Demonetization to curb black money

In the recent blockbuster Bichagadu, a beggar tells in a particular scene that the black money in India will come down drastically if the Rs. 1,000 and 500 currency notes are abolished. Even though this wasn't a new theory and it has been in discussion since several years, the think-tank at the Centre seems not bothered with the suggestion.

Recently, the Andhra Pradesh Chief Minister Nara Chandrababu Naidu said that black money and corruption in India can be curbed only when the Rs. 1,000 and 500 denominations are abolished permanently. In fact, he has written to Prime Minister Narendra Modi urging him to withdraw Rs.1,000 and Rs.500 notes to curtail black money in the country. He also wanted the Prime Minister to mount pressure on Swiss banks to disclose the names of people who stashed their black money.

But scrapping of Rs.500 and Rs.1000 notes is a costly idea, because it costs RBI to print a new, high-value currency note, and impact on the exchequer, if pulled out of circulation. According to RBI data, the share of Rs.1,000 notes in the stock of currency in circulation at the end of financial year 2014-15 was a whopping 39%, with Rs.500 notes accounting for a further 45% of currency stock.

The RBI data reveals that the share of large value notes has only been increasing over the years. In the year 2000, for instance, before the Rs.1000 note was reintroduced (it was demonetized in 1978), Rs.500 currency accounted for only about 30% of the total currency in circulation. By 2015, large value notes accounted for more than 84% of the money in circulation.

Each year RBI issues new notes of different denominations, while retiring old notes that are soiled or torn, then the share of incremental currency added by denomination of the larger value notes is more stark- net addition of Rs.500 and Rs.1000 notes in 2014-15 accounted for over 86% of all notes added.

According to the Reserve Bank of India (RBI), Rs.14.265 trillion in currency notes was in circulation on March 20, accounting for 12.3% of India’s gross domestic product (GDP). This is up from Rs.12.835 trillion a year ago. However, some denominations are more popular and are used much more often than others. RBI issued the most Rs.10 notes in 2013-14, a trend since 2009, followed by Rs.100, Rs.500 and Rs.5 notes. The rate at which the RBI issues notes of different denominations is a rough indication of the demand for those denominations in the market.

As per data, in 2014-15, the cost of printing the incremental notes of Rs.500 and Rs.1,000 denomination was Rs.2,770 crore. However, that year, the total stock of Rs.500 notes in circulation increased by Rs.3.59 trillion, while that of Rs.1,000 notes increased by Rs.3.076 trillion. If all this additional money (estimated Rs.6.666 trillion) had to be printed using Rs.100 notes, it would cost RBI about Rs.11,900 crore, which is more than a four-fold increase. This is without taking into consideration the increased costs of operating ATMs and of handling money in general.

In other words, there is a significant cost to stopping issuance of Rs.1,000 andRs.500 notes, and these costs should be weighed against what misuse of high-value notes costs the economy, before Government make a decision The bankers warned that any withdrawal would have to be slow: central banks worry that putting an expiry date on cash could undermine the value of the currency. This will disappoint those who hope that eliminating high-value notes would prompt awkward conversations between criminals and the authorities.

There is political resistance too; some worry that abolishing high-value notes is a step on the road to abolishing paper money altogether. And, without coordinated withdrawal of all high-value notes, the move would be much less effective. Given the current demand for high-denomination notes, it will be expensive to get rid of them. Therefore, the effort should thus be to first curb the demand for these notes, and there is no better way than to encourage electronic payments and move towards a cashless economy.

IMPS (Immediate Payment Service) have already seen significant traction in peer-to-peer transfers. With the proposed Universal Payments Interface (UPI) coming into force later this year, there will be further incentive to avoid the use of cash. However, the widespread use of cash comes at a significant cost to the economy. It not only encourage greater use of unaccounted fund, there is also significant cost borne by the RBI for printing, authenticating, maintaining and distributing currency. Therefore, the government provides people monetary incentives in order to encourage the adoption of electronic payments to curb the black money and ease inflation.

By Gudipati Rajendera Kumar