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A woman and a bank in Kolkata
A woman and a bank in Kolkata
T.K. Jayaraman and Bhanu Prakash

-Analysis-

BENGALURU — The patient was the Indian economy.

Among the 176 countries that have been ranked by Transparency International on a scale from 100 (very clean) to zero (highly corrupt), India ranks in the second half of the list at 79, with illegal money of sizeable proportions.

The central government, which was elected on the promise of a cleaner government, is worried about coming to power again. With the impending election two years away, it had to do something drastic: a much-dreaded surgery with uncertain consequences.

That was the November 2016 decision of removing Rs 500 and Rs 1000 currency notes from circulation, known as "demonetization", in order to curb black money.

No doubt, the demonetization exercise had to be kept a secret for its full effect to be realized, ruling out any possibility of wide discussions and weighing of pros and cons. It is reported that even India's chief economic adviser was caught unaware, though the top management at India's central bank, the Reserve Bank of India, was prepared for it.

Unrealized windfall

Demonetization was clearly aimed at eliminating black money. It was thought that some Rs 5 trillion would be declared illegal; RBI's liabilities would be extinguished, giving rise to larger than usual annual profits and they would be turned over to the government as dividend for funding planned social welfare schemes and infrastructure projects.

This windfall did not materialize.

Early this week, it was announced that, of the estimated Rs 15.44 trillion of currency that was rendered invalid due to demonetization, Rs 15.28 trillion has come back into the Indian banking system. Does it mean that the so-called "illegitimate money" that has now been legitimized was, in fact, a close 99%? The unreturned money of about Rs 0.16 trillion is just 1%.

The question is: was the team of surgeons, minimum in number for secrecy purposes, competent enough? Or if a member expressed a contrary view, was it given due consideration?

That will remain a secret for some time.

For every fait accompli decision, there are always two views — one in support, the another opposed — whether one likes it or not.

Is the achievement worth the effort?

The price of "achievement" following the November 2016 demonetization has now been measured. Economic growth rates have been falling. These aren't big falls and, of course, the growth rates are positive.

In the April-June 2017 quarter, the gross domestic product (GDP) grew at 5.7% – a three-year low, much below the 7.9% GDP growth in the corresponding quarter of 2016 and lower than 6.1% recorded in the January-March quarter of 2017.

It is a clear downward trend.

GDP growth can always be attributed to not one but a combination of factors in a developing economy. The government's chief statistician was in a hurry to point out that it would be incorrect to attribute the downward spiral to the ‘demonetization effect". He laid the blame on the impact of a new Goods and Services Tax reform rolled out.

The government should have accepted the failure.

All along, ever since the November decision was announced, the growth momentum has been halted. The fears of economic doom have gripped the nation. The middle class has been rudely shaken.

The International Monetary Fund (IMF) in January 2017 lowered its estimate of India's growth. It said India would grow only at 6.6% as against its earlier estimate of 7.6% on account of the "temporary negative consumption shock, induced by cash shortages and payment disruptions associated with the currency note withdrawal and exchange initiative."

The IMF hoped demonetization would strengthen India's institutional framework by reducing tax avoidance and corruption and would support efficiency gains.

The World Bank, while echoing the IMF's view, made it clear that the reason behind the move was "to curb corruption, tax evasion and counterfeiting". It added the move would "broaden the tax base" and help revenues which will "eventually go up, besides reducing the size of the informal economy."

India"s finance minister, Arun Jaitley, is now keen to highlight tax avoidance, broadening the tax base and reducing the size of the informal sector and other likely gains, and continues to downplay the main purpose behind the demonetization decision. "People with inadequate understanding of how to tackle black money linked note ban with money returned to system," said Jaitley, adding "deposits in banks don't legitimize" black money.

Instead of such explanations, the government should resume good governance. It has to raise investor confidence once again.

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-Analysis-

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