The dramatic announcement on Tuesday night by Prime Minister Narendra Modi, scrapping or taking out of circulation high-value notes of the denomination of Rs 500 and Rs 1000, is a major signalling of his government’s intention to curb black money and move to an economy where the use of cash as a medium for transactions and stashing savings is minimised. Coming as it does on the heels of a voluntary disclosure scheme, which offered an opportunity to those dodging taxes to pay a penalty of 45 per cent and come clean, the Modi government is evidently walking the talk on its promises both before and after the 2014 elections.
The current withdrawal of high-value currency notes marks the third attempt at demonetisation in the country. The PM has justified the latest attempt, which is far bigger in sweep and scale, by pointing to how the widespread use of cash in high denominations has led to an artificial increase in the cost of goods and services and is reflected in the government’s success in bringing out Rs 1.25 lakh crore of unaccounted money. It is difficult to disagree with that logic though there could be quibbles on the modalities of this decision which could lead to economic disruption in the near term. It may well be that this government is betting on a structural transformation which the drive against black money could bring about in the medium term and the political gains that can be leveraged. There could be a progressive shift to a cashless economy with a greater focus on electronic transactions and the formal banking sector, and attendant benefits in the form of consumption growth and revenues besides audit trails and transformation of businesses, especially the real estate sector. The three-fold increase in electronic payments through the banking system, such as the RTGS and NEFT, and the seven-fold rise in mobile banking transactions between 2012 and 2016, and the emergence of electronic wallet providers and new payment banks, are a testimony to the success of the drive mounted by government and the central bank.
India is not alone when it comes to scrapping high-value notes. In May, the European Central Bank had announced that it was phasing out the 500 Euro note from 2018 because of heightened concerns of money laundering and terror financing, especially after the terror attacks in Paris. At a time when private investment has been hit and with factory output contracting, scrapping high-value notes may prolong the economic pain. What the government needs to do now is to follow up the demonetisation with a vigorous push to ensure greater universal banking access, and nudge the real estate sector to move towards greater transparency, besides offering more incentives to encourage electronic payments and use of cards. The challenge is not just in pulling out 85 per cent of the high-value currencies in circulation but also to ensure a culture of compliance progressively.