## Friday, December 02, 2016

### The Demonetisation Decision: Event, Impact, Narrative and Meaning

by Suyash Rai .

.... those who torment us for our own good
will torment us without end
for they do so
with the approval of their own conscience.

- C. S. Lewis

On November 8th, government announced the decision to discontinue the legal tender status of Rs. 500 and Rs. 1000 notes. The original objectives were stated as: eliminating fake currency; inflicting losses on those with black money; and disrupting terror and criminal activities. Later, new objectives were tacked on: enabling growth in bank credit, turning India into a cashless economy. A cost benefit analysis suggests that the benefits were relatively small when compared with the costs:

Expected impact on fake currency

A study by the National Investigation Agency and the Indian Statistical Institute, in 2016, estimated that fake Indian currency notes in circulation have a face value of Rs. 400 crore. This is an incidence of fake currency of 0.022%. The scale of counterfeiting of the Indian rupee is not out of line with what is seen in other countries, and the procedures adopted worldwide to address this include investigative actions against counterfeiters, phased replacement of old series of notes with new notes that have better security features, etc. De-monetisation is generally not seen as a tool for dealing with counterfeiting. We must also not forget that the counterfeiters will now get to work on the new 500/2000 rupee notes, while India will likely never do a de-monetisation again.

Expected impact on unaccounted wealth a.k.a. "black money"

The analysis presented in the Finance Ministry's White Paper on Black Money, 2012, shows (on page 47) that, on an average, the amount of cash seized during raids by income tax authorities is 4.88 percent of total undisclosed income admitted in those cases. This data is from more than 23 thousand warrants executed. Even if a surgical strike' inflicted a 100% loss upon holders of unaccounted cash, this would imply a loss of 4.88% of their total unaccounted wealth. If, as is more likely, the de-monetisation has imposed a 30% loss upon holders of unaccounted wealth (who suffer a 30% discount when laundering the money), this implies a loss of 1.46% of unaccounted wealth.

Expected costs

Cash is a store of value (white or black), but it is also a medium of exchange. Most people in India only transact with cash. More than 90 percent of shops accept only cash or very short-term credit. Large number of laborers and small value suppliers are paid in cash. While these facts may change over time, they mean that this sudden ban may be leading to disruptions in consumption and production. Compared to the 10,000 yen note (USD 137 in Purchasing Power Parity), the 1000 swiss franc note (USD 775), the USD 100 note, or the 500 Euro (USD 530) note, the Rs. 1000 (USD 31 in Purchasing Power Parity) and Rs 500 (USD 15.5) are practical notes that are used for transactions. Hence, de-monetisation of these notes is a large adverse monetary shock, perhaps the largest ever such shock in world history. The constraints of ATM recalibration and currency printing are leading to a long transition period. Even ensuring 50 percent re-monetisation in cash form, about Rs. 7.5 lakh crore, appears hard by December-end. The Centre for Monitoring of Indian Economy has estimated that a few elements of the first-round impact give a reduction of GDP of around Rs. 1.3 lakh crore; the total impact will be higher owing to the multiplier effect, the hysteresis associated with the monetary shock, the impact upon expectations, etc.

Who bears the costs?

While there is much talk about the GDP impact of this decision, a unique feature of this episode is that there may considerable other costs that fall disproportionately upon the poor. The rich have access to electronic payments, employees who will stand in queues to obtain cash, and savings that are used to cope with a decline in income. The poor lack all these. If a poor person suffers an income shock, or is not able to get medical treatment, the consequences are enormous for the individual, but the GDP impact may be negligible. In terms of welfare implications, these costs matter a lot more than the impact on GDP.

Approach to comparing benefits and costs

The benefits from this move are primarily the small loss inflicted upon those with unaccounted wealth, while the costs are imposed on legitimate economic and social activities. Ordinary people, going about their lives, have suddenly been asked to bear a large burden associated with the project of imposing small costs upon people who have unaccounted wealth.

It seems that the economic costs of this decision are likely to outweigh its economic benefits. Some have compared this decision with a surgical strike, but it is more like a nuclear strike. The nuclear option has been exercised before exhausting other options. Although measures to help people disclose their undisclosed incomes have concluded, the efforts to directly or indirectly curb illegality have barely begun. This raises concerns about the wisdom of using this lever of de-monetisation.

The mainstream media narrative around the decision is not as pessimistic as the analysis presented above. There is a disconnect between the mainstream narrative and the facts emanating from the ground [example]. In this essay, I look at the discourse, analyse the arguments which are being presented, and peer into the long term consequences.

Four key arguments are being forwarded in support of the decision:

1. It is claimed that the decision is likely to have a smaller impact on the poor than what many, mostly anecdotal, reports suggest.
2. The monetary shock can be, and will be, quickly overcome by the use of monetary policy instruments to restore liquidity.
3. This decision will expedite the process of making India a "cashless economy", with benefits that will make short-term costs worthwhile.
4. Since the decision is popular, it must be good. This raises an interesting question: in a democracy, can there be a better measure of goodness of a policy than its popularity?

### Small impact on the poor?

Two ideas have been offered in the claim that the adverse impact upon the poor will be small:

• Cash savings as predictors of impact on the poor: Estimates based on national surveys show that cash earnings of the poor are small, and they usually lack cash savings. So, it is argued, they are likely to seldom visit a bank branch or post office, and they are not particularly inconvenienced.
• Credit as a mitigant of the impact on the poor: It has been argued that since the rural economy is significantly credit-driven, the impact on rural poor will be small. If transacting parties know each other, they would be willing to extend credit, which would make short-term non-availability of cash less costly. Given the practices in rural markets, many commercial relationships are indeed credit-driven, and cash calls are only made periodically.

I fear that a broader understanding of the financial and economic lives of the poor yields an understanding of the impact of de-monetisation that is quite harsh.

The financial lives of poor households are very different from those of middle class and the rich in one crucial aspect - intensity and frequency of financial transactions involving cash. The ratio of financial turnover to assets held, during a given period, is much higher for poor households. Financial turnover is the total value of all financial transactions, i.e. putting money in or pulling money out from any informal or formal financial instrument.

Think of a middle class household with one salaried person earning Rs. 600,000 a year, with total financial investments worth Rs. 10,00,000. From the bank account, money is withdrawn and spent, or drawn down through card/online payments, or transferred into an investment instrument. If this person has a credit card, each purchase on the card would create two financial transactions of equal value - drawing credit, and repaying credit. Other than this, there may not be much "push and pull" in the person's financial life; only simple drawing down or investing up. She may occasionally take loans or switch across investment instruments. Financial turnover during a year is likely to be much lower than the total value of the financial assets owned. The cash portion of the transaction value may be smaller yet.

Research on the financial lives of the poor was presented in a landmark book, Portfolios of the Poor: How the World's Poor Live on 2 dollars a day, Collins et. al., 2009. It found that the ratio of total transaction value to asset value for poor households is quite large. For the median rural poor household in India, financial turnover was about 33 times the year-end asset value. This shows that even though, at a given time, a poor household has only a small asset base and small savings, they are intensively transacting. They are using a range of informal (e.g. loan to or from friends) and formal instruments (e.g. microfinance loans) - to frequently put in and take out money.

Why do they do this? Most poor households have small, irregular and unpredictable incomes. This forces them to do high frequency financial transactions in order to smooth their consumption. They are transacting intensively in the process of cash-flow management, to transform irregular income flows into a stable flow of consumption from day to day. When the poor flounder in this high wire act, they may go hungry. These are not the concerns of the middle class: their income is much more stable, and they can use their savings as a buffer. I fear that much of the commentary on de-monetisation lacks an appreciation of this distinction.

Here is a table, from the book, summarising a year in the financial life of a tailor's household in Eastern Uttar Pradesh:

 Start Amount End Amount Turnover Assets Formal Banking savings 152.72 10.46 167.36 Informal Saved with a deposit collector 33.47 71.13 37.66 Saved with a moneyguard 62.76 0.00 62.76 Goods supplied on credit 9.41 16.32 18.41 Total 258.36 97.91 286.19 Liabilities Informal Wage advance 0.00 13.60 97.28 Shop credit 20.92 39.54 207.95 Services taken on credit 0.00 0.00 125.52 Total 20.92 53.14 430.75 Financial Net Worth 237.44 44.77 Total flows 716.94

The numbers are in USD. The total transaction value is more than 7 times the end-of-year value of assets, and about 16 times the end-of-year financial net worth. Instruments have low end-period values but are intensely transacted, as shown in the "Turnover" column. For instance, even though the credit balance is small, there is a large turnover, which means frequent repayments. This household needs to do high frequency cash-intensive transactions just to make timing of consumption match the timing of money availability.

It is wrong to think of poor households as accumulating incomes and then going to bank branch to exchange or deposit/withdraw it. Most poor households cannot afford to do that, as their savings are small. They must actively manage incomes and consumption, using high frequency financial transactions. To the extent these transactions involved Rs.500 and Rs.1000 notes, the demonetisation decision has temporarily restricted the ability of poor households to engage in their consumption smoothing.

The argument about credit relationships holds true for some time and for certain contexts. All poor people are consumers, and many are also producers (eg. wage laborers, artisans, etc). Most of the credit relationships of poor households as consumers are for the short term, as evidenced by the high turnover in credit relationships. Further, as producers, their ability to work on credit is limited by their small or non-existent savings. There are about 14.5 crore casual laborers in India, who may not be able to work on credit for long. As the remonetisation is dragging on, credit relationships are coming under stress.

