Saturday, 12 November 2016

The Hype and Hyperbole of Demonetisation of Rs 500 and Rs 1,000 Notes

Let me say at the outset that I welcome the demonetisation move but do not support:
·      the shock and awe approach that has caused hardships to a vast majority of citizens for the limited benefit this may deliver (more about this later); and
·    the hype and hyperbole that this action will deliver a death blow to corruption and black money, which it certainly will not, as the problem of corruption and unaccounted wealth is much bigger and is not limited to hoarding of cash, which if anything is less than 5% of total black money.
Hence, the claims by the Government that this will end the menace of black money and corruption are simply outlandish.  Also, the simultaneous introduction of Rs 2,000 note undermines their claim and it simply does not fit the storyline of an attack on black money and corruption. 
Now, let's look at the extent of the possible real benefits of this move. 
As noted above, to say that this will deliver a death knell to corruption and black money is a massive overstretch and a great exaggeration, and I will come to that in a bit. But those who are going on an overdrive about this being an unprecedented move of epic proportions and the next best thing since sliced bread, need to read up a bit of history.  This has happened in the past in India in 1978 and again to a limited extent in 2005 when older notes were recalled but in a more orderly and sensible manner.  This has also been tried in many other countries and what these experiences tell us is that demonetisation on its own has a very limited effect for a short while unless backed with several other measures of surveillance.  
This is simply because of the fact that significant amount of black money is held via overseas bank accounts or in offshore real assets through a web of shell companies, a fact acknowledged earlier by the ruling party prior to general elections (Kaala dhan videshi bankon mein jama hai!). However, equally it’s undeniable that some portion of it is also held domestically but bulk of this is in the form of real estate, financial assets through trusts, Gold and some amount of it in cash.  And it's the last part of this that demonetisation will address and deliver some benefit. This was also the political position of the ruling party back in 2005 when they protested against a move by the previous Government to recall higher denomination notes. So, what are the real benefits of this move?

Let’s look at some of the specifics around expected benefits of this demonetisation and the ways in which this may have an impact:
1.     For starters, it will invalidate the fake notes being pumped by some of our neighbours through Nepal and other porous borders;
2.       It will bring more cash into the banking system, as even legitimately held cash with people will find its way into the banks, at least for some time (until the cash withdrawal limits are increased);
3.   It will bring some amount of unaccounted cash which may either flow back into the banks where people simply decide to account for it and pay tax or otherwise use their extended family and friends network to split the amounts into smaller amounts to recycle into the banking network; and
4.       Finally, some cash may simply be unclaimed (though highly unlikely with the Indian Jugaad system).

The benefits case
1.                   Fake Currencies
The issue of fake currencies was becoming a serious menace and this move clearly stamps it out. It will take a while for them to master the art of new notes that have, purportedly, advanced security features.  However, the immediate adverse impact of this will be felt in the form of slower GDP growth and lower consumer spending.  The positive effect may be in the form of Inflation trending lower because of this.

2.                   Cash flowing into the banking system
Irrespective of having a bank account, people legitimately hold cash for their routine and emergency requirements.  This move will result in this cash flowing back into the bank, only to be withdrawn after a while.  So this will only result in a temporary improvement in the liquidity position of banks as it will leave once the new notes are available and withdrawal limits are lifted. So the real benefit from this is questionable.

However, the cash that was not previously within the banking system will flow into it for the first time.  This will lead to an increase in bank deposits and perhaps a reasonable amount of this may stay for a longer period.  To the extent of the stability of these deposits, this may help the credit creation process. However, for the credit creation to occur, the PSU banks that are weighed down by non-performing loans have to be recapitalised.  So, no tangible benefit to the economy until and unless the banks are recapitalised.

3.                   Unaccounted Cash flowing back
This is potentially what the Government is really targeting. If some element of unaccounted money finds its way back into the system, this will help in improving the tax take and the Government stands to benefit. Given the ingenuity of these individuals in protecting their cash, it remains to be seen whether this yields a big tax collection or results in just an increase in number of bank accounts and balances as hoarders find ways to split the amounts. It has to be noted that the recently concluded income declaration scheme in September 2016, resulted in an income disclosure of Rs 65,000 crores ($10bn) and netted a tax take of Rs 29,000 Crores ($4.5 bn), much less than the expected hundreds of billions of $. 

4.                   Unclaimed balances
And finally any unclaimed notes in circulation, a highly unlikely scenario as people will find ways to recycle (remember, India is a land of Jugaad), will result in a clear benefit to the RBI and the Government, as RBI can extinguish its liabilities to this extent.  This gain can be used by the RBI to pay dividend to the Government which reduce the fiscal deficit. But this process cannot begin until next fiscal year which is when the aggregate of unclaimed balances will be known as RBIs window for accepting notes extends to 31st March 2017.
Now let's compare the magnitude of black money and the minimal extent to which this action is going to address the problem.

Total money in circulation according RBI statistics is Rs 16.4 lacs crores ($250bn if you can't get your head around that). Of this, about 86% or Rs 14.2 lacs crores ($ 215bn) is represented by Rs 500 and Rs 1,000 notes as per table below.

According to the RBI's statistics, Scheduled Banks and other banks in India hold about ~Rs 6 lacs Crores ($91bn) in Rs 500/Rs 1000 notes after applying the 86% on their total cash holdings to estimate the amount held in Rs 500 and Rs1,000 notes, in their branches and ATMs.
Then you have organisations like the Railways, Post offices, PSUs, Corporates, Petrol Pumps, Hospitals, Government offices, businesses and traders holding cash as part of their legitimate daily activities. Assuming that the legitimate portion of the cash holdings to be 2/3rd levels of banks (based on an estimate that recognises that the number of corporates, traders, organisations significantly outnumber the banks by several hundred folds), it comes to Rs 4 lacs crore ($60bn), then the remaining cash amount reduces to less than half of the total. So that leaves the balance cash to ~Rs 4.2 lacs Crores (or $64bn). The table below shows the estimates:

Details
Rs (Crores)
~ USD billions
% to total cash in circulation
Aggregate Money in circulation (RBI statistics)
1,640,000
250
100%
Aggregate Money in Rs 500 and Rs 1,000 notes (86% of total per RBI Statistics)
1,420,000
215
86%
Money held with Scheduled Commercial Banks and other FIs includind Cash reserve ratio of Rs 5lacs Crores with RBI (Branches and ATMs) (estimated at 86% of total cash in Rs 500/1000 notes)
~ 6,00,000
91
36%
Estimate cash with Post Office, Corporates, Railways, Traders, Petrol Pumps, Govt. etc.
~ 4,00,000
45
18%
Estimated Balance left with individuals (surprisingly a number we associate with fraud and cheating!)
~4,20,000
~ 64
26%

Out of the estimated amount of cash held by individuals, we can make a reasonable split of cash held by urban and rural folks:
·         Urban India - Legitimately held cash for routine and emergency expenses (assuming an average of Rs 2,500* per person for the 400 million urban population) - Rs 1 lac crore ($15bn)
·         Rural and Semi Urban – Mainly cash users or not in the banking system - say an average of Rs 500* for the 800 million - Rs 40,000 crores ($6bn)
(* average holdings based on research of Rama Bijapurkar - http://www.ice360.in/uploads/files/ibgc-wp14-03-bijapurkar-et-al.pdf)

So, if we adjust the legitimate amounts held by individuals of ~Rs 1.4 lacs Crores ($21bn) from the aggregate Rs 4.2 lacs Crores ($64bn) of balances with individuals, the net estimated amount of unaccounted cash would be ~Rs 2.8 lacs crores or ~$ 43bn.

This is just about 2% of our GDP!  Now cutting all the noise, compare this to the total unaccounted money which was estimated to be ~$1 trillion and you can very easily see that it represents less than 5% of the black money problem!

Even if we made an overly optimistic assumption that the entire amount of ~$43bn can be recognised as a gain either through tax take or unclaimed balances, this would still represent only 4.3% of the total black money problem.  While this is still a welcome development and needs to be applauded, but it needs to be kept in the context of the magnitude of the overall problem. 

So I would say to all those screaming that this will end black money that after all the noise subsides and the chest thumping is over, please realise that the black money problem is far from over! We have just scratched the surface. But the reintroduction of higher denomination notes will only make the problem worse unless further measure to curb cash transactions are introduced.

An important point to understand that cash is fungible. It has no permanent label as black or white.
You withdraw cash from the bank and buy a durable without a bill to avoid GST or pay a bribe for any approval you need, it become black. The same recipient goes with that cash to a supermarket or a restaurant and spends it and gets a bill, it become white.  So not all cash is black and not all cash is white!!!
So the solution is not attacking cash because it will start the day the scheme ends as people as will about their old ways.
What's required is the incentives that drive creation of black money need to be addressed. Attacking cash is like treating the symptom than the underlying problem!

