In a sudden though not unexpected move, currency notes of the denomination Rs 2,000 are being withdrawn from circulation. This is announced via a notification released by the Reserve Bank of India and not the government (as at the time of demonetisation). These notes are not being withdrawn from circulation, but actually, they will stop circulating right away given that they will have to be deposited in a bank or exchanged for lower denomination notes.
So, no one will accept these notes in transactions which are as good as being withdrawn from circulation. This will create confusion in the public for a while.
Further, as transactions face problems, especially for small businesses – producers and traders – the economy will be impacted.
The RBI press release gives the logic of the move.
1) The objective of introducing these notes at the time of demonetisation was met as smaller denomination notes became available in larger numbers. It is argued that the availability of these smaller notes is adequate.
2) This denomination is not commonly used for transactions.
3) It is estimated that the lifespan of notes is four to five years. So these notes issued between 2016 and 2018 have reached their end. It is stated to be a part of the “clean note policy” – whatever that may mean.
None of these arguments are valid. These notes were not introduced in November 2016 to take care of the shortage of notes due to the demonetisation of the other high-denomination currency notes. The planning for these notes started months in advance. Demonetisation was done in November 2016 since these notes were just about to be introduced for circulation. So, the logic is the reverse of what the RBI is implying. It is not even that these notes are not needed anymore.
High denomination notes are introduced for ease of transactions as the economy expands and there is inflation. More and more money is required. Especially in India where a large number of transactions are in cash. There are over 6 crore micro and small business entities and about 11 crore farmers who use cash for working capital. Further, well-off households keep cash for precautionary reasons for some emergencies, etc.
So, a large part of the hoard of Rs 2,000 notes would be held for legitimate reasons.
Who holds the cash?
If it is assumed that those with substantial amounts of black wealth in cash, hold an average of Rs 10 crore, then if the entire amount of Rs 3.6 lakh crore is used to hold black wealth then only 36,000 people will have these notes. However, as argued above, such notes are also held by other economic agents so the numbers holding the Rs 2,000 currency notes as black wealth may not be more than a few thousand.
The implication is that to curb the black holdings of these few, the whole population of 140 crores would be impacted and most of whom have nothing to do with black incomes or wealth since they earn way below the taxable limit.
Further, automatically the availability of the Rs 2000 currency notes had declined from Rs 6.73 lakh crore on March 31, 2018, to the present amount of Rs 3.62 lakh crore. If the banks just stop issuing these notes, the numbers would decline further. So, there was no urgency to take these notes out of circulation and create uncertainty in the economy.
The Rs 2,000 notes were introduced to make transactions easier. But if they were being slowly reduced in quantity, naturally their use would decline. It is then a flawed argument that since they were not much in use they can be completely withdrawn. The need for them continues to exist in the economy.
The argument that the lifespan of notes is X years so all the notes need to be withdrawn from circulation is also flawed.
The soiled notes are removed in a routine way when they come to the banks. One does not need to withdraw even those notes that may not be soiled and which could be used. Further, since it has been said that these notes have had reduced circulation, they are unlikely to have got soiled and could have lasted much longer.
Why has the step been undertaken?
Perhaps the ruling party has been influenced by the flak it faced during the recently concluded Karnataka elections. The slogan ‘40% ki sarkar dented the image of the ruling party. So, just like demonetisation was used to create a perception that government is proactive against black money, the same is seeking to be done now. It worked in 2016 when the poor accepted that the ruling dispensation was acting against the black money holders.
The issue is will it again work? Most unlikely, since after demonetisation also realised that it did not impact black income generation.
What are the solutions to this mini-demonetisation?
What is required is not tinkering with money in circulation which impacts the small and micro sector units that transact in cash. It will also impact farm trade. All these people number in crores. The larger units will not face issues since they will continue to use formal banking channels and electronic transfers. But, if the impact on the unorganised sectors slows down the economy further then unemployment will increase and poverty would get more entrenched.
The common person will not face the problem of cash shortage during demonetisation since very few of them hold Rs 2,000 currency notes. But, they will be impacted indirectly by rising unemployment and loss of income. They continue to be impacted by day-to-day corruption which is what ‘40% sarkara’ refers to, and this is increasing and not decreasing.
To tackle black income generation what is needed is accountability and transparency at all levels and not demonetisation or its mini version even if that is partial.
The article was first published in The Wire as Rs 2,000 Banknotes and the Mysteries of This Mini-Demonetisation on May 20, 2023.