India’s Demonetization: Pros and Cons

Abstract

November 8, 2016 declaration by Indian Prime Minister, Narendra Modi that all 500- and 1000-rupee banknotes notes of the Mahatma Gandhi Series would cease being legal tender from midnight 9th November 2016 was greeted with shock and dismay. The pronouncement demonetized the two banknotes. However, India is not the first country to demonetize its currency. Several countries have used the practice due to various reasons. The U.S., Ghana, Nigeria, European Union, Soviet Union, North Korea, and Zimbabwe are some of the countries that have demonetized their currencies. These countries demonetized their currencies due to various reasons. These reasons are almost similar to the reasons as to why India demonetized its currencies. The Indian government claimed that the aims of demonetization were to remove fake currency from circulation, tackle terrorism funding and left-wing extremism, remove black money, create a cashless economy, and to convert the non-formal economy into a formal economy, which would help in expanding the tax base and employment. However, demonetization had several disadvantages. It reduced the level of cash in circulation. The cash crunch was caused by the introduction of the Rs. 2,000 into circulation. This high value of the banknote made it difficult to carry out financial transactions as the transactions became difficult due to unavailability of equivalent change. As such, people could not use it to make small purchases. Demonetization also inconvenienced members of the public as the government only removed certain banknotes from circulation and kept others. It necessitated people to spend a long-time queuing outside banks and cash machines to get new currency. People lost valuable time that they could have spent undertaking other economically productive activities. Demonetization also led to the slowdown of the economic growth of India. It also created an opportunity for people to engage in fraud and corruption. For instance, it provided money changers with an opportunity to change black money into clean money at a fee. Demonetization affected a very small proportion of the assets accumulated through illegal activities. Another disadvantage of demonetization is that it does not control the source of the illegal funds. This paper will provide a background of demonetization and detail its pros and cons.

Keywords: Demonetization, India, Note Ban, Modi