So was the midnight strike really necessary and worth it?

Now let’s look at the dramatic way in which this decision was announced. The move took many by surprise and the reactions in social media has since moved from an initial euphoria to a state of chaos and panic that has left crores of citizens on the streets queuing in front of banks and ATMs looking for the right kind of cash (as lower denominations are only 14% of stock in circulation trying to replace 44% of cash that needs to be replaced!).  To top it, the new currency notes do not fit the ATM machines and it will take more than a couple of weeks for ATMs to deliver the higher denomination notes of Rs 500 and Rs 2,000! And the government says it has been planning for well over six months!

In my opinion, the benefits of this surprise element is being significantly overplayed by the Government. If the Government is conducting inspections of gold traders and other places of suspected of conversion of cash, they could still adopt the same process of surveillance and could have given people a reasonable notice to organise their lives.  This would have resulted in an orderly withdrawal of old notes and still snuff out the fake currencies without the attendant chaos and hardships to a large section of the population for a limited benefit!

The immediate withdrawal is unjustified as it results in hardships to 99% of the population to attack 1% of hoarders. More so, when taken in the overall context of the contribution of unaccounted cash to the black money problem as bulk of it is held overseas in offshore assets or in real estate or in gold.

While people can be asked to make sacrifices for the nation’s cause, this seemingly ill planned execution together with its limited benefits does not quite fit that bill. The simultaneous introduction of the higher denomination Rs 2,000 note blows a hole into that argument as it clearly defeats the purpose of stamping out black money! All this exercise does, at best, is to reset the base for a small part of the overall issue which could have been managed better.

Here's some context in simple layman terms of the current exercise:
If you earn Rs 100 per annum, how tickled would you be if I told you that you will get a one-time bonus of Rs 2? Mighty thrilled?
And for that I have to inconvenience 99% of people to secure that, and I am not even sure whether it will be Rs 2...That is the nature of the current abrupt demonetisation. This could have been orderly without having to cause chaos, panic and distress.
And BTW, there is another Rs 50 that I know can be recovered without having to disturb the 99% of the people. Ah, but that will involve upsetting some powerful business magnates. We will leave that for another day...
A surgical strike is a precision strike with precise intelligence. Not aimless shooting in the dark in the hope of hitting some targets!
And creating an easy path for future creation of black money cannot be part of such an objective (re. Rs2,000 Note).
Hence, the Government’s claim that this action will stamp out black money is tenuous and a fantasy as the Rs 2,000 note will only accentuate the problem of black money creation. While the move is intended to catch the cash hoarders unaware, there are other effective administrative tools in the form of better surveillance, improving the analytics and intelligence network, and taking action against those who facilitate the fake currency trade from our side of the border.

Conclusion

The monetisation move is to be welcomed as there will be some benefit from this exercise but the justification for a sudden withdrawal is questionable as the surveillance on exchange of notes could have ensured that even orderly withdrawal would succeed.

If the Government is seriously minded to tackle black money menace, it has focus on the 96% of the problem and work with other G20 members on information sharing and take prompt action.  So far nothing much has been heard after the initial claim of 650 odd names.  Even the Supreme Court has now stopped asking for updates! So the judiciary is also sleeping at the wheel.

I also question the associated hype and hyperbole, which simply seems to exploit the financial and economic illiteracy that is prevalent even amongst the educated middle class who haven’t comprehended the issue, let alone the rural illiterate.

While there is some gain to the Government in the form of a potential tax take or unclaimed balances which will help to reduce the fiscal deficit, but to proclaim that this is the end of corruption and black money is far-fetched.

This move is neither going to deliver a death knell to corruption nor eradicate black money! And the rhetoric doesn’t gel with the simultaneous introduction of the higher denomination note!! The shock and awe approach doesn’t quite justify the hardship inflicted on millions of ordinary folks.

#Demonetisation #BlackMoney


153 comments:

  1. well written and detailed write-up sir. hats-off to your efforts and clarification on this hype issue

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    1. Explanations are superb.
      Thank you

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    2. Your article is similar to the predicament of doctors when they have a cancer patient in frontvof them. One arguing for chemo which can be painful and other talking if Ayurvedic medicines. WHAT IS HAPPENING IS CORRECT. CHECK USA OF 1969. Similar thing happened and the USA economy took off post that

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    3. Any act of demonetisation involves taking away the higher denomination notes. It's not replaced with a even higher denomination as it defeats the very objective of the exercise!!!

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    4. You should understand why it's replaced by higher denominations and to what extent.

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  2. Very well written and logically supports the perception of millions. Gimmicks are short term, plannings are long term. Let NITI ayog come out some plans for future. Congrats again for coming out with such well written article at such short span of time.

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    1. Thank you. There is a lot of misunderstanding around this with many people thinking that all the collection by banks is black money while many are depositing their legitimate hard earned income to exchange for lower denominations.

      Such is the level of hype that even @SirRavindraJadeja was declaring in his tweet that SBI alone has collected some Rs 53,000 odd crores as if it was all black money! After my comment, that tweet of his seems to have disappeared!

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    2. Logic on impact of demonitisation is not convincing.

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    3. Can you please elaborate or explain why? We can then engage in a meaningful exchange of views. Thank you.

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    4. 1. Issue of fake currency has been addressed as a low key issue where as it's impacts are large including its impact on abating terrorism.
      2. People hoard only black money at home. If it's colour is not black all surplus will be either in bank or it will be used for creating real assets. Liquidity is going to increase with the banks adding positive impacts of Liquidity. Another issue given low key.
      3. Cash flowing back to the system has to happen. Opening of new accounts with vigil on the banks and kyc is not so simple. When large cash is deposited it is going to attract eye of enforcement authorities. Not so easy as mentioned.
      4. Tax collection has to be substantial. By Saturday within 4days more than 2lac crores have been deposited and much more is going to come to the banks.
      Likewise there are comments on all the points mentioned in your blog.
      What I find is that the blog encompasses most of the points but the outcomes have been given low importance.

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    5. Thank you. What you are missing to appreciate is that I am not questioning the concept but commenting on the poor execution.

      Let me address your points:
      1. I have not ignored this. But you don't need a mid-night snap decision. This was addressed a few years back when RBI withdrew Rs1,000 notes issued prior to 2005 to eliminate fake currencies. Even an orderly withdrawal would ensure the same result.
      2. I have Rs 50,000 at home for medical emergencies and it's all white. It is fallacious to assume that all cash is black money. Similarly businesses and traders hold legitimate amounts of cash for their daily activities. You assumption is totally fallacious on this.
      3. Cash is fungible. Black cash and white cash are not separately labelled. When someone pays a utility bill, buys in a supermarket black money goes into real economy. When someone withdraws cash from tax paid income and pays a bribe, white becomes black. So Cash is fungible and it's strictly partitioned and parallel economy does not mean that it does not interact with real economy.

      Also many seem to assume that Cash is the source of all black money. Nothing can be farther from the truth. Bigger chunks of black money is created through under and over invoicing of exports and imports, payment of commissions to shell companies etc.
      4. Another fallacious assumption that all cash collected is black. Several people holding legitimate cash in higher denoms will go and deposit in the bank. Hence only a very small component of this is unaccounted. And with the exemption that deposit below Rs 2.5 lacs will not subject to scrutiny, tax take will be much lower.

      In fact the outcome assessment is what makes this whole exercise look much smaller than what is being made out!

      Thank you.

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    6. To say that the steps taken now are not going to bear fruits is premature. This is only one of the many steps towards a corruption free societies. Many more steps are in the offing in coming days as explained by PM at Goa.

      More importantly this step is not solely aimed at controlling black money. Terror funding is a major target. You can read in newspapers the situation in J & K in the last 3-4 days.No stone pelting, no bomb throwing etc because there is no money to pay to these hired stone-pelts and bomb-throwers.
      Hence I feel many points explained in the article need a revisit.

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    7. Biggest fallacy preached in this blog is that India's parallel economy stash is worth $1 Trillion.. far from that, it's now at around 25% at best.. i.e. $375 bln.. so $43 bln of recovery is a serious amount..12% of total and not 2%.. how playing with denominators skews the argument...phew!😀

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  4. Your article is an excellent eye opener, though some economic terms seem Greek to me as I am a science student. Now I have a serious question lingering in my mind as a layman. Since all the 500 rupee and 1000 rupee notes deposited in the bank whether they are legitimately earned or not, are only invalid papers they are going to be destroyed by the government. Similarly we hear news that bags and bags of unaccounted money which can not be legitimately deposited in the bank by their hoarders for the fear of heavy penalty, are also being destroyed elsewhere.