It is true that credit is integral to the high frequency financial transactions of the poor. This does not mean that there is depth to cope with much larger requirements of credit on a sustained basis. Lenders might sense problems of solvency, start demanding deleveraging, and choke off credit access.

These questions, about the financial activities of the poor, must be seen in the context of the large monetary shock which has become a large negative GDP shock. The poor who work as casual laborers, especially in cash-intensive businesses, may see their employment opportunities drying up. There are reports of informal labor markets failing to generate work for many laborers who rely on such markets. There is anecdotal evidence about many small and medium scale industries and construction sites temporarily closing down. Similarly, for farmers, this is the time when crop is brought to the market and new sowing is done. Although farmers with small holdings usually do not have marketable surplus, they need cash during the sowing season. Landless laborers may be affected because farmers with medium to large landholdings are not able to get cash to pay them for sowing work.

India has a shadow economy. Many poor people work in enterprises outside the official, tax-paying economy. Many of these enterprises are doing legal activities without paying taxes. So, in that sense although they are breaking tax laws, they are not criminal enterprises as such. Consider a small brick manufacturing unit that is totally outside the tax purview. The business is cash-intensive. It is doing something illegal - not paying taxes. However, it is a a productive enterprise employing people. It is in the shadow economy, and must be brought into the official economy. This means that it must be made to pay taxes and penalties, but it need not be shut down. The note ban may have pushed this cash-intensive enterprise into failure. The outcome is that the production and employment are lost, and nothing accrues to the taxpayer. This is not beneficial in any way, and may be particularly harmful to poor people working in such enterprises.

The poor are also more vulnerable to frauds and swindles that are thriving in the present environment of enormous uncertainty. The unbanked are likely to be mainly the poor, and the unexpected ban on exchange of notes has created a desperate situation for them. It is easy to say that they should open bank accounts. But in the present situation of uncertainty, we are hearing reports of people resorting to desperate measures even to protect a part of their savings. There are many reports of this happening in remote areas.

India being a vast, multi-terrain country, with uneven presence of banking facilities, there are many regions with poor access to banking facilities. The transaction cost of having to make the trek to a bank branch multiple times to exchange or withdraw cash even once is quite high as percentage of a household's income. We have heard stories about people living in remote villages in hilly areas having to rely on others to get notes exchanged, and taking losses in the process. So, for a subset of the poor living in remote locations, the costs may be even larger.

It is quite likely that the costs of this decision on the poor will be significant, and some poor people might suffer disproportionally. Poor households have no black money and did nothing to deserve this.

### Use of monetary policy instruments to restore liquidity

Some commentators have argued that although the note ban has created a shock to money supply, the central bank could soon restore money supply through use of monetary policy instruments, such as open market operations, rate cuts, etc. It is argued that the Monetary Policy Committee will, in some weeks, see the adverse shock to GDP, and vote in favour of large cuts in interest rates, which will solve the problem.

However, it is important to keep in mind the distinction between India's money supply in banks and India's money supply in cash. On 8 November, there was Rs.10.5 trillion of demand deposits, and over Rs.96 trillion of time deposits, which are vastly greater values than the Rs.14.2 trillion of 500/1000 rupee notes which was disrupted. The electronic money supply was not disrupted; it was the cash money supply that was disrupted. This matters because cash is a preferred medium of exchange ("money") for most transactions. The constraint today is the shortage of cash. To overcome the disruption, cash must be restored into the hands of people. None of the instruments of monetary policy do that. They only enhance liquidity in the banking system. Cash still needs to be printed and dispensed through bank and postal networks.

### Cashless economy

An additional objective has been appended: make India a cashless society. It reflects poorly on the government's policymaking process to add such a big objective after beginning implementation of such a momentous decision. If this was indeed an objective, much preparation should have gone in before the decision was announced. There is no evidence of such preparation.

Cash is expensive as a store of value - it gives negative returns and is amenable to loss and theft. Many households are forced to save in cash or other similar assets, because they do not have convenient and reliable access to the modern financial system. It would be beneficial for many households and enterprises to move most of their store of value to financial instruments, but only if considerable comfort around security, convenience and reliability of these instruments is created.

The evidence on superiority of electronic payments over cash as a medium of exchange is limited and context-specific. There is evidence to support making government-to-citizen payments cashless, but even there, the last mile problems of helping the recipients access and use this money has yet to be solved. Several research studies show the poor quality of the last mile banking network in India.

For transactions involving only private parties, the case for going cashless for payments depends on the context. It would be nice to have more cashlessness, but not in all situations, not for all persons, and not for all purposes. Cash has many inherent advantages, and in many contexts, cashless instruments are not superior to cash. For example, in an area with poor telecom connectivity, cash is more convenient. People should have the freedom to choose, depending on their context.

This government push to make Indians go cashless looks like a large, centrally planned effort in mission mode. This high modernist approach is ill suited for this objective. Going from cash to cashless is a vague and complex problem with unclear pathways. Storing money in financial instruments and using it to make day-to-day payments requires regular, reliable and secure access to these instruments. This is not a simple product that can be launched across the country overnight, but a sophisticated service that needs to take into account the infinite variety of needs of households and enterprises. At its core, it is a personal choice that each one should make in their own time. If this choice, and immature systems, are forced down their throats, many persons would recoil from electronic payments.

Government is inherently bad at seeing the complexity of such issues. It is likely to unleash a badly designed mission mode programme, without understanding the package of services required to actually make cashless store of value and payments work. The programme would also be hampered by the persistent capacity constraints of Government of India. When the objective is so complex, it is better for the government to be modest, and only play an enabling role.

The way most societies have gone to less-cash is through slow, careful, detailed policy work. The willingness to use coercion at an early stage of India's journey is troubling. As an example, consider shops accepting card payments. There are about 1.5 crore retail shops, but only about 14.6 lakh card devices. Should more shops accept cards? No one can decide this from the vantage point of policy-making in Delhi or Mumbai. There is no ideal number of card-enabled shops. If there are impediments preventing this, government and RBI should remove those impediments. If the right conditions exist, and if both consumers and shopkeepers feel the need, this number will increase.

We in India have a relevant experience from an episode that began in mid-1990s - the dematerialisation of shares. If government had forced households to immediately turn all their share certificates to demat shares, many may have turned their backs on the share market. They enjoyed the comfort of holding those certificates, and were not sure about the new system. Since they were given a choice, over a period of time, most of them opted for demat shares. They saw the advantages, and made their choice. This happened in a context where the numbers were quite small (the number of shareholders), but it still took about ten years. In that example, luckily, the new system worked out fine. But it could have failed to deliver. There were many risks of things going wrong. In such a situation, coercing households to switch to demat would have been unfair. The same holds true of the idea to go cashless, and at much larger scale.

An optimal shift from cash to electronic store of value and payments will happen if enabling conditions are created, within which people can make their choices. Government's primary role in this transition should be to unleash competition and innovation, while addressing problems through regulations and grievance redress. Government also has a role in ensuring provision of enabling infrastructure, which includes Aadhaar, telecom network, broadband network, etc.

There is an enormous mismatch between expectation and reality on this issue. Some people seem to assume that India could quickly go cashless during this period of remonetisation of cash. This premature use of coercion, in an under-developed payments ecosystem which has suffered from major errors of policy for decades, speaks poorly of the policy process. It is problematic to cite this complex, long-term aspiration to reduce use of cash as some kind of mitigant for this sudden note ban.

### Popularity of the decision

Several opinion polls show that the decision is popular. Consider the following conversation:

Friend: I have heard that person X in my neighborhood has kept a large stash of cash. He is now running around trying to launder it. He always flaunted his ill-gotten wealth, and it is good that he is going to suffer a big loss.

Me: The data from tax raids shows that about 5 percent of undisclosed income is kept in cash form. So, this decision will only inflict a small loss. Person X is just one person. The data I am referring to comes from thousands of tax raids. Even if Person X has a large stash of cash, it may be just a small percentage of the total black money he has. It is not worth causing so much disruption to society at large, in order to cause a small loss to the unaccounted wealth.

Friend: Even if that is true, at least all these corrupt people will lose their stash of cash. It will teach them a lesson. I am willing to incur some inconvenience for this. At least someone has done something to make the corrupt pay. It will help reduce corruption. This is about the moral standards of our society.

Reflecting on this exchange, I found four important differences in our perspectives:

Statistical vs. Experiential standard

Public policy professionals like me primarily rely on statistical thinking. My friend is using an experiential standard. For a person like me, the evidence drawn from statistics dominates a few human interest stories, but for many others, it is the other way around. Since black money and corruption are emotive issues that affect the general public, most people already have opinions based on personal experience or cultural impressions. It is not easy to change these opinions. My friend is open to a statistical perspective, but perhaps it would not immediately alter his view. Most of us humans are intuitive - we form an opinion quickly, and then look for reasons to support it.

We in the policy analysis world tend to forget the novelty and the limited use of the statistical perspective in society. Statistics became systematised only around the middle of the 18th century, and was introduced in education systems much later. For countless millenia, we have been forming opinions about the world based on what we perceive in our immediate surroundings. That is our natural instinct. On this particular question, given the nature of information involved (cash as percentage of unaccounted wealth), experiential knowledge of those who do not deal in black money may be off the mark. Unfortunately, the media have done a poor job of putting out relevant information. Those who support the decision and those who oppose it are disproportionately relying on anecdotal evidence. Anecdotal evidence is useful but only to understand the nuance of specific situations.

