http://scroll.in/article/821105/modis-move-to-scrap-high-denomination-notes-is-more-about-politics-than-economics
NOTE DEMONETISATION Is Modi’s move to scrap high-denomination notes more about politics than economics? Economic theory offers little or no guidance as to the impact such an action would have. Image credit: Punit Paranjpe/AFP Yesterday · 03:30 pm Updated Yesterday · 08:34 pm Sanjay G Reddy The Indian government's decision to abolish high denomination notes of Rs 500 and Rs 1,000 has been given two primary rationales. The first is to address a problem of counterfeiting, suggested to emanate from across the border, and the second is to address the problem of ill-gotten gains resulting from corruption or tax evasion. The dramatic nature of the announcement on Tuesday evening, giving rise to an appearance of determination and decisiveness in government, and the claim that social goals are being pursued, appear to have generated initial support for the action (such as on social media). However, how wise an approach to addressing these problems is it? Fundamentally, the abolition of high-value notes involves the application of a blunt instrument of uncertain value. Economic theory offers little or no guidance as to the impact such an action would have, and effects on the proclaimed goals could be counter-productive, with some groups being harmed for no fault of theirs, while undermining the ultimate promise of governmentally issued money that it is a reliable medium of transactions and source of value. It is far from clear to what extent the government’s decision was based on a careful study weighing the consequences. Consider the idea that foreign terrorists use counterfeit cash to finance their operations. If they can bring in counterfeit cash, then do they not also have access to foreign currency and hawala methods to transmit resources from abroad, or indeed smuggle them outright and exchange these in the black market within the country? What about the idea that counterfeit notes are being systematically and intentionally used to destabilise the national economy? There is nothing to stop currency notes in circulation being gradually, or indeed rapidly, replaced through central bank operations, as routinely and continually done in all countries to substitute for ageing banknotes. What of the idea that the elimination of high-value notes will make it harder for officials and politicians to engage in corrupt acts, or for citizens to engage in tax evasion? Corrupt acts are of innumerable types and the quid-pro-quo can take the form, depending on the size and nature of the corruption involved, of delivery of in kind benefits, transfers of title, or indeed payment in precious metals, larger numbers of small-denomination notes, the new high-denomination notes to be introduced, foreign currency or crypto-currencies, especially if willing intermediaries and aides can be found. No one who has experienced or studied the creative character of corruption in India and worldwide should doubt the ability of the interested parties to find such workarounds. A technofix is no substitute for multi-pronged solutions to complex institutional and social problems. Although there has been a move elsewhere in the world to eliminate high-value notes because of their use in criminal activities, notably in Europe where the European Central Bank has prominently pushed for such a measure, it has been resisted in Germany and in other eurozone countries, where cash plays a very large legitimate role in transactions on the part of a credit-shy and anonymity valuing public. By introducing a new Rs 2,000 note the government has in any case muddled its message. Will the move either punish previous wrongdoers or prevent future wrongdoing? It is unlikely to do the former because cash proceeds of corruption are likely for the most part to have been redirected into assets of one kind or another. To the extent they have not been, it is plausible that intermediaries will be found to funnel the resources into new banknotes, for a fee. It is unlikely to do the latter both because other routes will be found for transactions and because, to the extent it reduces the wealth of the corrupt, it may even provide a spur to further corrupt activity to make up the losses. Distributive consequences What of the distributive consequences? In a country as diverse, complex and uneven as India (features readily forgotten in today’s media-driven universe), it is wholly probable that some will hear the message too late, not know how to go about making exchanges, or not have the required forms of identification or bank accounts for exchanging more than the still-modest maximum of Rs 4,000. If they must rely on intermediaries, they will pay direct and indirect costs, and even risk losing all of their cash. Such difficulties are likely to be faced especially in the rural sector, among the socially vulnerable, and the illiterate. The effect on the holdings of the elderly and women who are less likely to be able to engage in direct transactions with banks, may be sizable, but there is little basis to know what it will be. One wonders if the RBI made the requisite studies and what role they played in the decision to proceed. The costs of the exercise in terms of the time of bankers and citizens is likely moreover to be enormous. Is a cavalier attitude toward their time that of an India "open for business"?The likely impact on aggregate demand of the destruction of wealth may have been judged small, but is in fact unknowable. One is left with the feeling that this episode is, quite apart from any sectional political calculations which might be involved, motivated by the desire to create a high level of political mobilisation – the nation as a daily plebiscite – in which everyone who exchanges cash will participate, indirectly bowing down before, and affirming, the narrative of the government. One can only hope that enough of them will, as they have before, despite the unthinking plaudits, maintain enough independence of thought to raise the essential questions. Sanjay G. Reddy is an Associate Professor of Economics at The New School for Social Research. -- Peace Is Doable -- You received this message because you are subscribed to the Google Groups "Green Youth Movement" group. To unsubscribe from this group and stop receiving emails from it, send an email to [email protected]. To post to this group, send an email to [email protected]. Visit this group at https://groups.google.com/group/greenyouth. 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