    Then what is the difference between the destruction of legitimate money deposited in the bank by the govt itself and that by the hoarders. In what way it will help in sustaining the creation and circulation of money among the public? What does this 'recovery' exactly mean to the ordinary people and how will they be benefited?

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    1. Thank you Sir.

      When the RBI destroys the currencies, it reissues new currency to replace the old notes and hence it's effectively recirculated into the system.

      I don't think anyone is burning real money. If at all, it could be stray incidents of fake currencies being burnt. Also the penalty only applies if the money is deemed to be concealed income from prior years. As there is a current tax year running, many may resort to declaring it as current year's income or use their extended family and friends to split the amount and deposit it. The tax take on this newly declared income
      will go to the government.


      But in the event some currencies are not returned, then the RBI stands to gain (may require some legal process though to declare valid legal tender as invalid). Assuming the legal hurdles are cleared, RBI reduces its liabilities and can pay a dividend to the Government to the extent of unclaimed money.

      I hope this makes it clear. Regards

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  5. I agree that this will not be the end of black money and corruption. But at least this is a start and I am sure this will put a fear in those elements who systematically hoard black money, fearing that government might do this again.

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  6. Thank you.

    There are two things.

    1. While the move is good, the execution is extremely poor. You don't inconvenience 99% of the people to nab the 1%!!! This should have been withdrawn in an orderly manner. Also, the benefit is limited that doesn't need the whole country to go through this harassment and distress.

    2. It's fallacious to think that black money is all cash. In fact cash is just 5% of the problem. For that you don't use a sledgehammer approach to bring the country to a standstill. The execution is nothing short of stupidity and extremely ill advised.

    Real focus on black money is to go after offshore accounts, but the government is dithering on it!

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    1. Let us keep the method of execution et al aside. What will be the result of this exercise on 01Jan? Like the entire currency system is cleaned once, currency transaction per aadhaar can be found, one time elimination of fake currency worth of, say 2% of high denomination currency in circulation is stemmed out giving that much worth of breather to RBI, taxable income and tax net increase, anything more? Now if we guess what could be next move, perhaps post 30dec,and how well these results of this exercise would aid, is ascertained then the quality of suddenness can be ascertained. Without that conclusions like govt is dithering on going against offshore accounts would also be a tall claim

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  7. The article misses an important point - the push that this move has given towards e money. Also a limited extent of movement towards bank accounts being opened afresh as well as usage of hitherto unused accounts (especially those under Jan Dhan scheme).
    Govt and PM have been stressing that this is 1 move in a series of moves to attack black money and have reiterated this with number of steps already taken. They have also expressed the need for the shock and awe which still results in low impact - as mentioned by you due to the jugaadu Indian thinking and actions
    Therefore imagine the neglible impact if this was attempted in an orderly overt fashion.
    The need for Rs 2000 note (in addition to Rs 5000 and Rs 10000 was recommended by none other than RBI. Therefore the govt has done well to restrict this to Rs 2000 note only.
    Most importantly the PM and FM have reiterated the uncompressing message against Black money through this move. This is despite adverse reactions from vested interests within BJP also.

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    2. Tushar, your comments were quite valid. I don't think a sabziwala or a fruitwala or a chatwala or daily wage earners is suddenly going to shift to eWallet.

      Eliminating cash from the society is a long drawn process and btw, cash is not the only source of black money. Black money can be and is generated through banking channels by over invoicing of imports, commissions to contractors/consultants who give kick backs etc.

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    3. That fruitwala/chatwala/daily wagers won't use eWallet is smacks of the same elitism which said none of these people can have/afford cellphones. Most of these guys already have apps for songs, videos, chat, etc. Installing one more free app for eWallet won't be a challenge. Many of these people are doing that, and are quite happy with it. Not that they are all demonetisation enthusiasts, but managing Cash is difficult for them, you have to keep constantly tendering change, cash gets soaked, stolen, lost, is demanded in bribes by cops & local goons.

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  8. Thank you Anand. While this may improve to some extent usage of electronic cash, the vast majority do not have access to that. It has to be a steady progress to that objective and not cold turkey approach. Also the poor execution was exposed when the new currencies could not be accommodated in the ATMs. This should have been tested and some new notes should been let out in the system. As I have emphasised this shock and awe is an overplayed virtue.

    Here's some context in simple layman terms to demystify the extent of the current exercise:

    Imagine, if you earn Rs 100 per annum, how tickled would you be if I told you that you will get a one time bonus of Rs 2? Mighty thrilled?

    And for that I have to inconvenience 99% of people to secure that, and I am not even sure whether it will be Rs 2...

    That is the nature of the current abrupt demonetisation. This could have been orderly without having to cause chaos, panic and distress.

    And BTW, there is another Rs 50 that I know can be recovered without having to disturb the 99% of the people. Ah, but that will involve upsetting some of my close pals. We will leave that for another day...

    A surgical strike is a precision strike with precise intelligence. Not aimless shooting in the dark in the hope of hitting some targets!

    And creating an easy path for future creation of black money is not part of such an objective (re. Rs2,000 Note).

    #DeMonetistion #BlackMoney

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  9. The article takes into consideration too many assumption mainly it assumes that there is one trillion of black money hidden in India. Another is that any move & particularly this one will eradicate the problem of black money. Mr. Aingar any move is a step towards mitigating the problem but the final aim is of course to eradicate it. The logistic problem is real and Govt must have given a thought to it. As we are not privy to decision making so can not comment but only guess it. In my my view the circulation of new notes on social media might have triggered the decision due to apprehension of leakage. Any move of this scale is bound to create logistic challenges and we should not be bogged down by them.

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    1. Thank you for your views. The estimate of $1 trillion is well researched by GFI and there is a White Paper from the Ministry of Finance. When PM Modi said he will put Rs 15 lacs in each citizens account, that amount equates to $1.2trillion!

      Eradicating cash is not equal to eradicating black money as cash is less than 5% of the problem. Black money can be created even through banking channels through over invoicing, commission payments to shell companies etc...

      It's a good move but poorly executed. They didn't even have the Rs 500 printed and ready for despatch. The ATMs were not tested for new notes. Several missteps and also the cold turkey approach, in my view, is unwarranted as effective surveillance could have been used with a phased withdrawal. Thank you.

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  10. Can't agree more. Looks like the intention behind such a massive strike is not the obvious. Must me political for all the hardship faxed by people for a set of illusionary benefits.

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  11. Even 1% benefit 99% are ready to take stress.its huge country implementation will always be big task.Don't worry!

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  12. You do raise a few valid points, however, i do not agree with your assertion that all of black money is stored in the form of fixed assets or in currency overseas. That is because some of the assets when sold would have resulted in plenty of black money. Invalidating the bigger notes is undoubtedly a master stroke and is only the first step in rooting out black money and Modijis administration is completely aware of it. Let's all collectively give them their due credit instead of playing devil's advocate unnecessarily.

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    1. Thank you. I would recommend you to read the Ministry of Finance's White Paper on Black Money or Global Financial Institute's Research on Black money to get convinced of the proportion of black money that is held in other than cash. Thank you.

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  13. It's a small step in right direction. It was the only way of solving the menace of fake currency which was not only ruining our economy but was also financing terror. Ofcourse I agree that fake notes will come back but it will take some time and more efforts will be required because of heightened security features.
    If money supply is reduced on account of not all notes coming back to the system then it will be windfall for the Govt.
    Lending rates are bound to come down which will significantly reduce costs of production benefiting all of us. Govt will earn substantially on account of increased tax collections.
    I agree that it will have a limited impact on black money and unaccounted cash will be generated in future but it will take years to reach the current level.
    Govt is taking all possible steps to unearth money stashed abroad but its extremely difficult as it can be done through negotiations only which take years.
    It's true that most of the black money is currently invested in real estate but these evaders are hit hardest as these assets have depreciated significantly as no one is currently in a position to pay for the cash component.
    On the whole a good move by the Govt. At least a beginning has been made. But this should be followed by other measures as well.

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    1. Thank you. You are making a lot of qualitative comments like substantial increase and significant benefits. It would be useful if you can estimate the quantum of such benefits based on your assessment.

      On the whole, good idea but poorly implemented.

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  14. What is the likely adverse impact on GDP due to loss of productive manhours and reduced liquidity for a substantial period?

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    1. Well it depends on how quickly normalcy is restored and how much of cash comes back to the system and how much of it is permanently extinguished.

      Due to decline in liquidity in the system, it will result in a sharp decline in consumer spending. I don't have an econometric model to estimate but my high level estimate would be that GDP growth rate will decline by 0.3% to 0.5% over the next two quarters.

      And due to tight liquidity inflation will taper. But timing of a rate cut will be dependent on what happens to US $ interest rates in Dec / Jan 17.

