Money for nothing?

Demonetisation is not a tool for curbing inflation because India did not have an inflation that high

Demonetisation Decoded

A critique of India’s currency experiment

Jayati Ghosh, C P Chandrasekhar and Prabhat Patnaik

Routledge

104 pages; Rs 350

 

Prime Minister Narendra Modi’s November 8 decision to demonetise 86 per cent of India’s currency — extinguishing legal tenders of Rs 500 and Rs 1,000 — was akin to that moment in cricket when a player, possibly a less-fancied one (Dougie Marillier of Zimbabwe comes to mind), does something so stunning that the rest of observers, including other players and former players, are stunned into asking, “Can he do that?”

 

Most of the published analysis of the move by economists, across varying beliefs, suggests one simple fact: There was nothing that India gained that it could not have gained without demonetisation. Which is another way of saying the whole exercise was pointless. This nifty little book is no exception, although it takes a stab at answering the question: “What was the point of it all?”

 

The authors have tried to find answers in seven chapters. What results is largely predictable: The authors go from characterising the move as “one of the most extreme monetary experiments in recent history” to “the disastrous demonetisation drive” in just 100-odd pages. They have all the relevant arguments to back their claim that demonetisation did not curb black money because neither is black money stored in cash nor does demonetisation stop the flow of new black money. Moreover, counterfeit currency by all accounts was too small a problem and did not really require such a sudden pullback of high-value denomination notes. Terror funding is far too complex to be held back by curbing black money stored in cash — at best, 5 per cent of the overall unaccounted wealth.

 

Demonetisation also is not the tool for curbing inflation because India did not have an inflation that high — it was well within the central bank’s comfort zone. It did not lead to a massive surge in credit — in fact, credit growth is languishing at a 60-year low — because what was holding back credit expansion were far more structural problems related to over-leveraged companies and banks saddled with non-performing assets.

 

Lastly, demonetisation was not required for making India digital. Moreover, going digital does not resolve the myriad problems the prime minister wants to solve by just an e-transaction. In fact, most evidence would suggest cash is back and digital transactions are back to following their usual trend after a sudden artificial bump due to demonetisation. The authors are scathing in their criticism of the government in having erroneously equated an informal, cash-based economy with an illegal one.

 

In the end, it was ironic that the poor and the tax-paying middle class bore the real brunt of this move. The corrupt rich simply got away using the very same corrupt practices that demonetisation was supposed to be curbing. The other beneficiary were the “new intermediaries trading in money” who received “windfall gains”. So demonetisation was neither the right tool nor was it implemented properly. In the process though there was massive disruption to the informal economy, where both consumers and producers were punished for dealing in cash. But the truth is that their division of labour and production process does not allow them to make enough margins that can bear the additional transaction costs entailed in by digital payments. So the cash shortage led to reduced output from the informal sector which, in turn, dialled down their demand for the output of the formal sector and all this leading to a downturn in the economy.

 

So why did Mr Modi do it? The question throws up some very unsavoury options: Mr Modi was trying to undermine the financial strength of his political opponents just before crucial Assembly elections; Mr Modi was using this as a diversion tactic from his government’s inability to take action against corruption; or, what the authors call “more substantial” explanation that this was the “tendency under neoliberalism of corporate capital… to encroach upon [the] petty production sector” and grow at its expense. Eventually, though, they settle for the following, which is akin to going for the jugular: “Its aim was precisely to project the leader as an extraordinary person who can take such bold and unimaginable decisions.”

 

Except, there is no downturn — at least not according to the official data. Moreover, for all the stress on people that media reports suggested, Mr Modi has swept almost all elections of any worth. So the question no longer is “Why did he do it?”. The question is: “Why did people, who apparently suffered the most, support him?” And that, sadly, remains unanswered.