Aggregate vs. Local impact:

We differ on the scale of our analysis. While I am thinking about the aggregate trade-off between benefits and costs, my friend is looking at impact on his immediate community. Since he is a middle class professional, the costs to him and his community may be small, while, in his view, the impact on Person X would be quite large. Sometimes, it is better to think local, and at other times, it is better to have a broader perspective. Corruption is an issue where thinking local might often be more reasonable, given the way it affects us, but the larger question of disrupting black money storage might be better addressed with a broader perspective.

Any action vs. Complex policy projects:

We have different views about what has been done to solve the black money problem, and therefore our expectations from government also differ. I am used to the long time-scale over which policy projects play out. As an example, the Public Debt Management Agency has been in the making from the late 1990s, and we are still a few years away from seeing tangible results.

As a specialist, I appreciate pawn moves within a long strategy, even though the pawn moves tangibly deliver nothing in the short run. I would thus be happy if the government keeps chipping away on the battlefronts of corruption in the country, and see no need of taking such a disruptive and expensive action. My friend may not see it that way. He probably mistrusts the gradual moves, as it is not clear to him whether they are parts of a sound strategy or just delaying tactics. He is happy to see decisive action because, in his view, not much has actually happened on this front. For me, the choice is between impetuous action vs. careful work within a fully thought out strategy; he sees it as a choice between inaction and action.

We also differ on how we perceive this decision as an instrument of change. My friend sees this as an administrative measure but he also see it as a righteous battle in the war against "the corrupt". I see it only as an administrative decision that should be evaluated in specific and measurable terms. I am analysing whether benefits are likely to outweigh the costs. My friend may agree with this analysis, but perhaps he also sees this as a moral struggle that may include some lost battles, but has a noble objective.

These factors help explain why we in the intellectual world are puzzled at why the demonetisation decision was taken, but many other people (including writers in the media) are quite happy with it.

While this is a description of conditions now, things will change over time and space. Many people who are not policy professionals are opposing the decision. A key assumption behind my friend's support for the decision is that Person X, the "corrupt" person, is going to suffer. In a few months, many people like my friend may revisit their views, as they would see that not much changed in the life of Person X. This is a dynamic situation that is unfolding in front of us, and the change in a person's opinion about the decision would depend on many factors:

• The costs and difficulties suffered by a person and his near and dear ones. It's exciting to volunteer for a noble cause for a few days, but as the costs climb up, enthusiasm may decline.
• A person's political affiliation (we believe almost anything if we belong to a team).
• Whether one thinks of this as a moral crusade, which is to be supported simply because it was launched, and not on its measurable success.
• The extent to which one considers objectives that were added as afterthoughts (eg. making the economy cashess) to be relevant, and the extent to which these objectives are achieved.
• One's perception about government's overall success on other fronts that may rub off on this.
• The ability of the political opponents to create credible alternatives, so that there is a real incentive to apply cognitive resources in carefully forming a judgment. If there is only one game in the town, we have little incentive to judge the merits and demerits of each act carefully.

### Judgment and Popularity

Should popularity matter? A crude caricature of liberal democracy is one where all decisions are made by the people. This is not how the Republic of India, and all representative democracies, are constructed. In a representative democracy, it is incumbent upon elected leaders to hear the people's concerns, and then exercise their own judgment to choose a suitable course of action. Governments deviate from this responsibility in two ways.

1. Sometimes, governments refer even complex decisions to public opinion. Prominent recent examples include: the 2015 public referendum on the Greek debt relief package, and the Brexit decision.
2. Sometimes, governments take decisions that appear popular (read: supported by a majority of the citizens), and use popularity as the only measure of success, without asking themselves pertinent questions, such as: is the decision harmful to some citizens? Could the decision be harmful in the long run?

In a democracy, the will of the people should matter. However, the entire machinery of modern republican governance is meant to channel popular will through exercise of sound judgment. Why is this machinery required? In an essay published in 1819, Benjamin Constant presented a distinction between the liberty of ancients and the liberty of moderns. For the citizens of ancient republics (eg. classical Athens), liberty meant having a share of the sovereign authority.

This was direct democracy - citizens had to carry out many functions of government "collectively but directly". They came together in the public square to discuss and make decisions about war and peace; to form alliances with foreign governments; to vote on new laws; to pronounce judgments; to evaluate the performance of the magistrates; and so on. To do all this, citizens were expected to devote considerable time towards public and political matters, such that the individual citizens and their private concerns were less important than public concerns. Such participation was expensive. Societies had to depend on slaves to free up the time for citizens to perform civic duties, and the concept of private life was limited. Also, only 10-20 percent of residents had the privilege and responsibility of being citizens.

Modern liberty as exercised in modern republics is very different. It is largely private, and it is enjoyed by everyone in the country. It is essentially about removal of obstructions and encumbrances that prevent individuals from doing what they wish to do. It is an expansion of the private sphere. This liberty is made possible because of the system of representative democracy, wherein governments are elected to govern, and citizens participate in politics mainly through the instrument of voting, and through part-time civic engagement during intra-election periods to keep a check on the government. A minuscule portion of the populace participates in politics, and an even smaller number holds office. Citizens elect; the elected govern; and the citizens hold the elected accountable for outcomes.

Government leaders and their advisors are doing policy work full-time, while ordinary citizens are living their private lives. Ordinary citizens do not have the knowledge or the time to choose the right policy, nor do they have the full information to judge the merits of a complex policy that has just been announced.

In this context, direct democracy is suitable for certain local issues where people can see the inputs and outcomes. For complex, macro issues, legislators and governments may seek public opinion (perhaps through opinion polls), but then they must exercise their own judgment. People demanded an attack on black money, but they did not demand demonetisation as the weapon of choice. When asked, people seem to be saying that they support the move, perhaps because they believe that it is worth trying, when other measures don't seem to have worked. However, leaders are in the arena and they must also hold their decisions to other measurable standards of success. Popularity does not necessarily attest to soundness of a policy. It is for the leaders to exercise judgment in devising the least expensive and most effective ways to attack generation and storage of black money.

Reckoning of costs and benefits, expressed in rupees, is important. It is likely that the demonetisation decision fails this test. However, even if it did pass the test of a careful cost-benefit analysis, there are important elements of political thinking which should be brought into the policy discourse:

• Impact on rights of individual citizens
• Impact on rule of law and uncertainty in the society
• Impact on institutions

### Impact on rights of individual citizens

One problem with a cost-benefit approach is that, unless it is done very carefully, it can justify inflicting a great deal of pain upon innocent people just so that society in the aggregate can benefit. Even when done carefully, it is still based on the utilitarian assumption that as long as a decision is beneficial in the aggregate, it can be justified. This aggregate net benefit is a necessary condition for a decision, but is it a sufficient condition?

In a totalitarian system, where individual identity is subsumed under the collective good, aggregate benefit is both a necessary and sufficient condition. However, in a democratic republic, individual rights and duties provide the foundations on which democratic self-government is established and sustained. Civil and economic rights must be preserved, even in face of aggregate societal benefits. For example, a poor person may not contribute much to the GDP, but is still a citizen who has a piece of the constituent power that established the State in the first place. Any consideration of costs and benefits must be over and above an understanding of the rights of individuals that cannot be taken away.

The decision to discontinue the Rs. 500 and Rs. 1000 notes is harmful for economic liberties of citizens. For weeks, their ability to conduct their economic lives are severely disrupted. Money is of no use if one cannot use it when one needs to. By restricting withdrawals from banks, which is a decision of questionable legality, and by limiting exchange of notes, people have been deprived of using their hard-earned money when they need it. Because of the restrictions, some may be forced to take losses even on their hard-earned money. As my colleague Anirudh Burman has argued, these are forms of expropriation. The right to property is a right under Article 300A of the Constitution of India, though it is not a Fundamental Right. However, intruding upon the property rights of citizens is bad policy, regardless of whether the Constitution of India prohibits it or not.

The decision has led to considerable problems for people who needed cash for an emergency, for a pre-planned social event, or for other legitimate purposes. This is an insulting way to treat citizens, and potentially infringes upon their other rights. Their ability to take care of their health, to move across the country, to practice their profession, etc, are affected by this abrupt decision. Many of these impacts are not fully captured in a simple cost-benefit analysis.

### Impact on rule of law and uncertainty in the society

Order is our most fundamental need, and uncertainty is the enemy of order. The decision to disrupt the medium of exchange for so many people, and then implementing it in such a haphazard way, has generated enormous uncertainty. This uncertainty that has been unleashed could have unpredictable consequences, which ex-ante cost-benefit analysis cannot consider. For example, conspiracy theories and frauds are thriving due to this large scale disruption. Policy decisions should always try to minimise uncertainty, especially in decisions implemented at large scale. This decision fails this test.

Governments are expected to put in place system to reduce uncertainty, and to solve the problems that create uncertainty. For example, systemic crisis in the economy creates uncertainty. When Lehman Brothers failed and the global financial crisis began, the chief task of central government and RBI was to reduce uncertainty and maintain stability in the financial system.