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  15. In fact the important parameter is the underlying economic model, which determines the incentives for keeping money as taxed and as untaxed (so called, black). This remains unchanged. This defines the equilibrium - - black and white continually move from one block to another. We can think of these as two interconnected tanks. The equilibrium is determined by relative heights. Thus if some amount is taken away from one tank, the flow from the other tank to that happens. Until the equilibrium parameters are altered (that is incentives for keeping money taxed or untaxed, undergo fundamental changes) this flow would continue to restore the same equilibrium state. Therefore, without structural changes, demonetization only leads to erosion of value. (And, of course untold hardship for people who have their legit wealth in this form.)

    Hyperbole abound! Another unfortunate development is casting this entire issue in terms of morality. It's a common economic wisdom that taxation has nothing to do with morals, and everything with incentives and enforcement. Invoking morals in this manner makes rational analysis difficult, and bring about emotive stances which oversimplify and glide over nuances.

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    1. Thank you. You make some very good and important points. You are right in saying that the incentives to create black money needs to be addressed. There has to be a structural change as well as change in the approval Raj where there are 10s of approvals required for many things.

      Of course there needs to be a compliance culture which can only come about with an efficient and fair judiciary.

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  17. Half knowledged and illogical.. Your article is less than half correct.. And fully loaded with impractical hypothesis

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    1. Please be specific, otherwise I can only treat it as a comment from a kid!

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  18. Even With a sudden decison we are not able to control these jugaads and how can we control if its a slow withdrawl process. Just think practical..
    And what ever the jugaad may be finally it must land in the bank for exchange, where they can be caught. And its not so easy to create 100accounts just to deposit 1crore and what about 100s of crores..

    ReplyDelete
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    1. We will know in a couple of months time.

      Delete
  19. This comment has been removed by a blog administrator.

    ReplyDelete
  20. Good analysis.It may be rightly much hyped move but every effort to eradicate black money is to be welcomed. Yes, the execution of this step could have been better planned by pumping in more smaller currency notes in banking system well in advance while taking out bigger notes in a passed manner to avoid the chaos we are witnessing now.

    ReplyDelete
  21. Thanks Shridhar, black money in form of cash is <5%. 75% in property and 20% gold. So I agree we just scratching at the surface and overplaying.
    Will any Gujju/Baniya/businessman keep crore of cash at home with 0%interest knowing 6%inflation. Surely not. Unless its needed for business operation. Businessman will want to gain >15% interest even if its black money. Black money market work different than white money market. Real estate/Bigger business pick black money give 15-20%interest and again donot keep the money with them instead buy property from villagers. Villager will buy property/gold, so cash end up in gold/property at different stages. Note whereever money stays chain fails as interest of 15-20% cannot be recovered and someone pays for it.
    so how come black money is lying with every indian citizen. Are we not hunting treasure in poor man's or honest citizen's pocket? Property strike is straight forward. Ask people to update PAN details on each property and one which is not updated in 3 month could be govt property. Very soon all property could be tracked for black money. This though will be mass strike will impact in surgical form.

    ReplyDelete
    Replies
    1. Thank you. Good points.

      We also need to clean up the political funding process. The nexus between corporates and political parties have to be broken and all political contributions should be made transparent.

      Delete
  22. Sridharan what a superb bit of rationality. Sadly a lot of our so called intellectual citizens will look the other way. Does not effect them personally. Unfortunately one more step to takeing the Country backwards. Regards. Will try and send the blog around.

    ReplyDelete
  23. Well written article backed by sensible analysis

    ReplyDelete
  24. Nice and well written too, but the shock treatment of demonetization is still justified because modi is not trying to get back black money, he is trying to instill the fear of keeping cash in High Denomination notes , as done by most non-intellectual corrupt and thugs. The un-educated and financially illiterate people who form the core of transacting parties who actually pay the bribes and believe in keeping cash to do such activities will be troubled and the trouble will be fresh in their minds when MODI brings further legislations to make a move towards a cashless economy. If a majority of the poor and middle class start the move to a cashless form of transacting/earning their livelihoods. Then cash will die in the economy and the move to a cashless economy will be justified. Modi is likely to go to the people promising a cashless economy to the people to prevent such hardships at regular intervals. Because of the hardships faced in the next 50 days , people are l;ikely to be easily convinced about such legislation in the future. MODI is playing on psychology through shock treatment. So overall i see only positives for the future.

    ReplyDelete
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    1. Thank you.

      Many seem to assume that Cash is the source of all black money. Nothing can be farther from the truth. Bigger chunks of black money is created through banking channels with under and over invoicing of exports and imports, payment of commissions to shell companies etc.

      Moving people to electronic money is the right step but will take years to achieve it. Bulk of the payments are in cash as people like to avoid Sales tax or service tax. Unless this desire changes, cash is not going to go away.

      Thank you.

      Delete
  25. Hi,

    Your estimate of the bank holdings of cash seem to be off by a factor of 10. I see banks cash holdings to be 60,000 crores and not 600,000 crores.
    (https://m.rbi.org.in/scripts/WSSView.aspx?Id=20996)

    ReplyDelete
    Replies
    1. Thank you. You should also include the cash held by banks with RBI for CRR.

      Delete
  26. The assumption that bank holds around 6 lakh crores is not understood.
    CRR is 6 to 8 % then how do u arrive at this figure.

    ReplyDelete
    Replies
    1. CRR plus cash with bank branches and ATMs.

      Delete
    2. Rakesh
      Banks total demand and time liabs are about Rs 102lacs crores. CRR is currently 4.75%, so this is roughly Rs 5lacs crores. Plus cash with banks and other FIs another Rs 1 lacs crores.

      Delete
    3. This comment has been removed by the author.

      Delete
    4. Firstly well researched and written. The fallacy is around CRR. CRR has nothing to do with cash in circulation. The name cash reserve ratio is a misnomer. It is an electronic entry where banks need to hold a percentage of their deposits in RBI in zero interest earning electronic account for liquidity and solvency purposes. Hence deducting 5 trillion from the 14 trillion is not correct. This assumption changes all your calculations of unaccounted cash stock. Cash in branches and ATMs is a valid number to deduct from currency in circulation but not CRR

      You may want to relook at your calculations adjusting for this error.

      Delete
  27. Well written and informative. Sharing this.

    ReplyDelete
  28. It is a very good analysis and thought provoking.Thank you!

    ReplyDelete
  29. Very well articulated and good analysis

    ReplyDelete
  30. Dear Shridhar
    Your write-up makes the conclusions on the assumption that this step of the government is the final step.

    Brother, this is the beginning of it. Please you will have the opportunity to revise your conclusions after the property normalisation and the gold policy.
    You can hope for a better India after a few years.
    Regards
    Jitendra Singh

    ReplyDelete
    Replies
    1. Thank you. I sincerely hope so. I am supportive of the move but my point made is on the poor execution and the declaration that this is the end of black money.


      The Adani's and Ambani's of this world are no sweating with this move! That should tell you something!

      Delete
  31. Demonetization per-se does not bring in all black money and PM did not say that. His intention is to unearth whatever that is possible. It is no secret that people like Ambanis , Adanis and TAtas and other business men may not have cash hoarded in their homes. But they are not the only ones ... Let us take our society. We have Corrupt IAS/IFS/IPS and Incometax officials/ Customes officials/Real estate goons and Unscrupulous politicians and cine actors and actresses. In addition we assume that common man is not corrupt. In my opinion as a society , we need to ask fundamental questions. We seem to worship money power and eulogize people who are worthless. Do we really want to change? Do we promote honesty and transparency and do we like them? Why do we take money for votes? Why do we allow our politicians to go scottfree though we know they are guilty? We have not even left the judiciary from being corrupt. We have Chartered accountants who thrive on black money because the corrupt fellows want their help.
    So how do you change all these. I am not sure. De-Monetization is one of the ways and it is not the only way. So in my humble opinion instead of debating whether this is right or wrong, the best thing is to allow the govt to complete the process and then have a meaningful discussion. Because of the complex nature, we need to start somewhere and give support to the govt to help our cause.

    ReplyDelete
    Replies
    1. Thank you. I think you are missing the point. I am just questioning the implementation and not the action.

      Also, when the bigger fish seem to go scot free, how is it justified to inconvenience and cause distress to 99% of the rest?

      Delete
    2. Implementation to weed out of black money can never be fool proof because , we as a society always think in a devious manner. It is like saying i will root out theft.
      The measures like i said electoral reforms will bring in to some extent credibility. But these are debatable issues and we need a political system to support. We do not have one. Hence what can be done to start with we must move. It may or may not be effective. When we have tolerated 60 yrs of corruption , we can certainly afford to tolerate 60 days. This is greater than the struggle for our independence. Our problem today is that we are dealing with illiterate , corrupt scoundrels as well as white collared criminals in the name of businessmen.
      Hence i still feel that we need to support this movement. Any movement will face resistance but as educated people with conscience , we have to spread awareness amongst poor people about this and do our part.

