Published: November 8th, 2016
Written By : Ronak Pol
Every so often a political decision is taken that breaks the barriers of vote bank politics and pushes the country on a fresh new trajectory. The ban on 1000 rupee notes and the replacement of 500 rupee notes might arguably be one such decision. In his speech, Prime Minister Modi said that “Black money and corruption are the biggest obstacles in eradicating poverty” although this bold step might not help solve the systematic corruption that is prevalent in the country it will certainly aid reducing the amount of black money in the nation.
So how this ban reduce black money?
Black money is largely undisclosed cash. One of the ways that black money transactions hurt the economy is that the holder of this amount never pays their taxes.
Coming to the point of how this ban reduces black money circulation is rather simple. Indian rupee as we know it is a form of fiat money. In this case, the printed paper gains value solely based on the trust that we place on the issuing authority (government). It is accepted for transactions as it is declared by the government to be a legal tender. Now the moment government removes its backing the currency is virtually useless in terms of its transactional value. Meaning, after the brief transition period the 500 and 1000 rupee notes as we know them would become obsolete in terms of its purchasing power.
Now for those that have already connected the dots. All the undisclosed money that is stacked by individuals or corporations in terms of cash will become just pieces of paper if not traded in for the new notes.
This is a short to medium run measure.
Although I commend the government for the steps it has taken, I would also like my readers to realise that this will not solve the problem of black money in the long run. Here we are only replacing old notes with new ones in case of 500 rupees and upgrading the 1000 rupee notes with a 2000 rupee note. These measures do not encourage a cashless transaction system in the long run but will surely have a significant impact during the transitionary period.
Although classified as an asset cash in hand depreciates with every day you don’t invest it, but people choose to hold it primarily for the liquidity it offers. As an immediate effect of this ban, we can expect commodity prices of gold, silver and other metals to go up. This is because individuals will want to use their present currency to buy assets that offer similar liquidity.
A future without black money will most certainly involve the emergence of plastic currency (Card payment). In this case, when payment is routed through banks the money spent leaves a paper trail which can be used by authorities.
Effects on corruption and Vote bank.
Again the effects that this measure will have on corruption would be momentary. Corruption in India is systematic and accepting cash “under the table” as we say would not really stop by doing this. Surely if people who currently hoard huge sums of cash are not able to replace their notes will have to use their notes as monopoly money and face substantial losses in real terms. But apart from that this will not really affect the problem of corruption.
When it comes to vote bank politics this might have arguably been a bold move by the Modi government. A substantial amount of money that comes into political party funds is unaccounted making this decision a direct hit on their pockets. Also, businessmen who have not appropriately planned for a scenario like this would also find themselves in a soup. Meaning this not only directly affects pockets of politically affluent but also affects businessmen who are the primary supporters of Modi government. The political ramifications of such a move will play out in coming months.
To conclude this a bold move by the government. I welcome the idea but also acknowledge that it is not a panacea. Although it is not exactly what we were promised in terms of getting black money back but can be considered as steps in the right direction. This ban in no way solves the corruption problem just changes bags of old notes with a new one that one might have to pay.
Comment below on what you think.