One of the main ways of reducing uncertainty is to uphold the rule of law. Rule of law is a complex notion, but at it hearts are certain core principles. First, laws should be consistent with natural rights and principles of natural justice. Second, laws should be clear, predictable and widely known beforehand. Third, laws should be applied uniformly across similar situations. Fourth, due process should be followed, which means every application of law should provide the private party with information about the application of the law, the reasoning behind the application, and a mechanism for appeal.

This decision has hurt rule of law and increased uncertainty. When government repeatedly promised to allow exchange of notes till December-end, but abruptly banned such exchange, the principle of predictability was violated. This did not just surprise those with black money, but also put others in difficulty. The myriad rules and frequent changes are placing enormous cognitive load and hurting clarity of law. Harming property rights at such large scale without proper investigation, prosecution and conviction is not consistent with the due process requirement. Inflicting harm on the innocent goes against natural justice.

The expansion of discretionary powers and purview of the tax authorities is also likely to weaken the rule of law. The pronouncements from government seem to suggest that it is going to be open season for the taxman. They will have the authority to send notices and start investigations against anyone who may have deposited cash. This has subverted a basic principle of law enforcement: everybody is innocent until proven guilty. One way in which this principle is put in practice is by requiring a reasonable burden of evidence before investigation, before prosecution and, of course, before convicting someone. The suspicion underlying the note ban decision turned everybody depositing cash, which is usually a legitimate activity, into a potential suspect.

We look back with disapproval at the License Permit Quota Raj. Yet, sometimes we forget that the regime of innumerable, impossibly complex rules did not come up in one day. The rule books kept gathering fat over decades, before they were committed to a bonfire in early 1990s. This regular addition to rules was necessitated by a mindset of suspicion. There was an endless cat and mouse game between the State and the citizen, because the State wanted to control everything. If the present trend continues, a similar game could be afoot yet again. This time it would be about cleansing the society of all forms of corruption.

### Impact on institutions

Institutions are not just their buildings, people or statutory powers. They are ideas that exist in the minds of people. The RBI has earned its credibility over more than 80 years, maintaining an image of an independent organisation that values integrity. There are criticisms of RBI that it may have become hostage to its own success, and now stands in the way of India's progress in macroeconomics and finance. However, its legitimacy and integrity have almost never been questioned. Now, the same institution has been placed in a very difficult position.

The way this decision was presented and is being implemented, there is cause to suspect that institutional distinctions were ignored, except as mere formalities. Government's messaging is not helping the matter. Some in the government are crediting its leadership for the idea, while others are saying that it was RBI's idea. Communications about all matters are centralised at Ministry of Finance, even regarding matters in RBI's jurisdiction. This episode is harmful to the efforts to portray RBI as an independent central bank. Add to all this the drama around badly printed notes, faulty drafting of notifications, and poor communications from the central bank, and we may have the beginning of the end of an institution's credibility.

Four decades later, the capitulation of the judiciary during the Emergency still looms large in our imagination of that institution's ability to protect our rights in our darkest hours. This note ban episode threatens to similarly cast a long shadow upon macroeconomic and financial policy in India. This episode indicates the limitations of legal protections such as statutory independence, job security under Article 311 of the Constitution, etc. The vaunted checks and balances appear to be inadequate. The Constitutional design of dividing power and vesting it in multiple institutions has been revealed to have severe limitations in practice, especially when a powerful government sets its mind to do something.

Another long-term institutional impact of this decision would be seen in the increase in the draconian powers of tax authorities. The nature of power of tax authorities is such that effectiveness can only be achieved by a complex system of accountability. Maximising revenue is not necessarily the best objective, as it may lead to abuse of power. The recent announcements seem to suggest that the tax department, especially their enforcement officials, will be given a carte blanche to go after depositors of cash. Since this is a high priority for government, they might err on the side of excess. Some may abuse their powers for personal gains. The damage to the institution would be lasting, and it might take a long time to restore a sense of balance and accountability.

### Nature of the larger project

The decision is so astonishing that it has inspired utopian or apocalyptic pronouncements, depending on which side of the argument one is on. It has challenged our prior assumptions about the possibilities of policymaking in India. Is this the launch of a grand project? We obviously don't know, but it would help to consider the record of the individual at the centre of this decision - the PM. Based on the PM's governance record and work style, it seems he usually does not embark upon such adventurism. This decision is a break from his own record. Unlike Mao, Trotsky, Stalin, and others being invoked to explain what is going on, there was almost no foreshadowing for this decision.

The characterisations of this decision as an act of tyrannical overreach may be useful as warnings, and even understandable use of hyperbole to critique an egregious decision, but how do they fare as approximations of truth and as predictions of what is to come? Here is another way of thinking about this: could this decision be just an example of failure of the policymaking process? The following inter-dependent assumptions mattered the most in this decision:

• the portion of high denomination used for storing black money, and
• the pace of remonetisation with new notes.

If most of the notes are used to store black money, and if the remonetisation in cash could be done in a week or fortnight, the decision would appear very different, albeit there would still be strong arguments against it. The PM may have been advised that not more than, say, Rs. 5-6 lakh crore, will come back, and the remaining cash is all black money, which will be difficult to launder if the government places severe restrictions on exchanges and withdrawals. Perhaps the government under-estimated the role of cash as a medium of exchange, and as a store of legitimate value. They may also have over-estimated the pace at which remonetisation in cash would happen. For a few days after the announcement, government leaders did say that remonetisation would take just two to three weeks.

All these mistakes may appear implausible, but not if you consider the very small number of people involved in this decision, and the views of certain persons who claim to have advised the government. Moreover, the history of policymaking is replete with bad decisions when there was ample evidence to counsel a different course. It is quite possible that the process began with wrong assumptions, which were not corrected in time. This obviously does not absolve anyone of responsibility, as the consequences do not depend on original intent.

If the government indeed started with different assumptions, it must now be surprised by the Rs. 8.44 lakh crore that have already come back, and the long timelines for remonetisation in cash form (till date, only up to 18 percent done). So, the government is now forced to improvise. Introduction of new objectives (eg. go cashless), reneging on important promises (eg. note exchange), and innumerable changes in timelines and rules are signs of improvisation. It is dealing with the fog of a rapidly unfolding situation in this vast, complex land of ours.

It is difficult to do meaningful improvisation, because this policy decision does not allow for much flexibility. Since the decision is founded on suspicion, flexibility is assumed to be "misused" to launder money. The only way to really cut costs was to roll the decision back, once it became clear that benefits might be smaller and costs might be larger than expected. However, rolling back would make the government look inept. Most leaders would prefer to appear authoritarian, than to appear inept. They would rather be feared than be ridiculed. Hence, improvisation seems to be the only politically feasible option. The kinds of things being done to improvise seem to be making things worse. This is not surprising, because governments are inherently not good at processing information quickly and efficiently, especially in a rapidly evolving context.

I do not think that the government intended to cause so much harm. However, what matters now is what it does from here on. If the government indeed had different assumptions about how this will work out, it may now be pleasantly surprised that it has popular support for the decision. For now, this support is a source of power. It remains to be seen if and how this support will change over time. So, the next steps are quite uncertain. Has the government unwittingly committed itself to a high stakes utopian project to make an honest society out of us, and would therefore feel compelled to take more such "bold" steps? The grand pronouncements about high modernist fantasies such as "cashless India", and utopian ambitions such as "cultural revolution" against corruption, suggest that the government may take that road riddled with enormous risks and unclear payoffs. Or could the government somehow carefully climb down and go back to a governance that is focused on getting the basics right?

This event has also revealed a great deal about our intelligentsia, our media, and even the broader civil society. There is much to be thought and learnt from this teachable moment. The shaping of the narrative is instructive to watch. In my eyes, there is one effort that has suffered considerable damage: the effort to build a new conservative movement in India.

The spiritedness around the 2014 election presented an opportunity to lay the foundation for a different narrative of governance - one founded on more conservative principles. There is an ongoing attempt to build a community for nourishing conservative thought to take on the intellectual and institutional hegemony of the so-called "left". This effort is necessary for India's political and social discourse. The weaknesses of a countervailing intellectual force may have led to a certain stagnation in our political imagination. The possibilities of politics have not kept pace with the needs of our society.

If a conservative intellectual movement deepens its roots and informs principled conservative politics, in the resultant political churning, there is a genuine possibility of a different politics to emerge. Take the example of economic issues. On these issues, our present political discourse largely operates in a post-1991 consensus. The consensus is essentially about a gradual opening up to private capital, but with state continuing to occupy the commanding heights of the economy. It is a version of state-managed capitalism, but without a capable State. We also see failures of the State to get the basic tasks of governance right, while fighting innumerable battles for social and economic justice.

One of the reasons for the weaknesses of the Indian state is the baggage it carries from its socialist past. In terms of its mood, it is still a controlling, commanding entity. It wants to control outcomes across a wide range of domains. It suffers from a common curse of countries that were late modernisers: an overwhelming number and variety of social and economic demands are placed on it. Conservatism has its own excesses, but on many issues, it could provide an important counter-view to overcome the present stagnation. It could, among other things, help redefine the roles of the State, the market and the civil society, and the interplay between them.

The note ban decision and the narrative around it has emphasised the weakness of the Indian intelligentsia. We do not have a critical mass of people upholding values such as protection of property rights; who understand the need for limited government to protect civil society and markets; who oppose State-led utopian projects.