      Delete
  32. In addition , we need to bring in electoral reforms which would be the game changer.

    ReplyDelete
    Replies
    1. Thank you. Absolutely on the dot.

      We have to clean up the political parties funding by making it mandatory to disclose all contributions and ban all cash contributions.

      Also eliminate all criminal elements from the political process.

      Delete
  33. Assuming for the sake of argument only 5% of black money is cash and rest is Real Estate, Gold etc. (Totally wrong, but let’s assume it to be true), every student of economics, including I presume the author knows that fungibility of commodity is what matters, be it cash, gold, real estate, equity, bonds whatever. I hold an asset dear only because it has some value in market and can be exchanged for something monetarily equivalent. The only reason why real estate, land and gold prices are sky rocketing beyond their reasonable economic utility is because so much cash is sloshing around, a %age of which undoubtedly is black money. Going back to the earlier (flawed) premise that 95% of assets are not in cash their value will fall drastically once there are no buyers for them. If you cannot transact them in cash they cannot be used for stashing your ill-gotten gains.

    ReplyDelete
    Replies
    1. The general assumption that black money is created because of cash is flawed. A bulk of the black money is also created through banking channels when under/over invoicing of exports and imports, payments to shell companies for fees and commission etc.

      Yes, there will some temporary fall in demand but things will flow back to normal in a matter of 6 to 12 months. Not all secondary market sale is cash as a good majority finance their purchase with mortgages and hence when more sellers will take all the value in white, demand from this sector will emerge. The market will find equilibrium. Agree, there may be short term hiccup, though.

      A lot of illgotten wealth is stashed in offshore centres, invested through a web of companies in real assets, participatory notes, commercial businesses conducted through tax havens etc.

      Delete
    2. The prices of real estate, land, essential commodities. Things which affect common man the most have everything to do with black money floating around in cash. The unsolicited payments to companies, over invoicing of exports can be checked by rigorous scrutiny of transactions, for which CBDT and Dept. of Revenue have built in the necessary checks and balances. Nothing is unsolvable. I don't agree that this move is frivolous or things will return to normal. There is paper published by Harvard's Kennedy School of Government on the role in which high denomination notes play in fuelling crime and corruption in society.

      https://www.hks.harvard.edu/centers/mrcbg/publications/awp/awp52

      Delete
    3. Thank you. You are arguing against yourself now. I am not questioning the concept but only the midnight strike. As you say, surveillance is good, so why not an orderly withdrawal?

      I am also questioning the rationale of introducing the Rs 2k note if the intent was to eliminate black money. Which is what the report you have enclosed also advocates. Why facilitate the process with a higher denom note?

      Delete
  34. Sir, nicely written article. Assuming, 5% is being targeted, we need to remember that various sources/avenues of black money will have various percentages making up the 100% .the govt needs to take steps in a progressive basis. Obviously getting black money abroad is a long drawn process. A beginning and the attempt needs appreciation. With expected heat on other forms and reduced tax rates compared to the times when the evil took birth, more people might actually become tax compliant in future for peace of mind

    ReplyDelete
    Replies
    1. I support the initiative as I have clearly said. The execution could have been a lot better.

      What you need to appreciate is the introduction of Rs2k note will simply make things go back to the same old state at a much faster pace.

      An important point to understand that cash is fungible. It has no permanent label as black or white.
      You withdraw cash from the bank and buy a durable without a bill to avoid GST or pay a bribe for any approval you need, it become black. The same recipient goes with that cash to a supermarket or a restaurant and spends it and gets a bill, it become white. So not all cash is black and not all cash is white!!!
      So the solution is not attacking cash because it will start the day the scheme ends as people as will about their old ways.
      What's required is the incentives that drive creation of black money need to be addressed. Attacking cash is like treating the symptom than the underlying problem!

      Delete
  35. If 99% population has to bear pain for 2-3 hrs to remove 1% black money holders, I am in favour of it. The first step is always painful. Don't you stand in queue for hours to see a movie on first day ? Also, this will create panic among terrorist groups and anti nationals ? Pity you are trying to find flaws to a good intent

    ReplyDelete
    Replies
    1. The day they go after the know black money Corporate honchos, I will laud them.

      The day they clean the political donation system and make it all transparent and stop accepting cash donations, I will laud them.

      The day they eliminate all criminals from the political process, I will laud them.

      Introduction of Rs 2k only serves their purpose as the common man has very little use for Rs 2k!

      Delete
    2. Perfect Mr. Sridhar Aiyangar !

      Delete
  36. Dear Sridhar,
    A dear friend of mine who is ideologically opposed to the BJP, viscerally hates the current government and is a strong supportor of Kejriwal forwarded your blog as he was thoroughly impressed by the "voluminous data" cited by you to prove your conclusion which understandably warmed the cockles of heart. I thought let me have a good read before I send him a reply.

    So this is with respect to the statistics cited by you to prove your argument.

    Please refer to RBI's website: 'Table 44- Components of Money Stock' that mentions that out of Rs 16634.63 billion (or Rs 16.63463 lakh crores) of currency in circulation; CASH WITH BANKS is ONLY Rs 653.68 billion (Rs 0.65368 lakh crores). The table gives financial year wise statistics from 1964-65 to 2015-16. I have refered to the latest figures (2015-16) mentioned by RBI.

    Further, the Rs 4 lakh figures assumed by you as cash balances with PSUs etc is flawed because it has been arrived at without any rationale or supporting statistics. These days even a smallish business uses Cash Management facilites offered by banks and hence your assumption pre-supposes that these entities are keeping Rs 4 lakh crores in their lockers! In this day and age of instant transfers all the cash lies with banks (current accounts, savings, time deposits etc) which banks deploy for lending & investments.

    Thus the jaw-dropping Rs 10 lakh figure arrived by you gets whittled down to Rs 0.65 lakh plus may be another few thousand crores kept by other entities on their premises.

    Hence only the first 2 rows of your table are factually correct. Thus out of Rs 14.2 lakh crores of high denomination currency under circulation, only Rs 0.65 lakh crores plus a few thousand crores more needs to be subtracted and NOT RS 10 LAKH CR.

    It reminds me of that unforgettable quote by the great Mark Twain "There are 3 kind of lies- Lies, Damned Lies and Statistics".

    Thank you

    ReplyDelete
    Replies
    1. Thank you. What you are seeing is just the cash with banks. There is also CRR of Rs 5 lac crores that banks have to hold in Cash against their Demand and Time Liabilities. Besides there are moneychangers and other non Bank FIs. Hence Rs 6 lacs crores is a fair estimate.

      As regards PSUs, hospitals, corporates etc. India is a cash society. You should read a report on cash velocity in India which is very low and hence the stock tends to be high. Agree it's an estimate but won't be far from reality and we will know in the next few months in terms of how much is unclaimed and how much comes under tax net and what portion is legit.

      In the final summary, I have also been extremely optimistic in assuming the entire balance of Rs 2.8 lacs crores would be available and even with this it is 2% of GDP! The ultimate take could be much lower than this.

      I can say the same about statistics for government's estimates!!!

      Delete
    2. Please also read this research report on cash usage...from which the urban and rural cash holding average has been picked up....

      http://www.ice360.in/uploads/files/ibgc-wp14-03-bijapurkar-et-al.pdf

      Delete
    3. Dear Mr. Aiyangar,
      This is with respect to your specious argument trying to counter my factual position when I pointed out how you are purposely exaggerating the CASH WITH BANKS from Rs 0.65 lakh crores to a fanciful and erroneous (for the right reasons as you have reached a conclusion beforehand and are desperately scrambling to conjure figures to justify those misleading claims).

      Your reply- " What you are seeing is just the cash with banks. There is also CRR of Rs 5 lac crores that banks have to hold in Cash against their Demand and Time Liabilities. Besides there are moneychangers and other non Bank FIs. Hence Rs 6 lacs crores is a fair estimate"

      REALITY- WHAT IS CRR?

      "Under CRR a certain percentage of the total bank deposits has to be kept in the current account with RBI which means banks do not have access to that much amount for any economic activity or commercial activity"

      Please note that the CRR money is lying with the RBI and NOT WITH BANKS. BANKS HAVE NO ACCESS TO THAT MONEY FOR ECONOMIC ACTIVITIES.

      Please stop fooling these gullible readers whose knowledge in finance is limited and hence are prone to be taken for a ride by people like you who clearly have an agenda.

      LIES, DAMNED LIES AND STATISTICS. Please have the decency to acknowledge the error and withdraw this misleading, misinformation.

      Delete
    4. A big chunk of CRR is held in Currency Chest on behalf of RBI. There are many money changers and other nbfi's who hold cash.

