers conferred by sub-section (2) of section 26 of the Reserve Bank of India Act, 1934 (2 of 1934)’. This sub-section reads, ‘. . . with effect from such date as may be specified in the notification, any series of bank notes of any denomination shall cease to be legal tender . . .’ The question is whether the term ‘any series’ can imply an entire denomination (like Rs 1,000 notes).

The then Attorney General of India, arguing in the Supreme Court on November 15, 2016, made a distinction between demonetization and the withdrawal of legal status for old notes. In the former case, he said, possession of the old notes would be illegal, while in the latter case the notes could still be owned, though they were no longer legal tender. And, while the former would require an Act of Parliament, the latter could be done via a Gazette Notification.

Demonetisation of 2016 was promulgated via a Gazette Notification on November 8. Neither the Government of India nor the Reserve Bank of India used the term ‘demonetization’ in their notifications. Instead, they stated, ‘…specified bank notes [SBN] shall cease to be legal tender. But from day one, it was evident that possession of old notes would be made illegal. The affidavit now filed goes further and says that demonetization should be viewed in the wider economic context.

On December 30, 2016, the last day for the surrender of old notes by the public, the Specified Bank Notes (Cessation of Liabilities) Ordinance, 2016 was promulgated. The Bill for replacing this Ordinance was introduced in the Lok Sabha on February 3, 2017, and notified on March 1, 2017. This Act made the possession of more than ten of the old notes illegal. The affidavit says that after the Act was passed, the challenge to the notification of November 8, 2016, is not valid.

The government justified the suddenness of demonetization and its resort to a Gazette Notification rather than an ordinance on grounds of secrecy. Given that the parliament was in session from November 16 to December 16, 2016, could a Bill not have been brought in during the session? This would have enabled the people’s representatives to discuss this draconian move and maybe suggest modifications. Instead, the entire session was disturbed because the government did not provide answers.

It seems that the entire intent was to bypass Parliament on this important policy move.

Non-consultation with the RBI

It has been known theoretically that demonetization does not stop black income generation and cannot unearth any significant portion of black wealth. This was implied in the letter written in 1978 by the then RBI governor. According to reports, that was also the advice of RBI governor Raghuram Rajan in 2016.

So, for the government to say in the affidavit that consultations with the RBI started eight months before the step was announced is diversionary. Consultation does not mean concurrence. Rajan was the RBI governor till September 2016 and most of the consultation would have been held during his time. The affidavit does not clarify, what was the RBI’s advice regarding the usefulness of demonetization to tackle the black economy.

Since literally all the demonetized currency notes returned to the banks, what purpose was served? If there were black cash hoards, they got converted to new currency notes and became legitimate. In fact, new black incomes were generated for the conversion of the old notes into new ones. And, if the high denomination notes are to be blamed for black income generation then why issue the even bigger Rs 2,000 denomination notes?

When it became clear that cash was coming into the banks rapidly and getting exchanged for new notes, the goalpost was shifted within two weeks, from the control of the black economy to making the economy cashless. Did this lead to a lowering of the cash-to-GDP ratio in the economy? Instead, it is now higher than it was in 2016. And that too when electronic transactions have grown rapidly. Clearly, more cash is being held now than in 2016.

Reasonableness of the measure

Was the step justified in any way? In legal parlance, it is said that there should be a correlation between the reasonableness of legislation and its immediate effect. Demonetisation has not curbed the black economy, cash holdings have increased and the economy declined drastically. The adverse impact is not just short-run but long-term, so how is the step reasonable or desirable?

Reasonableness was further dented because the authorities were not prepared for the havoc that followed the announcement even though the affidavit says there was preparation. If so, why were the rules for exchanging old currency repeatedly changed? Why were certain assurances given to the public suddenly withdrawn? By December 31, 2016, in 51 days, 114 notifications were issued. Further, the affidavit says that there was advance preparation for the printing of new notes. But then why do they have the signature of Urjit Patel, who became governor of RBI in September, and not of Rajan?

The affidavit says that the Central Board of the RBI made a specific recommendation to the government which was the basis for the step taken. Actually, it is the government that asked the RBI to recommend the steps taken one day before the announcement. This was like a diktat. So, the recommendation of the Board was not based on detailed deliberations on the matter. It is not even clear how many of the Board members could attend this important meeting and give advice.

Another criticism is that wiping out 86% of the country’s currency overnight caused harassment and loss of work for a large number of people, especially in the unorganized sector, including agriculture. Does this constitute a violation of the fundamental right under Article 19(1)(g) of the Constitution, allowing any citizen to practice any profession? It is not that the move impacted only those with black money – in fact, they seemed to have gotten off scot-free.

Is it not unreasonable to try to bring to heel a few, a very large number of people were inconvenienced, especially when other measures were available and when in the past, this measure has been known to not help curb the black economy?

In brief, the legislature was bypassed and the Central Bank dictated to, and the courts did not act in time. Does that not undermine democracy?

This article was first published on The Wire as Demonetisation Back in Focus After Union Govt’s Affidavit. Here’s How it Undermined Democracy.

About the Author

Arun Kumar

Arun KumarMalcolm S Adiseshiah Chair Professor, Institute of Social Sciences, New Delhi and author of ‘Indian Economy’s Greatest Crisis: Impact of the Coronavirus and the Road Ahead‘.

Read more articles by the author at IMPRI Insights