Utopian social engineering projects try to perfect human nature. A conservative perspective would suggest that human imperfections cannot be eliminated by diktat. The State can only mitigate the consequences of these imperfections to an extent. The efforts to overcome flaws of human nature should be in the social domain, not in the domain of State power. If the new Indian conservatives think that expanding state power to pursue their favorite social and economic objectives is a good idea, they should see that the same power would later be used for ends that they don't agree with. This is a mistake that many on the left had made. Further, if they think that property rights must be compromised at the altar of a project to reduce black money, they may be missing the woods for the trees.

Irrespective of what the original intent may have been, the note ban decision matches or surpasses the worst excesses of high modernist socialism in India. It was not a conservative move. The decision threatens to radically empower the government to harass and intimidate citizens of the country. It damages property rights.

Sadly, instead of forming the vanguard of an intellectual and social movement, too many are choosing to be Praetorian guards for political power. This is inherently bad for the long-term project, not because all compromises are bad, but because compromising core principles is potentially devastating for a movement that intends to distinguish itself in terms of its worldview.

### Conclusion

The original assumptions underlying the decision remain unclear, but it seems to be causing considerable harm. All this harm is likely to buy us only a small dent on the black money problem and the elimination of a few hundred crores of fake currency. This is not a good bargain, especially considering the long-term consequences. I am not sure the government intended this bargain. Still, at the moment, the decision is popular.

Government may have painted itself into a corner of righteousness. Since, this decision seems to have struck a chord with a larger number of citizens, political ambition might tempt the government to double down on this path, and take more "shock and awe" decisions. It would take considerable statesmanship to veer away from this path of temptation fraught with enormous risks but questionable benefits.

The government would do well to reflect on the failures of the policymaking process that led to what appears to be a bad decision. If this was indeed a genuine mistake, and government's assumptions turned out to be wrong, it would be unwise to risk making more of such mistake in an impatient pursuit of lofty goals. Our government's capacity to run complex programmes is very limited, and it is best expended on higher priority problems, such as building the criminal justice system, achieving public health goals, improving learning outcomes in primary education, building a credible defence apparatus, ensuring provision of sound infrastructure, ensuring clean air and water, and so on.

The author is a researcher at the National Institute for Public Finance and Policy. Views expressed here are personal. I thank Ajay Shah and Anirudh Burman for useful discussions.

## Thursday, December 01, 2016

### Demonetisation needs a Parliamentary law to be fool-proof

by Pratik Datta and Rajeswari Sengupta.

On November 8, 2016 the Rs. 500 and 1000 notes were "demonetised". This move has raised three interesting legal questions. Writ petitions have been filed across the country challenging the legality of demonetisation. Petitions are pending before High Courts of Kerala, Bombay, Delhi, Hyderabad, Gujarat, Karnataka, Calcutta and Allahabad. Till now, only Madras High Court has held that the move is constitutionally valid and refrained from interfering since it is a policy decision of the government. As per media reports, the Supreme Court has consistently refused to stay the high court proceedings. The Apex Court itself is hearing four petitions challenging demonetisation.

Demonetisation is not a novel idea in India. We have experienced two instances before - in 1946 and 1978. Those were also challenged in courts and a rich body of Indian case law exists on demonetisation. This case law suggests that although a demonetisation can be done through a notification, a Presidential Ordinance or Parliamentary Act is necessary to:

1. Prohibit transfer or receipt of the banknotes that have ceased to be legal tender, so that these do not reflect anymore as a liability on the Issue Department of the RBI.
2. Restrict RBI's legal obligation to exchange the old notes with new notes.

(1) and (2) cannot be done through a notification. They need a Presidential Ordinance or Parliamentary Act. Otherwise, although the demonetisation would be legal, RBI would continue to remain under a legal obligation to keep on exchanging the old notes with new ones. That would frustrate the ultimate aim of demonetisation - clamping down on black money stored in high denomination notes since RBI will have no option but to exchange them with new notes.

In this article, we explain the concept of legal tender', give a brief overview of the legal challenges against demonetisation in 1946 and 1978, the jurisprudence developed by the courts and accordingly, explains why a Parliamentary law is necessary to make the 2016 demonetisation fool-proof. We thus answer Question 2 of the three interesting legal questions about demonetisation.

### Demonetisation and legal tender

Demonetisation is the act of taking away the 'legal tender' character of any specific denomination or series of banknotes. So, it is useful to first understand the legal meaning of 'legal tender'.
Across history, commodities have been widely used as medium of exchange. However, for a commodity to be accepted as a medium of payment, the receiver must be able to assess the exact intrinsic value of the commodity. Otherwise, the payer could easily get away by giving low quality commodities in return for more expensive goods. Therefore, transaction in commodities needs expertise and cannot be done any lay person. This effectively restricted usage of commodities as currency.

To avoid this problem, States started declaring certain commodities as 'legal tender' and guaranteeing their value by law. Such value fixed by law would be independent of the intrinsic value of the underlying commodity and therefore, could be used as a medium of exchange by everyone without having to assess the quality of the commodity. For example, in 1637, the government of Massachusetts declared white wampum as 'legal tender' for debts under twelve pence at the rate of four white beads per penny. Today paper currency may have replaced commodities like white wampum as `legal tender', but the basic logic remains the same.

Black's Law Dictionary defines the word 'tender' to mean 'an unconditional offer of money or performance to satisfy a debt or obligation'. Anything can be 'tendered' in payment of debts as long as the creditor accepts it. A creditor will not accept any item whose intrinsic value is less than the value of debt. The only exception is a 'legal tender'. A creditor will accept legal tender even though it lacks equivalent intrinsic value because its value is guaranteed by the state itself through law. Hence, anything whose value for the purposes of payment is independent of its intrinsic value because of an explicit state guarantee through law is a 'legal tender'.

In India, section 22 of the RBI Act, 1934 gives RBI the sole right to issue banknotes. Section 26(1) states that every banknote shall be a legal tender in India in payment or on account for the amount mentioned on it and shall be guaranteed by the Central Government. So by default a banknote issued by RBI commands the value mentioned on it for any transaction in India since it is a legal tender guaranteed by the Central Government. This default setting can be changed in three ways.

1. Under the current RBI Act, 1934, it can be done only if, on the recommendation by RBI, the Central Government issues a notification under section 26(2) declaring that any series of RBI banknote of any denomination will cease to be legal tender from a particular point of time. As we will see, this notification path has never been used to demonetise until now and can lead to some unique problems.
2. The current RBI Act, 1934 itself could be amended. As explained below, this was done in 1956 to give legal certainty to the demonetisation of 1946.
3. A Presidential Ordinance or a separate Parliamentary law could be passed. It could specifically override any other law including the RBI Act as may be necessary. As explained below, the 1978 demonetisation was effected through an Ordinance and then a Parliamentary law.

### Demonetisation, 1946

On January 12, 1946, the Governor General of India promulgated the High Denomination Bank Notes (Demonetisation) Ordinance, 1946. It declared that the high denomination bank notes of Rs. 500, 1000, and 10,000, issued by RBI would cease to be legal tender on expiry of January 12, 1946. Section 4 of the Ordinance specifically prohibited transfer or receipt of such notes after January 12. Section 6 provided that notwithstanding anything to the contrary in the RBI Act, 1934, such bank notes could be exchanged for valid legal tender subject to a detailed procedure within January 22, 1946. Extensions could be given by the Central Government. Section 7 of the Ordinance imposed penalties for providing false information during the exchange process. Section 9 imposed a blanket ban on any legal proceeding against any person for any action taken under the 1946 Ordinance.
This Ordinance led to three types of legal challenges.

1. RBI's obligation to exchange old notes with new notes: Section 39 of the RBI Act, 1934 imposes an obligation on RBI to exchange its banknotes with other legal tender. Section 6 (applicable to non-banks) of the 1946 Ordinance applied notwithstanding anything to the contrary in RBI Act including section 39. But section 5 (applicable to banks) of the 1946 Ordinance did not expressly override section 39 of the RBI Act. This resulted in confusion as to whether after January 22, 1946, RBI was still under an obligation under section 39 of RBI Act to keep on exchanging the non-legal tender banknotes. The Bombay High Court in J.M. D'souza v. RBI (1946) held that an individual's right to exchange notes from RBI under section 39 of the RBI Act did not exist any longer since section 6 (which applied to individuals) of the 1946 Ordinance applied notwithstanding anything contrary in RBI Act. However, the Calcutta High Court in Dominion of India v. Manindra Land And Building Corporation Ltd. (1952) held that a bank still had the right to exchange non-legal tender banknotes from RBI under section 39 of RBI Act since section 5 (which applied to banks) of the 1946 Ordinance did not have a notwithstanding clause overriding RBI Act.
2. Violation of right to property: In B. Ram Lal v. State (1954), constitutionality of sections 3 and 4 of the 1946 Ordinance was challenged before the Allahabad High Court for violating the fundamental right to acquire, hold and dispose property under Article 19(1)(f) of the Constitution as it stood then. The Court held that once these notes ceased to be legal tender, any restriction on their transfer to another person cannot be said to be unreasonable. Moreover, the Ordinance provided for the exchange of the high denomination notes for notes of smaller denominations on certain conditions. Therefore, the restriction imposed by section 4 of the Ordinance was found to be a reasonable restriction. This settled the question of constitutionality.
3. Temporary nature of Ordinance: The third problem with the 1946 Ordinance was whether it was a temporary measure or was it permanent in nature. An Ordinance is valid for six months. So the question was whether its effect would continue even after six months. In Sridhar Achari v. Emperor (1947), the petitioners had submitted documents for exchange of banknotes under the 1946 Ordinance. After six months, on March 4, 1947, a charge-sheet was issued against them under section 7 of the 1946 Ordinance alleging that they provided false information. The petitioners argued that the 1946 Ordinance was a temporary emergency measure and was no longer valid after six months. This argument was rejected by the Allahabad High Court which held that the intention was to give the Ordinance permanent character. A similar argument was taken in the Supreme Court in Hansraj Moolji v. State of Bombay (1957). In 1953, the petitioner was charge-sheeted for transferring some high denomination banknotes in violation of the Ordinance. The petitioner argued that the 1946 Ordinance was not effective in 1953 and so he could not be prosecuted under that law. The Supreme Court rejected this argument and upheld the permanent nature of the 1946 Ordinance.
4. These ligitation possibly nudged the Government to clarify the law permanently. Schedule I of the Jammu And Kashmir (Extension Of Laws) Act, 956 amended the RBI Act and inserted section 26A to clarify that notwithstanding any law to the contrary, all high denomination notes of Rs. 500, 1000 and 10,000 shall cease to be legal tender from January 13, 1946.

