Demonetisation- No panacea but may still work!

Despotic, Disruptive or Surgical?

A ‘despotic action and a ‘disaster on economy of trust’ is how Nobel laureate Amartya Sen has classified demonetisation. His anguish is understandable. Government hasn’t been playing to the gallery and its recent actions aren’t straight from an economy book either. It’s bound to have left many economists fuming.

Social media was abuzz with interesting conspiracy theories- from embedded Nano-chips that can track bulk cash to the new notes fading to white over 2 years! But the implausibility of these suggestions apart, saner spirits were bewildered by how demonetisation would really prevent the build-up of black money in future? Instead it seemed likely to have an adverse impact on demand and growth. Noted economist Paul Krugman recently commented that the move is ‘disruptive’ but won’t change the behaviour. It’s a culture thing, you see! The disease of black money is so chronic that it needs more than an occasional visit to the doctor.

The government has responded to the scepticism with an evolving strategy, moving from a one-time Act to a sustained Action Plan. By using ‘surprise’ and ‘persistence’ as tactical tools with alacrity, its thinking a little out of the box. For a change, this may be a good thing! After all, how many times do you see the black money hoarders play by the rule-book?

It may not be the panacea but demonetisation may just be the beginning of a long surgical treatment for black money. As a collateral benefit, it may help cure the ailment of too much cash in the economy and also alleviate the pain of poor rates transmission by the banks.

1. The black money

Much has already been written about  the effect of demonetisation on black money. While on the surface, it seems like an eager Surgeon’s approach to cut open and be done away with the tumour, the deeper play is to subtly influence the psyche rather than the physiology of the problem.  The series of steps that government has taken, from IDS to articulating limits of reasonable cash deposits, all seem like the Queen’s gambit in the game of chess. It interesting though that the opponent i.e. the cash economy proponents, is not biting the bait easily.

Government’s has been raising the pitch and moved from coaxing to pure, unambiguous threats. With the news of raids on hoarded cash being read out every day, a 50% penalty should seem like a good conversion ratio. And with 30th December approaching fast and no respite in sight, it’s clear that stress levels will only rise and hopefully many would give in.

Demonetisation may not be the complete cure for black money but it is possibly the strongest message that the government could have given to discourage the rampant ‘suitcase’ and ‘no bill’ culture.

2. Digital Economy

The bigger impact of demonetisation is on the payment side. It’s no surprise that Wallets are full of gratitude towards our PM. But the 2000 denomination, which seems to have become a staple note in last few weeks, presents a challenge for smaller vendors like Chaiwallah, Sabjiwallah, Kirana Shop and Autowallah. They risk losing out to organised players like cafés, supermarkets, malls, and Uber. The dilemma they face– Continue 100% cash transactions which requires them to painfully arrange loads of low denomination change OR simply start providing digital payment options to their customer.

For those who, like me, believe standing in a Bank queue is the least productive thing to do, it’s the last push to start using or encouraging digital payments.

3.  Interest Rate transmission

It’s not clear if the government intended to increase the savings rate but increased deposits in the banks would do just that.  While the incremental CASA (Current Account Savings Account deposits) helps the banks to lower their cost of funds, a sudden spurt of 11 Lakh crores in the system does create a huge skew towards Liabilities in the bank’s books. While RBI has taken steps from temporary 100% incremental CRR to increase in MSS (Market Stabilisation Scheme) ceiling to Rs 6 Lakh crore from a meagre Rs. 30000 crores, it may not be sufficient.  The excess liquidity creates a push on the banks to lower the lending rates to ensure deployment of funds. The weak credit demand adds fuel to the fire and increases the competitive pressure for further lowering  of rates.

It’s not long before the alibi of NPAs for poor rate transmission is overtaken by considerations of ALM (Asset Liability Management) and hopefully starts a virtuous cycle of lower rates and investments.


It’s clear that government is using its mid tenure political elbow room to push for some fundamental and possibly long lasting reforms to our socio-economic baggage. The critics would find the move coercive but with a divided opposition and a lamenting but cooperative populace, it would be unwise for the government to not pursue this to conclusion. Even the common man of this country needs more than a gentle prod every now and then to follow simple rules (look at any unmanned traffic signal in the city!)

My lament, like that of many others, is that much of the government action seems to be an afterthought. Maybe we needed a little more preparation to ensure this was less of a pain, especially for those at the Bottom of the Pyramid. But more on that in the next article. For now, I guess the queues are still on, ATMs seem redundant and Tellers counters at banks enjoying their 15 minutes of fame. With some smart moves and some flip flops like the recent Rs. 5000 notification, the end game is moving to a nail biting finish.

A few weeks of trouble is a little cost to bear to bring a such a significant cultural change. The semantics of Cash Less or Less Cash aside, either way it’s a non-zero-sum game where everyone wins in the long term. Demonetisation isn’t the panacea but has the potential to cure three ailments. Yes, our views on dosage and frequency may vary.
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