Question

debate on demonitisation in favour and against

Answer 1

On November 8, at 8:15 in the evening, Indian Prime Minister Narendra Modi’s government announced that, at the stroke of midnight, all 500- and 1,000-rupee notes in circulation would no longer be considered legal tender, and would need to be exchanged for new 500- and 2,000-rupee notes. Modi’s “demonetization” intervention affected 85% of the money in circulation in India. It was an unprecedented move, whether in India or almost anywhere else, and it is by far Modi’s boldest policy intervention to date.

The Modi government is targeting the “black money” associated with tax evasion, corruption, and counterfeiting, and thus the drug traffickers, smugglers, and terrorists who engage in those activities. India’s tax-paying salaried classes and even the poor initially welcomed the policy enthusiastically, viewing it as sweet revenge against tax evaders who had stowed away their ill-gotten gains; they reveled in anecdotes of corrupt officials burning bags of cash or throwing money into India’s rivers.

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But with each passing day, that initial cheer diminishes. Public frustration is now mounting, because the government has failed to meet the demand for new printed notes. Commerce in India – where the cash-to-GDP ratio is 10% – relies heavily on cash transactions, and informal-economy and small-business operations have now ground to a halt, owing to long lines and tight cash-withdrawal limits at banks and shortages at ATMs.

The near-term impact will be the equivalent of an “anti-stimulus” policy intervention, and the consequent drag on demand will be significant. Moreover, as real-estate prices decline, so, too, will household wealth. Although lower house prices will make new homes more affordable, the stock of occupied homes will far exceed new purchases in the near term, so the negative-wealth effect will overwhelm the gains.