### Demonetisation, 1978

The next round of demonetisation happened under the Janata Party government in 1978. Morarji Desai was the Prime Minister at the time. On January 16, 1978, the President promulgated the High denomination Bank Notes (Demonetisation) Ordinance, 1978. This Ordinance was subsequently repealed and replaced by the High Denomination Bank Notes Demonetisation) Act, 1978 on March 30, 1978. By this law, banknotes of denominations 1000, 5000 and 10,000 issued by RBI ceased to be legal tender from January 17, 1978. Section 4 prohibited transfer or receipt of such notes after January 16, 1978. Section 7 provided for exchange of these high denomination banknotes with valid legal tender from January 17 to January 19, 1978. Section 8 provided for exchange of such notes even after January 19 but up to January 24, 1978 provided RBI was satisfied that there was genuine ground for delay. Section 10 provided for penalties and section 11 provided for offences. This 1978 Act also ran into the same legal challenges as the 1946 Ordinance:

1. RBI's obligation to exchange old notes with new notes: The 1978 Act was also challenged on the ground that RBI had a statutory obligation to exchange the non-legal tender banknotes even after expiry of the time limit provided in the 1978 Act. Section 34 of the RBI Act says:
The liabilities of the Issue Department shall be an amount equal to the total of the amount of the currency notes of the Government of India and banknotes for the time being in circulation.
The Delhi High Court in Bimladevi v. Union of India (1982) held that because of section 3 of the 1978 Act, the banknotes ceased to be a legal tender and by virtue of section 4 its transfer was also prohibited. Consequently, the liability of the issue department of the RBI under section 34 of the RBI Act also ceases. Hence, RBI is under no obligation to exchange such banknotes after the expiry of the period mentioned in the 1978 Act. The High Court also noted that section 7 of the 1978 Act overrides section 39 of the RBI Act. So RBI is under no obligation to exchange the notes under section 39 either.
2. Violation of right to property: The constitutionality of the 1978 Act was challenged. It was argued that the Act resulted in compulsory acquisition of property in violation of Articles 19(1)(f) and 31 of the Constitution as it stood then. However, the Gauhati High Court in Somi Horam Tongkhul Naga v. Union of India (1980), was satisfied that the 1978 Act provided adequate procedure for exchange of notes to safeguard the fundamental right to property. Accordingly, the High Court refused to lay down guidelines on RBI in this regard and refrained from issuing any directions to RBI to exchange notes. In similar lines, the Delhi High Court in Bimladevi v. Union of India (1982) observed that Article 31 of the Constitution only requires that compensation be paid for an aquisition. It did not prohibit payment of compensation before aquisition - the exchange facility. Finally, the Supreme Court in Jayantilal Ratanchand Shah v. RBI (1996) upheld the constitutionality of the 1978 Act since the acquisition was for public purpose to resolve the problem of unaccounted money. The Court also held that a time limit for exchange was a reasonable restriction in view of the purpose of the law - to clamp down on the circulation of high denomination notes. If a person could at anytime in future go to RBI and ask for exchange value of such notes, the purpose of the Act would be frustrated. Therefore, the constitutionality of the 1978 Act was upheld.

### Demonetisation, 2016

On November 8, 2016, demonetisation was effected through three legal instruments:

1. The Ministry of Finance (MoF) issued a Gazette Notification (MoF Notification 1) by which "banknotes of denominations of the existing series of the value of five hundred rupees and one thousand rupees" ceased to be legal tender with effect from November 9, 2016.
2. MoF issued another Gazette notification (MoF Notification 2) by which it specified the denomination of the new 2000 rupee note.
3. RBI issued a notification mentioning that a new series of banknotes called Mahatma Gandhi (New) Series having different size and design will be issued. RBI also laid down a plan of action including the process for exchanging the old banknotes with new ones. MoF Notification 1 mentions that the exchange of the old banknotes with the new notes will be allowed till December 30, 2016.

Both MoF and RBI issued subsequent notifications to clarify and adjust for additional circumstances. However, unlike the methods adopted in 1946 and 1978, the 2016 demonetisation is not backed by a Presidential Ordinance or Act of Parliament. Therefore, the 2016 demonetisation cannot be challenged on the ground of temporary nature of an Ordinance. Further, since the Madras High Court has upheld the constitutionality of MoF Notification 1, let's assume that the right to property challenge cannot be taken anymore. Therefore, the only legal question that still remains unresolved is: whether RBI's statutory obligation to exchange old notes with new ones continues?

### RBI's statutory obligation

RBI's liability continues even for cancelled legal tender: RBI banknotes are issued by RBI's Issue Department, which is separate and wholly distinct from the Banking Department. According to section 34 of the RBI Act:

Liability of Issue Department = Total amount of currency notes of Government of India + banknotes for the time being in circulation

MoF Notification 1 took away the legal tender status of Rs. 500 and Rs. 1000 bank notes. However, as on date, there is no legal prohibition on their circulation. Legally speaking, they can be presumed to be out of circulation only if there is a legal prohibition on their transfer or receipt. For instance, in 1946 and 1978, the Ordinances and the Parlimanentary Act specifically prohibited the transfer or receipt of banknotes which had ceased to be legal tender. In 2016, this has not yet been done. Neither can such prohibition be imposed through a notification under section 24 or 26 of the RBI Act.

Therefore, the Rs 500 and 1000 notes that have ceased to be legal tender can still legally be in circulation in India. Following the Delhi High Court's decision in Bimladevi v. Union of India (1982), they will continue to form part of the liability of RBI's Issue Department till their transfer or receipt is prohibited by an Ordinance or Parliamentary law.

RBI's obligation to exchange continues: Under section 39 of the RBI Act, RBI is under a statutory obligation to exchange banknotes with other legal tender. RBI cannot refuse to exchange the old Rs. 500 and 1000 with new legal tender based on a notification under section 26(2). An Ordinance or Parliamentary Act is necessary to specifically override this statutory duty of RBI. For instance, section 6 of the 1946 Ordinance and section 7 of the 1978 Act specifically mentioned that notwithstanding anything contained in the RBI Act exchange of notes held by persons (other than banks) will stand restricted after a certain date. In absence of such a provision in an Ordinance or Parliamentary law, RBI's obligation to exchange notes under section 39 of RBI Act will continue based on the Calcutta High Court's judgement in Dominion of India v. Manindra Land And Building Corporation Ltd. (1952) as discussed above. Further, to be constitutionally valid, the Ordinance or Parliamentary Act must provide for a reasonable mechanism to exchange the old notes with new legal tender. This does not prohibit imposition of a hard deadline for such exchange.

### Conclusion

The current demonetisation move is not legally fool-proof. To be legally ring-fenced, an Act of the Parliament is needed, although a Presidential Ordinance can serve the purpose in the interim. The Parliamentary Act must have at least three features:

1. It must prohibit transfer or receipt of the banknotes that have ceased to be legal tender, so that these do not reflect as a liability on the Issue Department of the RBI.
2. It must generally override any conflicting provision in the RBI Act, especially section 39.
3. It must provide a reasonable mechanism and time frame within which the old banknotes can be exchanged with new legal tender.

In the absence of such a law, RBI's obligation to exchange the old banknotes for new banknotes subsists irrespective of any timeline mentioned in any notification. The RBI Governor's signed
promise on every note to pay the bearer will have to be honoured till such a law is passed. This answers Question 2.

It will be interesting to see if the Government considers using the money bill route to legislate on this.

Pratik Datta is a researcher at the National Institute of Public Finance and Policy. Rajeswari Sengupta is a researcher at the Indira Gandhi Institute of Development Research.

## Wednesday, November 30, 2016

### Intrusive detail in the rules associated with de-monetisation

by Radhika Pandey and Bhargavi Zaveri.

After the demonetisation exercise announced on 8th November, the Government and RBI have been changing the rules relating to withdrawal, exchange and use of the demonetised currency on an almost daily basis.