      May be you have agenda to push hiding under anonymity.

      I am not going to indulge you further as you seem to be having your own agenda.

      Anyway we will know in a couple of months on how much tax take is made by the Government and how much goes unclaimed.

      Let's wait for the outcome of this exercise. Until then we can simply agree to disagree.

      Delete
  37. Thank you. What you are seeing is just the cash with banks. There is also CRR of Rs 5 lac crores that banks have to hold in Cash against their Demand and Time Liabilities. Besides there are moneychangers and other non Bank FIs. Hence Rs 6 lacs crores is a fair estimate.

    As regards PSUs, hospitals, corporates etc. India is a cash society. You should read a report on cash velocity in India which is very low and hence the stock tends to be high. Agree it's an estimate but won't be far from reality and we will know in the next few months in terms of how much is unclaimed and how much comes under tax net and what portion is legit.

    In the final summary, I have also been extremely optimistic in assuming the entire balance of Rs 2.8 lacs crores would be available and even with this it is 2% of GDP! The ultimate take could be much lower than this.

    I can say the same about statistics for government's estimates!!!

    ReplyDelete
  38. Great Analysis of the existing situation. Hope people who matter are listening !!!!

    ReplyDelete
  39. Well thought out article dwelling on the various facets of the issue... Puts things in perspective. However, with the vast and incisive knowledge of cash economy, you have not illuminated us about how would you or someone should have gone about the whole issue of dealing with and stopping the juggernaut of fake and black/grey currency. What is the correct way to do it? As a master in such economics that you have so well articulated one was looking forward to suck solutions. Kindly enlighten us please. Thanks.

    ReplyDelete
    Replies
    1. Thank you Anupam. Sure, I can suggest ways in this could have been executed better.

      First and foremost, the government should have pushed a lot more of the Rs 100 into the system ahead of the move as banks and ATMs had no Rs 100 to vend.

      Secondly, the RBI should have ensured ATMs were tested and ready to accept the new currencies.

      Thirdly, the new Rs 500 notes could have been quietly introduced into the system at least to the extent of 20% a week ahead of the move. This is a normal activity for RBI.

      And finally, I still don't get the rationale for the Rs2k note as its the most useless note for the common man! It serves only corrupt politicians and businessmen to transport money with ease and perpetuate corruption.

      Delete
  40. Thank you for your write-up. Some more food for thought from me:

    (1) “This is just about 2% of our GDP! Now cutting all the noise, compare this to the total unaccounted money which was estimated to be ~$1 trillion and you can very easily see that it represents less than 5% of the black money problem!”

    Pakistan's ISI makes a profit of Rs 500 crores p.a. printing fake INR currency notes. This demonetisation hits the ISI on their knees. Think for a moment, just how much arms and ammunition can be bought by fake currency to be used against us on our soil? Would you say, so what, the terror attacks killed only a miniscule .001 % of our vast billion plus population?

    One of the primary objectives of this demonitisation was aimed at curbing terrorist financing. ANY small step (however insignificant it may seem to you) towards fighting terrorism sponsored and funded by our terrorist neighbours thus potentially thwarting terrorist attacks in India, in my opinion more than outweighs the massive inconvenience (ignoring the hysterical outbursts of affected political parties and rumours spread by our obviously anti Govt. news media)


    http://indianexpress.com/article/explained/on-paper-1-in-4000-are-fake-notes-on-indias-huge-currency-problem-2840193/

    http://www.forbes.com/sites/timworstall/2016/11/13/indias-great-bank-note-switch-appears-to-be-working-30-billion-in-rs-deposited-in-banks/#51d43a8878a5


    2) “The net estimated amount of unaccounted cash would be ~Rs 2.8 lacs crores or ~$ 43bn”.

    This is about 5 times what the Govt. collected under their tax amnesty scheme (circa $9.5bn).

    This is just ONE of the many steps the govt. is taking. Now that the law on benami transactions has been passed by this Govt. in 2015, they can now target benami properties and actually prosecute them under the law.

    This is just the beginning. At least we have a Govt. that is heading in the right direction.

    3) As for going after the big guns on the HSBC and Panama list - looks so very easy on paper. It is extremely tedious and needs a lot of co-operation, quid pro quo, treaties etc with tax havens like Switzerland, UAE...etc to obtain evidence and commence prosecution proceedings. You can't just arrest a person just and seize assets because his name features in some list (quite a few happen to be NRIs on that list). Get the names on the list and google them. I've found the Govt. has initiated investigation and filed cases in quite a few names on that list.


    PS: PM Modi never promised he would put Rs 15 lakhs in every citizen's account. He said that if all the black money could be brought back into the country then this would amount to Rs 15-20 lakhs in every poor person's account. However his statement was distorted and twisted by opposition parties. Spreading this deliberate and fallacious interpretation does no one any credit: https://www.youtube.com/watch?v=EbdFJ2vg3ic

    ReplyDelete
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    1. Thank Nita for your detailed comments. I think I have made it very clear at the outset I am support of this move but have questioned the hype and poor execution and in fact the overblown virtues of a midnight strike.

      Here are my responses to your points:
      1. The fake currencies would have become worthless anyway. The question is whether there was a need to do it cold turkey. We may differ on this but that's ok as its a matter of opinion.

      I have read the blog of Mr. Tim Wortstall and it spreads the impression that all cash collected is illegitimate and hence the move is worth it. He hasn't got the courage to allow my comment. While I allow everyone to comment freely and respond to their views, he hides under censorship and allows only favourable comments! Looks like he is pushing an agenda with some vested interest.

      2. Indeed many more steps are required but to make this out as the end of black money rather than the beginning of the end is the point I am making. Also, there are better places and initiative to start this campaign instead of throwing the whole nation out of gear.

      For starters, they could have conducted IT raids on all the known hoarders and the big corporates who fund the political machinery.

      They could reform the political funding though banning cash donations into political parties and also making all donations transparent.

      Thirdly, if the government thinks higher denoms are the cause for corruption, they should not be introducing Rs 2k note. That only fans the flames of corruption.

      3. The government has been dithering right from the start by not providing the list and then moving extremely slowly with selective leaks. All I can say is they could have learnt from US on how to draw the information as they went about and collected the tax dues and fined their banks for encouraging tax evasion!

      Thanks for the youtube clip which I have seen many times and it's open to interpretation on what he implied.

      Regards

      Delete
    2. Your comment has been published...on page 8.

      Delete
  41. Reference: My query on 14.11.16 posted at 9.57 pm and your misleading reply (posted by you on 14.11.16 at 11.48 pm)

    Dear Mr. Aiyangar,

    This is with respect to your specious argument trying to counter my factual position when I pointed out how you are purposely exaggerating the CASH WITH BANKS from Rs 0.65 lakh crores to a fanciful and erroneous Rs 6 lakh crores (for the right reasons as you have reached a conclusion beforehand and are desperately scrambling to conjure figures to justify those misleading claims).

    Your reply- " What you are seeing is just the cash with banks. There is also CRR of Rs 5 lac crores that banks have to hold in Cash against their Demand and Time Liabilities. Besides there are moneychangers and other non Bank FIs. Hence Rs 6 lacs crores is a fair estimate"

    REALITY- WHAT IS CRR?

    "Under CRR a certain percentage of the total bank deposits has to be kept in the current account with RBI which means banks do not have access to that much amount for any economic activity or commercial activity"

    Please note that the CRR money is lying with the RBI and NOT WITH BANKS. BANKS HAVE NO ACCESS TO THAT MONEY FOR ECONOMIC ACTIVITIES.

    Please stop fooling these gullible readers whose knowledge in finance is limited and hence are prone to be taken for a ride by people like you who clearly have an agenda.

    LIES, DAMNED LIES AND STATISTICS. Please have the decency to acknowledge the error and withdraw this misleading misinformation. Thanks

    ReplyDelete
    Replies
    1. A big chunk of CRR is held in Currency Chest on behalf of RBI.

      May be you have agenda to push hiding under anonymity.

      I am not going to indulge you further as you seem to be having your own agenda.

      Anyway we will know in a couple of months on how much tax take is made by the Government and how much goes unclaimed.

      Let's wait for the outcome of this exercise. Until then we can simply agree to disagree.

