Demonetisation: India’s Frankenstein’s monster

“N ever use a sledgehammer to kill a fly. The fly will escape and the table will break,” counselled my school principal almost 50 years ago. As events unfolded in India after demonetisation in November, I am reminded increasingly of his advice.

The goal of demonetisation was to flush out black money. However, we need to comprehend the quantum of illicit money in the economy, how much of it will demonetisation release, the price the ordinary citizen, especially in the villages, is paying for this and whether the root causes of unaccounted wealth are being challenged.

BLACK MONEY IS 20% OF GDP

The World Bank has pegged India’s black money at 20% of the GDP, which is $450 billion (over `30 lakh crore). Income-Tax raids reveal that most unaccounted wealth is converted into assets like property and gold. Indians have deposited about $100 billion (`68 thousand crore) of the demonetised currency in bank accounts post demonetisation. This may augment to $200 billion by December-end. These deposits principally comprise of tax-paid money held at homes for emergencies or monthly expenses.

Of the total demonetised amount of $220 billion (about `15 lakh crore), about 10 % i.e. $20 billion may not return to the banks. Thus, the government can hope to garner about 4-5% of the unaccounted money in the country.

The question is: Whether it is worth putting a billion people through long queues, cessation of economic activities, stoppage of trade and business, for a dent on the unaccounted money in the country? Over 70 citizens have died waiting in queues at banks to obtain new currency. Most workers earn their wages in cash and majority are daily-wage earners. These vulnerable sections of society are now either unemployed or surviving on barter.

NO RELIEF IN SIGHT

Though the government has sought 50 days to ensure adequate currency, most of the country is facing cash crunch even weeks after demonetisation. The new `500 note is available in patches. Considering the printing capacities of four mints, it is estimated that the country may have currency normalcy by May 2017.

The government could have printed sufficient quantities of new notes prior to demonetisation. You cannot launch a new product, new currency in this case, and then not have adequate inventories. Such a situation is a recipe for failure.

It will not be easy to wipe out black money completely from India. The agricultural sector, which contributes 15% to the GDP, is tax-free. These farm incomes are also expended in the country and frequently serve as a conduit to launder money.

Again, a large part of India’s economy is informal — small-time shopkeepers, hawkers, whose income is less than the annual taxable level. Their unaccounted earnings also flow into the national income stream, but remain unaccounted.

95% TRANSACTIONS ARE IN CASH

Cash is king in India, constituting 95% of transactions. Banking services cover only 32% of the Indian population. Credit card payments constitute only 3-4% of transactions. A third of the bank branches are in urban areas. Any hope that digital transactions can alleviate the penetrating pain in the countryside is a pipedream, considering the scrawny banking penetration and infrastructure.

A significant portion of the unaccounted wealth is stashed in foreign banks abroad. The estimate of these monies ranges from $1 trillion (`1 lakh crore) to a meagre $10 billion (about `68 thousand crore).

POLITICAL FUNDING ROOT CAUSE

The root of unaccounted wealth in India is political funding and expenditure. If any government is serious about eliminating illicit money from the economy, it should legislate that all political parties will accept donations by cheque or online only. The BJP reportedly receives about 63% of its donations in cash and the Congress about 84%.

Demonetisation will put some pressure on black money generators for a brief while only. In fact, the larger denomination bill of `2,000 will tempt them to hoard illicit money again.

For now, Indians are beggars for their own hardearned taxed money. (The writer, an alumnus of Harvard Business School and John Kennedy School of Government, has worked with Unilever in Asia, Latin America and Africa. Views expressed are personal.)

THE GOVERNMENT COULD HAVE PRINTED SUFFICIENT QUANTITIES OF NEW NOTES PRIOR TO DEMONETISATION. YOU CANNOT LAUNCH A NEW PRODUCT, NEW CURRENCY IN THIS CASE, AND THEN NOT HAVE ADEQUATE INVENTORIES. SUCH A SITUATION IS A RECIPE FOR FAILURE