• 13th November: The limits for exchange of cash, daily and weekly withdrawal limits were increased
• 14th November: The cash withdrawal limits for current account holders were increased
• 21st November: The withdrawal limits for expenses related to weddings scheduled before 30th December were increased.

The frequent changes in rules have raised several rule of law concerns relating to the manner in which the Central Government and the Reserve Bank of India are implementing the demonetisation measure. The RBI circular of 28th November makes some more changes by relaxing the withdrawal limits. It links the relaxation to the amount of current-legal tender cash that has been deposited in the bank account since 9th November. We argue that the linkage between relaxation of withdrawal limits and deposits of current legal tender money is flawed, the circular is vague, it overburdens banks and depositors and adds to the prevailing uncertainty on withdrawal procedures.

### Linking withdrawal to deposit of current legal tender

The RBI circular of 28th November ostensibly relaxes the withdrawal limits for cash from banks. However, it allows such relaxation only to the extent an equivalent amount was deposited, by the person seeking the withdrawal, in current legal tender. This means that if since 9th November, you have deposited Rs. 10,000 in your bank account in 6 notes of Rs. 1,000 and 80 notes of Rs. 50, you will be entitled to a relaxation of only Rs. 4,000 over and above the existing withdrawal
limits, since notes of 1,000 have been declared illegal tender. This is problematic.

Linking relaxation to deposit of current legal tender is flawed. In a circular issued on 14th November, banks were asked to keep track of depositor-wise information on the amount of deposit made in demonetised notes and the amount of deposits made in current legal tender notes. It is reasonable to presume that people who have had current legal tender (namely, currency notes in denominations other than the demonetised Rs. 500 and Rs. 1000 notes) in the last one month are not likely to have deposited the relatively scarce commodity back in their bank accounts. Hence, it is not clear who are the intended beneficiaries of this relaxation. Second, there is no rationale for linking relaxation to the amount deposited in current legal tender. There can be various principles on the basis of which a framework may be formulated for a staggered relaxation of withdrawal limits. For instance, the relaxation of limits may be need-based or based on the past usage of cash. However, there is no link between the deposit that a person made and the extent to which her withdrawal limit may be relaxed.

The circular is ambiguous on its objective as well as what it asks of banks and persons seeking to withdraw cash. At the outset, it says: "It has been reported that certain depositors are hesitating to deposit their monies into bank accounts in view of the current limits on cash withdrawals from accounts". This appears to convey that the objective of the circular is to encourage people to deposit the cash held by them in their bank accounts. It then says:"As it is impeding active circulation of currency notes (emphasis supplied), it has been decided, on careful consideration, to allow withdrawals of deposits made in current legal tender notes on or after November 29, 2016 beyond the current limits; preferably, available higher denominations bank notes of Rs 2000 and Rs 500 are to be issued for such withdrawals."

This wording raises numerous questions:

• Is the objective of the relaxation to encourage people to deposit their cash freely without an apprehension that they will be restricted from withdrawing it? If yes, it is unclear how limiting the relaxation on withdrawals to the money which has been deposited as current legal tender, will nudge people to deposit more cash. Or, is the objective of the relaxation to allow more legal tender to be circulated in the economy (as indicated in the emphasised language in the second paragraph of the circular)? Or, is it both?
• Does it incentivise people to deposit legal tender
money? Since legal tender is a scarce commodity, it is unclear why people will waste man-hours standing in queues to first deposit money and then stand in queue to withdraw? A related question is does it discourage people from hoarding cash? The answer is debatable. With frequent policy changes, people are uncertain of the next policy move. The uncertainty associated with frequent policy changes induce households to hoard and not spend whatever little cash they have at their disposal. A more predictable policy regime would nudge people to dispense with hoarding and plan their spending in a much more rational manner.
• Will there be no limit on the withdrawal of cash deposits made in legal tender? Banks were instructed on 14th November to keep depositor-wise information of the currency denomination of the notes deposited. Surely, implementation of this measure by the banks would have taken time. In any case, were the banks maintaining such a record from 11th November to 14th November? In short, if there is a dispute between the bank and a depositor on the amount that she deposited in current legal tender, how does a person wishing to withdraw cash in excess of the existing limits, prove that she had deposited an equivalent amount in the current legal tender?
• What if the person proposing to withdraw cash, desires to withdraw cash in a denomination other than Rs. 2000 or Rs. 500? Will her request be denied or will she be persuaded to accept currency notes of Rs. 2000 or Rs. 500?

The relaxation increases the administrative burden of banks and increases the cost of withdrawal for the ultimate consumer. This circular relaxes the withdrawal limits only for those who have deposited money in current legal tender. This requires mapping deposits made by customers since 11th November with withdrawals made by bank customers since then. It would impose a burden on banks who are already reeling under the pressure of increased workload owing to exchange and deposit of old currency notes. Moreover, it would increase the cost and difficulties associated with withdrawals since presumably, the bank customer may require to submit some proof that she had deposited the amount that she seeks to withdraw in the current legal tender.

### The way forward

Newspaper reports indicate that this measure is aimed at discouraging people from hoarding current legal tender money and deposit it in their bank accounts. Hoarding is a symptom of the uncertainty that underlies the frequently changing rules on holding cash. People hoard because they are unsure whether they will be allowed to withdraw their cash once they deposit it in their bank accounts. The key to disincentivising the hoarding of current legal tender, therefore, lies in bringing about greater predictability in the rules for cash withdrawals.

The ideal situation would be that from a given date, say X, the limits on withdrawal are completely relaxed for all economic actors. While this inconveniences people relying on cash until X, it makes it possible to plan one's affairs to account for the scarcity of cash. A gradual relaxation of withdrawal limits is the only way forward.

The process for gradually relaxing withdrawal limits must be such that (a) the rule of law is followed in the relaxation process; and (b) people are able to plan their affairs in advance.

One approach could be to announce a calendar, scheduling the relaxation of withdrawal limits by banks. A tentative schedule of withdrawal relaxations will allow people to plan their affairs in advance, reduce the prevailing chaos and uncertainty resulting from multiple rule changes and conditionalities attached to withdrawals and exchanges of currency. More importantly, it will dispense with ad-hoc relaxations of the kind linked to deposits in current legal tender.

Looking into the future, this episode serves as a reminder to us about the problems of central planning. Once government embarks on intrusive involvement in society, there is a high likelihood of the authorities tying themselves into knots. RBI failures on this subject are reminiscent of RBI failures in other parts of finance where a detailed system of central planning is attempted. The problems of de-monetisation are not so much about the weaknesses of implementation as about the infeasibility of bureaucratic intervention in the working of society.

Radhika Pandey is a researcher at the National Institute for Public Finance and Policy. Bhargavi Zaveri is a researcher at the Indira Gandhi Institute for Development Research.

## Monday, November 28, 2016

How to make digital payments work by Ajay Shah in Business Standard, November 28, 2016.

Post-demonetisation, police have made big cash seizures – without the power to do so under law by Prashant Reddy in Scroll.in, November 28, 2016.

Ten ways to save demonetisation and stop the economy from choking by Gurcharan Das in The Economic Times, November 27, 2016.

SSC Journal Club: Expert Prediction Of Experiments by Scott Alexander in Slate Star Codex, November 27, 2016.

It’'s permanent revolution by Pratap Bhanu Mehta in The Indian Express, November 26, 2016.

Inside a Moneymaking Machine Like No Other by Katherine Burton in Bloomberg Markets, November 25, 2016.

Demonetisation Alone Can'’t Turn Agricultural Markets Cashless by Nidhi Aggrawal and Sudha Narayanan in The Wire, November 25, 2016.

Mammaries of the Socialist Raj by Shekhar Gupta in Business Standard, November 25, 2016.

A Society Can’t Be Served By Intention Alone by Somasekhar Sundaresan in Wordpress, November 24, 2016.

State Of The Economy by Ila Patnaik in Rajya Sabha TV, November 23, 2016.

A flawed policy: The real problem with demonetisation is not just in implementation by Suyash Rai in Scroll.in, November 22, 2016.

CMIE estimation of the direct costs associated with de-monetisation in the 1st 50 days: Banks to bear an estimated cost of Rs.351 billion for demonetisation, Cost of queues to exchange currency is an estimated Rs.150 billion, Demonetisation to cost Rs.168 billion to RBI and Government, Enterprise to pay biggest price for demonetisation Transaction cost of demonetisation estimated at Rs.1.28 trillion, November 21, 2016.

Quit Social Media. Your Career May Depend on It by Cal Newport in The New York Times, November 19, 2016.

Memo from Winston Churchill on brevity: It speaks, Day 19 of 30 days by Narelle Hanratty in Anicca, March 11, 2016.

## Friday, November 25, 2016

### Problematic terms in the demonetisation debate

by Anirudh Burman.

The Government's move to demonetise Rs. 500 and Rs. 1000 notes, and place restrictions on withdrawals, exchanges and deposits has attracted both appreciation and criticism. This piece analyses the framework of this discourse and its implications for the economy and society. Terms like "demonetisation", "corruption", "inconvenience and hardship", "implementation" form the basis of this discourse. Interestingly, most of these terms have originated from the Government itself. This piece argues that by confining ourselves to these terms, we fail to grasp the true nature and impact of this measure.

### The economic context

The Indian government's move to withdraw the legal tender status of Rs. 500 and Rs. 1000 notes has had widespread effects on the economy. Holding these beyond a certain notified date will be
illegal. Those left with these notes after December 31 will lose their wealth by a corresponding amount. There are daily reports of the plight of urban daily wage labourers, farmers and those in unbanked areas.