      Delete
  42. Hi. It's very well explained. But as you say all the money held is not black all that is not white too.but you straight away eliminate money in all systems to get to a number from which you derive black money component. So what is held in banks also belongs to some people and that money may be a port in of black money from someone else. May be i am wrong. But i have doubt in your explanation. The next thing is the slow withdrawal. Even with such emergency decision people are doing deals with lower income group for conversion of cash. So what guarantee that you say that such old currency is not diluted in system by well planned mafias as they will have enough time and more unsuspecting people who don't take such things seriously.? I don't get that logic either.and unlike now I didn't see rich people worried about their money at that time.things seemed to move smooth for them too. I feel you should also take into account the funding mostly done in cash components to terrors and other criminals more seriously than just brushing it aside. Also I don't understand why you consider previous failures to reoccur time and again just because someone didn't manage it well. The end result is yet to be out. I too know that larger component of it is in land and gold . But I feel there are ways to tackle these things too after this move and I hope you may anticipate it too. Pls tell something about transition to digital economy too and its benefit.A tree should always grow from a seed.
    And as you declare to be said by govt, I didn't see anyone telling this as end to black money and if someone believed it so, they should be fools. And problem like black money should be addressed only systematically but with strong steps which does not mean slow withdrawal which was a total failure as far as I know it. Now imagine as your own figure says if just 4-5% component can create such havoc in nation, what will a component as big as 50-60% or even more can create(land and gold) when those components are largest drivers of economy. Any rule that tries to eliminate will have to be such that it applies to all in same way and cleanses honest people. Just like if few sugar crystals have dust in it you have to pour water to entire batch and retain sweet even after. If you know a proper way why don't you suggest it to govt when there is a platform mygov that is ready to take suggestion anytime and that is in a case when you are not able to write directly to govt.?
    May be I need to improve on my logic further but I surely don't thing this as failure and will be failure as you presumably anticipate it to be.

    ReplyDelete
    Replies
    1. Thank you Shridhar. Everyone keeps some cash in hand for regular needs. Since I have taken Rs2,500 for urban and Rs 500 for rural for this, these can be the amounts that any one even below taxable threshold can be holding. So, to this extent you can construe that this is legit. Higher than this level of cash has been taken as unaccounted and illegit.

      Notice or no notice, those with big chunks of black money will find ways. That is where surveillance comes into play. The government could have simply asked all gold dealers to produce record of purchases and asked for ID proofs for purchases during the period of announcement and withdrawal.

      Even assuming that the sudden move was necessary, they could have executed this a lot better without throwing the country and the economy out of gear.

      I acknowledge that this will help reduce funds with criminals but that will be short lived. As the new Rs2k note is introduced it will multiply at a faster clip. The issue of Rs 2k note and attack on black money don't quite go together.

      Since this has already unravelled, there is very little other than ask the government to send the new notes to the banks ASAP. And not the Rs 2k notes as no one has change and it's worthless for the common mon who spends in 100s and 200s.

      Thank you.

      Delete
  43. Insightful article Sridhar, good logical article and sound reasoning in your answers above.

    ReplyDelete
    Replies
    1. Hi, there is one error in your calculation. Cash in hand by banks includes balances with RBI. https://m.rbi.org.in/scripts/PublicationsView.aspx?id=15762.

      If you exclude the balance with RBI the real cash in hand is only 10% of the amount quoted. Assuming similar ration for petrol pumps the numbers would be completely different.

      Delete
    2. Thank you for your observation. I have already explained this point. A lot of cash is held by banks in currency chests of RBI. Hence, it's much more than the cash the bank holds in branches and ATMs.

      The country needs to improve it data collection and make it available in much more granular form. Until that happens, we make reasonable estimates based on other secondary sources of information.

      Regards

      Delete
    3. that is An Incorrect Observation. If YOu Look At The Link you Can Clearly See The Cash And Despoits Separately. The 15 Lakh Crore In Circulattion Does Not Include BaLance With RBI.

      Delete
  44. A very well written and balanced article Sir. The numbers, and the assumptions which are legitimate, are quite revealing. More than anything else, I appreciate your effort to respond to each and every one who has commented irrespective of their sarcasm or downright offensive remarks. While the intention may have been good, I agree that the execution leaves much to be desired. Your style of writing is also very good in that it will reach those with rudimentary English and not like some of those articles where you need to have a dictionary to read and in the process lose the train of thought. Keep doing what you do best. All the best.

    ReplyDelete
  45. Excellent data driven Article. The execution is an absolute mess. Another point to mention is that the new 2000 notes are as good as waste at this point of time because they cannot be exchanged easily. Ideally, they should have pumped in the new 500 notes or atleast made it available in large numbers with the banks before the demonetization

    ReplyDelete
    Replies
    1. Thank you. Indeed, it could have been managed a lot better. Even the new Rs 500 notes were not ready for distribution. Not testing the new notes in ATMs is downright negligence.

      And they could have pumped a lot more Rs100/50 notes because those are the most used notes by the majority of people. Rs 2k note if of no use if you can't get change back!

      Delete
  46. Hi Shridhar,

    Very nice article, but you have missed a important point, the cold turkey approach has been taken to prevent terror funding and to disorient hoarders, I think it's the right step taken by the government

    If government had announced earlier and provided time, then people having black money would have had time to dispose ill gotten wealth,defeating the main purpose of this humungous exercise, which has been taken up earnestly by the government

    I feel most people are in ATM queues due to panic created by alarmists and not due to necessity, also you should appreciate the fact that bank officials are working overtime to bring back this crisis situation to normalcy,things will get settled very soon, government will not achieve utopia from the word go, but it definitely is a good start indeed

    Regards,
    Sunand Chand

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    Replies
    1. Thank you Sunand. The government narrative is changing based on public opinion. Initially it was touted as an attack on Kaala Dhan. Now as public anger is simmering,the narrative is changing to we are doing it for our jawans. Very pathetic execution, all said and done!

      Delete
  47. My reading is that this is not the final step in this drive against black money and parallel economy. Next target will be the benaami properties and gold/jewellery hoarded by people (hint - the govt had come out with a gold monetisation scheme and paper gold scheme)... And for all the people crying about 'cash being only 5% of the problem'... please remember the psychological blow this delivers to all the channels of generation of black money. All these activities will come down with a push towards electronic money (NPCI, paytm, freecharge, etc...)... And who says that the replacement of 1000 rs and 500 rs note with 2000 rs will not bring down a reduction in the problem.... Let the black money hoarders collect 2000 rs notes to their heart's content.. then again the govt can demonetise the 2000 rs notes 2/3 years down the line... I hope you get my point... now no one will want to hold on to a 2000 rs note.. Either spend it quickly or put it in the bank.... This is how the problem of too much cash in the economy is tackled (by making it risky to hold on to high denomination notes).... Please do not get taken in by such articles (oh I support the drive... but .... blah blah blah...) which are trying to focus your attention on only the inconvenience caused by this demonetisation drive and trying desperately to show that it will all come to a nought... There seem to be some extremely bright minds who have thought this through.

    ReplyDelete
    Replies
    1. Indeed we are witnessing the results of "these bright minds" manifesting in the form of very poor planning and execution.

      Delete
  48. This comment has been removed by the author.

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  49. Erroneous computation. 250bn does not include any time or demand deposits with any FI, or CRR. Hence the 64bn number arrived at is wrong; its much larger.

    Secondly, the 1 trillion number is not recoverable. a large part of the black money economy is valuations (like higher RE prices). What's recoverable is the black money in high currencies (as is being done) and money sitting on foreign shores. So putting 1 trillion in the denominator is misleading.

    ReplyDelete
    Replies
    1. I think you need to start with first principles. Deposits with banks are banks liabilities and not assets!

      Delete
  50. Very well put-together. I would like to add a couple of points to your excellent analysis:

    1: The currency of the country is a CR balance on the Liability side of the RBI's Balance Sheet. To reduce liabilities i.e. DR the Liability account there has to be a corresponding CR on the Asset side i.e. reduction in Assets. Since the RBI's assets are primarily Govt. Bonds in order to generate income from which the RBI may pay an extra-ordinary dividend, some Assets will have to be sold, which will in return reduce the money supply in the economy thus increasing the liquidity crisis. And as for passing a law to extinguish the liability - not only would that be against basic accounting principles but also will invite legal challenge, given that the currency is a promissory note issued by the RBI.

    2: One impact of the ensuing liquidity crisis in the economy is that marginal firms/businesses who depend on the cash market for working capital and who operate in the cash economy will go out of business. This number will increase as the length of the liquidity crisis increases.

    3: There is a definite benefit in terms of behavioral economics in that 1) The push towards cash-less transactions and increasing acceptance of plastic and digital money 2) Buyers and Sellers will now have reason to be wary of the govt. cracking down on non-invoicing/tax avoidance etc.

    4: The political benefit - the govt is "seen" to be anti-corrupt and dynamic.

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    Replies
    1. Thank you. Good points. Agree with all except 1 and let me explain why.

      1. When a liability is extinguished, it can be replaced by reserves. As regards creating money to pay dividend, it's a simple electronic credit. Agree, it will expand liquidity in the economy but that will offset the shrinkage arising for unclaimed currencies.

