The extraordinary move by the Indian government to withdraw 500 and 1,000 rupee notes has been handled with some brilliance. This attack on “black money” appears to have been kept an absolute secret until it was sprung on an unsuspecting public by Prime Minister Narendra Modi on Tuesday evening. Printing replacements for notes that represent some 84 percent of the currency circulating in this predominantly cash economy was a massive undertaking. To have achieved it without word leaking out of what was going on was a remarkable example of discipline and organization.
Then there were the banks which had to be readied to carry out the mammoth task of exchanging the old notes for new over the next 50 days. Even though branches may have been kept in the dark, there can be no doubt that senior managers had to be kept in the picture to some extent. Yet when Modi gave his TV broadcast, his announcement came as a bombshell.
Modi explained that the demonetizing and replacement of these most commonly-used notes was an attempt to crack down on corruption. He accepted the move would cause some hardship and asked people to ignore the problems and instead regard it as a celebration of honesty. And by and large, that is what has happened. Though it is causing major economic disruption, there is widespread approval of the change. There have certainly been no angry riots.
The plan is that as people swap their old notes for new at the banks, the suspected large amounts of black money will become visible to the tax authorities. Those changing many hundreds of thousands of rupees will be asked how they came by them. Given the likely limits on the number of notes that can be exchanged at any one time, this may mean that people who previously had no bank accounts will be forced to open them rather than try and swap their hoard of old notes in tranches within the 50-day window that closes on December 30.
There are many positives to what so far appears to have been a flawlessly-executed operation. It has been criticized for coming just before the start of the wedding season and in the short-term, it has clearly hit small traders and the poor. But there are two concerns that should not be ignored. The first is the capacity of the Indian tax authorities to cope with the immense task of trawling through the bank records of exchanges and deposits on the demonetized notes. It is not simply the identification of suspect money but the need of those who deposited it to prove that it is legitimate, for instance their life savings. This is a process that is sure to face many challenges, anomalies and, inevitably, some unfairness.
And then there is the wider concern. Indian governments have long been cheated out of tax revenue by citizens, whether rich and poor. But the mercantile genius of this vibrant economy has underpinned spectacular growth. Black markets are not necessarily caused simply by shortages. They are also evidence of economic health and vigor and reflect the real level of market activity, including the real price of the local currency against foreign exchange. While no government can approve of the unregulated black economy, India’s Modi ought to be quietly proud of India’s unofficial economic achievements.