      On your point 3, it's behavioural issue. When Sales tax and Service tax are so high, there is a natural incentive for people to seek cash bill to avoid the extra cost. Whether this will change remains to be seen. Also a large section of the traders and businesses operate on cash. Will they change is something we will know in the few months.

      Making a cashless society takes a lot of time and cannot be achieved through shock therapy. This may be a catalyst, hopefully, but cash is still the preferred option for a large section of the society.

      Also imagine the risk of cyber attacks pose increasing threats. We saw a large number of debit cards were compromised and had to reissued.

      As I said it's a good idea but bad execution.

      Delete
  51. Can you please clarify how the CRR is Rs 5 lakh crores? It is supposed to be only 4% of deposit isnt it? If the figure of bank holding is not Rs 6 lakh crore as mentioned by you ,the balance with individuals is significantly higher than Rs 4.2 lakh crores. Can you clarify????

    ReplyDelete
    Replies
    1. Thank you. Total demand and time liabilities are about Rs 102lacs crores. So you can do the math. Regards

      Delete
  52. There are still 40 days more. Let's talk about how much money came in by then to figure. Most people standing in line are appointed by hoarders. people hoarding black money are not going to walk in the bank to deposit. They are using common man to deposit money in jan dhan accounts. People are getting paid upto 30%. So here there is a massive redistribution of wealth. You could calculate it since you're so good at numbers.Lines for converting 4000 has significantly gone down. My driver got his money in 5 min today. If the article agrees that the move is fine. The article ends there itself. Lot of people talk about how and when but nobody has the balls to execute. Other than using terms like ".. There are better ways the problems can be addressed." "Unless backed with several other ways iof surveillance".. Unless further measures to curb cash transactions are introduced" and the finale ".. What's required is the incentives that drive creation of black money need to be addressed" There is not one concrete suggestion of how what he says should be done should be done.I found it here. With the number of hoarders placing their currency mules in the line, even your 3 suggestions wouldn't ease the discomfort. Modi is way smarter than the million economists like you spewing retrospective analyses who have emerged since nov 8. The only thing is agree with you in your article is that the judiciary is sleeping at the wheel

    ReplyDelete
    Replies
    1. Agree, time will tell the results. Best to wait now and examine the results after Dec 31st and Mar 31st.

      There are many anecdotes of people getting their cash in a jiffy and also a lot more who had to wait for hours. All I can see that the rural folks and poor daily wage earners have been hit hard through this process and that is undeniable.

      Delete
  53. No steps can eradicate corruption and black money but other than developing a gracious society. The steps taken by government have benefits as stated by Sridhar over rides what it can't do.

    When you clean your house, it is not a one time or spring cleaning, you need to clean your house periodically. This is applied here as well.

    ReplyDelete
    Replies
    1. Thank you. Agree but you don't have to bring down the house to clean it.

      Delete
    2. Nothing is down here, only moving in a slow pace. Even true citizens who make their living honestly as well are suffering. It is just like in airport. We(99.9% of world passengers) are not carrying any harmful substances along / hijackers but we get screened to make sure that we are not in that 0.1%.

      Current procedures will filter out fake rupees circulating. A real dialysis of currency that runs until 30 Dec 2016. We have time to purify our wealth until Dec 30. There will be still ways to turn the black to white that we heard, there are agents now for such magic. But government has taken a reasonably good steps to eradicate the black / fake money inside the country (in the form of currency.)

      Now it is our duty to maintain. Every citizen has the duty to SAY NO TO CORRUPTION. Don't try to evade tax. Don't support "dual value" for your property. One evaluated value while registering and other money over evaluation which doesn't come under taxation.

      We are the reason for current. A nation's greatness depends on its people. Let us be the change. If we have a problem at home, let us make our contribution to solve it. If none of us are corrupted then our country is best.

      Now you have educated your readers very much. We may have differences in opinion, but we appreciate your research and kindness to share your conclusion. Perhaps before being late, it will be great if you could bring your points, how to get the black money accountable which is in other forms other than currency. Please don't be late.

      Delete
  54. And to continue, talk about 99% people inconvenienced is BS.

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  55. The system in fact needed as shock and awe approach. Even with this approach the political is already accusing the government of advanced notice to select few. I go one step further and say the government should do this as a random every few years..that would be radical to hurt the black money hoarders. FINALLY, I would love to see every so expert to come up with anew idea/plan to catch all the black money without any inconvenience to public. May be the got should consult Karthi Chidambaram, Mamata, Kejri. Mallaya.LMAO...

    ReplyDelete
    Replies
    1. This will slow growth as the SME segment struggles without cash over the next 3 to 4 months and it will take another 6 months for them to stabilise. Several rural folks are already suffering when its their crop season.

      Also the introduction of the Rs 2k note runs counter to any Demonetisation exercise undertaken anywhere in the world. Also the currency is seldom reintroduced. This is a good idea but the execution has been botched big time!

      Delete
  56. I agree with the author in principle but we've got reports of 6,00,000 Crores already deposited in banks till date, and an estimate of 9,00,000 Crores to be deposited by Dec 31st. That's a significant % of the cash estimated to be in circulation. Comparing against GDP isn't fair one should compare against cash in circulation.

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  57. Well reasoned!! One of the best article I've across in the past 2 weeks post Nov 8 announcement. With so many articles floating around (with some obvious leanings based on political affiliation), this is like a breath of fresh air.. Great work!!!

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  58. Hi nice blog. Agree, to you views. As I see it there are more to come and this shows the resolve of the political class of the current dispensation. second - there has to be a beginning and this is the beginning. Third - terror financing module is completely off by this and this has hit kashmiri separatists, naxalites and kolkata syndicates very harshly (why Mamata didi is ready to join hands with left). Fourthly - the cartwheel has just started wait for more measures. fifthly - do visit my blog - http://rashtravrat.blogspot.in/2016/11/demonetization.html

    ReplyDelete
  59. Thank you. We will know the impact of this in the next 6 to 12 months. Key focus should be restore order by introducing new notes as quickly as possible to the rural base where the cash is essential for daily living.

    ReplyDelete
  60. Interesting compilation, this is a new perspective to look at things. Finance newbie so have a doubt :
    The PSUs show a cash component as part of their annual report, does that need to tally within the same 1,640,000 crores of money ? What about the cash holdings as shown by banks and other listed BSE companies ?
    Current reports for cash deposits till date is 5,74,000 as per RBI . Don't know if it fair assumption to say all of it is by individuals. In which case your assumption of 4,20,000 may have been conservative. I understand the point you are making though that the scale of this may not be as large as originally communicated.
    Good to see some numbers based analysis, rather than qualitative comments !

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  61. Analyzed in depth the pros and cons which is very much relevant. You said
    "First and foremost, the government should have pushed a lot more of the Rs 100 into the system ahead of the move as banks and ATMs had no Rs 100 to vend.

    Secondly, the RBI should have ensured ATMs were tested and ready to accept the new currencies.

    Thirdly, the new Rs 500 notes could have been quietly introduced into the system at least to the extent of 20% a week ahead of the move. This is a normal activity for RBI."


    Anything like this will trigger the process of converting black money into white by whatever means, won't it?

    I believe there is a valid point in keep this whole thing a top secret till late night.

    What do you think?
    I believe

    ReplyDelete
  62. Also, the above statics you mentioned should be available to the Government, with more accurate facts and figures.

    So I think, the decision makers should have gone thru the thought process what do you described.

    I agree we have to wait and watch for 3 months at least the results of demonetization.

    ReplyDelete
  63. It is well written but u have also done few important assumptions which may not be true
    Frankly this kind of decision needs hindsight which a strong leader only has
    I am happy because many of the evils u mentioned will not be there for at least few years
    In reality the growth of country has only made rich the richer and poor the poorer
    This can be seen by min wages in our factories paid to workers is still 250 per day
    While MD salary is in multi crores
    The Gini coefficient is very high
    To get bad money from abroad Thro agreements will take time
    Let us face the reality that today to bring the economy to work for the benefit of all and to secure ourself against enemies actions like pumping in fake money this decision was imperative

    ReplyDelete
  64. Nice analysis. Am curious what journal entry the RBI makes when banks increase their currency holdings under CRR. It appears that RBI credits a liability account called Deposits of Scheduled Commercial Banks. What account would RBI debit? I ask because am curious if what RBI shows as notes in circulation (an RBI liability) excludes the notes banks hold as CRR or not.

    ReplyDelete
  65. http://economictimes.indiatimes.com/industry/banking/finance/rs-2-5-lakh-crore-wont-come-back-into-banking-system-sbi/articleshow/55756927.cms

    The press report in link above refers to an SBI report. It appears that per the SBI report notes in circulation do not include notes banks hold as CRR.

    Would love to hear your perspective.

    ReplyDelete
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