The economic impact of this measure is being contested. A great piece by my colleague Suyash Rai argues that the costs of imposing this measure far outweigh the benefits are likely to affect the poor and under-banked areas disproportionately and may have a modest impact on corruption at best. Others have played down the likely impact on the poor and rural areas. They have supported the demonetisation as a courageous and bold step towards a larger effort at wiping out endemic corruption and black money.

What is already safe to assert is that for better or for worse, there has been large-scale disruption within the economy. Print and electronic media, social media, daily conversations are consumed with conversations around the principle and implementation of demonetisation, and around issues of corruption and black money. Yet, most of this discourse follows a predefined framework, using terms and nomenclatures propagated by the Government. The framework of this discourse is problematic, and this framework itself may have deleterious effects on our society.

### Problematic term: "Demonetisation"

Characterising the government's move as "demonetisation" is the most problematic fallacy of the current discursive framework. In this case, the Central Government has said that the RBI will refuse to honour its promise to provide legal backing to Rs. 500 and Rs. 1000 currency notes. They will effectively refuse to honour the property rights of those holding them. Every time the RBI issues a currency note, it adds a liability to its balance sheet. By refusing to honour these notes as legal tender, the RBI will extinguish its liability towards persons holding them, in effect enriching itself. In addition, substantial restrictions have been placed on exchanging old notes for new, withdrawal and exchange of money. This is a substantial interference in the rights of people from accessing their own money. This is expropriation, not demonetisation.

In its broadest sense, expropriation refers to a taking of certain items or goods by the government by refusing to honour the property rights of those holding such items or goods. Bank nationalisation was an act of expropriation. The Indian government refused to honour the property rights of the owners of banks and transferred the ownership of the banks to itself.

Land acquisition is an act of expropriation.  The government expropriates the property rights of individuals. Land reforms undertaken in the 1940s and 1950s were acts of expropriation where property held by zamindars was transferred to the states by virtue of laws passed by them.

The Vodafone tax demand by the Indian government has been alleged to be an expropriatory action as Vodafone's income is being expropriated by imposing an allegedly unfair tax on it. Expropriation need not be an absolute taking or extinguishment of property rights in all cases.

Even a high degree of restriction or interference with property rights has been held to be expropriatory in many jurisdictions worldwide. Therefore, the Government and RBI's decision to (a) withdraw legal tender status, and (b) impose severe restrictions on withdrawals from one's own account is definitely an act of expropriation.

This act of expropriation is singular, given the nature of the expropriation and the views of the political party in power. Two of its cabinet ministers favoured a debate early last year on whether the word socialist should remain in the Preamble to the Indian Constitution and its ally the Shiv Sena demanded the removal of the word (link here)! This same Government is now justifying this expropriatory act as a moral imperative.

The nature of the expropriation is much more problematic. There are at least three ways in which this expropriation is remarkable:

1. In most cases, property rights of certain defined individuals or classes are expropriated. The owners of banks were identifiable individuals, and so were the zamindars who were expropriated when land reform laws were passed. In this case, it is not so. Property rights across the entire economy are being expropriated without distinction. At the same time, there is no single identifiable person who is being expropriated. This is likely to have societal consequences I will elaborate later.
2. Governments usually expropriate rights, or assets - like wealth, mineral resources, land, intellectual property (through compulsory licensing). In this case, the medium of exchange in society is asset being expropriated. This is an expropriation of cash, not wealth. This is singular in the annals of expropriatory actions by governments worldwide. Many governments have demonetised currencies to combat hyperinflation, but no one has withdrawn legal tender status on currency notes in times of normalcy, and imposed restrictions on an individual's ability to hold cash at the same time. In an economy that is almost completely cash driven, and where most households hold Rs. 500 and Rs. 1000 notes as means of exchange for sustenance, this is bound to have serious repercussions.
Money is not just a medium of exchange and a store of value, it is also, as has been argued, a source of social prestige and psychological security. In a cash-based economy like ours, people primarily derive social capital and psychological security from money in the form of cash. This expropriatory measure has therefore arguably extinguished or imperiled the social prestige and psychological security of those who relied on cash money to provide these for them.
3. Governments usually expropriate the rich to redistribute to the poor (at least ostensibly) or to create benefits for the public good (roads, highways, etc). Bank nationalisation expropriated the rich bank owners so that Indira Gandhi could use banks as agents of poverty reduction. Land reforms were done to expropriate zamindars and redistribute land to the poor. In other countries, governments expropriate owners of oil fields and mineral deposits so that the government can channel the benefits from such resources for the public good. Since this expropriation is economy-wide, everyone's medium of exchange is being confiscated/ restricted regardless of whether they are rich or poor. However, the main brunt of the expropriatory action is on the poor. There are two main ideas being talked about with regard to what the government might do with the windfall in order to redistribute wealth to the poor. To clarify, neither the Government nor the RBI have stated or clarified on what they intend to do, and what legislative changes will need to be made. It is however worthwhile to discuss these as the two broad ideas that are being discussed -
1. The government may improve its fiscal situation and use the fiscal space to provide income tax relief/ loan waivers. The poor are not going to benefit from income tax relief since only 4 percent of India's population pays income tax. The Sixth Economic Census of the CSO (March 2016) finds that only 2.3 percent of non-agricultural establishments received financial assistance from financial institutions. This number is likely to be the same or even lower for agricultural establishments. Loan waivers are therefore going to have minuscule impact, and benefit only those who are well-off enough to access the formal financial system.
2. The government may, through some legislative jugglery, recapitalise banks and kick-start lending. Again, the gains are going to accrue mostly to the rich and the middle class. It is debatable as to how the unbanked and expropriated 40 percent would reap the benefits of any bank-led redistributive measure since 40 percent of the country is unbanked (Census 2011).

This is therefore, a unique expropriatory measure that expropriates from everyone in society to benefit those who suffer the least "inconvenience" from the expropriation (more on this later).
Discussing this step as an expropriatory measure brings to the fore legal protections and requirements that are concomitant with expropriation: what is the legal authority for taking away the
property of individuals? Is compensation due to those who have been expropriated and if yes, in what form? What due process is applicable to expropriatory measures taken by the Government? Coining this expropriation demonetisation is putting lipstick on a pig in its truest sense.

### Problematic term: "Corruption"

Equally problematic is the way this expropriatory action has re-defined the "corrupt" and "corruption". All preceding actions against corruption taken by the Indian State in the past have been against those who have either evaded taxes or earned money by committing illegal acts. The issue was that certain people either evaded taxes or did something they were not supposed to, and such people had to be identified and punished. The voluntary disclosure scheme followed this overarching principle by encouraging people who did not pay taxes to come forward. The same principle is at play in the issue over identifying people who have stashed their illegal money abroad, and in the identification and prosecution of officials violating the Prevention of Corruption Act.

This expropriatory measure has the potential to re-define how people think about the corrupt and corruption. For one, the focus is now on confiscating corrupt wealth and black money. Identifying the corrupt and identifying individual acts of corruption has taken a backstage. Expropriation itself has become a mode of punishment. It is being suggestively implied that society has a chance to start again with a clean slate if black money is wiped out. The complete failure of the state to act against corruption is being used as an excuse to infuse society with a new kind of morality.

Second, corruption has now become a crime without a perpetrator. Multiple people I have talked to situate themselves as victims of corruption. A landlord who has built an illegal flat does
not give his tenant a lease-deed and accepts payments only in cash told me he was proud the Prime Minister had taken this step on behalf of honest people like him. An auto-wallah who confessed to driving without a permit and did not agree to go by meter railed against the corrupt during the duration of my journey. An Uber-driver praised the expropriation repeatedly while he ferried me. Close to the end of the ride he nonchalantly told me he had to drive carefully since the police had impounded his license the previous day. While these anecdotes hardly constitute statistical evidence, they are indicative of the fact that people go to great lengths to justify their actions as moral and honest.

However, the logic goes, everyone else must be corrupt if corruption is endemic enough to justify this kind of measure. This discourse is elevating the widespread cynicism and hatred against politicians, bureaucrats, the police, big business, small business and the media. Everyone feels like a victim and everyone else is suspect. But no one is a perpetrator or an agent. Everyone wants to sock it to the rich and the corrupt though no one knows who they are. So it is acceptable to take some punches yourself if the corrupt suffer in the process. The Government is at once elevating the pitch for shared sacrifice while also (most probably and hopefully, unintentionally) exacerbating the conditions for social and institutional distrust. Issues of class envy and class conflict are already coming to the fore and may get further magnified in the future.

This, in turn, is likely to create a collective psyche where no individual or institution can be trusted. No one is deserving of empathy since their corruption might be the cause of your suffering. This is happening even though the Government is at pains to explain that this will be one among many previous and future steps against corruption. By re-framing corruption as a crime without an agent through this singular action, the Government has perhaps unwittingly created the conditions in which the nature of discourse regarding solving corruption in society changes permanently.

This is a simple expropriation at its core. The object and effect of this measure are predominantly expropriatory. The confiscation of black money is an incidental benefit by design. The rhetoric of sweeping up black money and the design of the expropriatory measure do not match up to each other.

### Problematic terms: "Inconvenience"

It is inconvenient to have to switch to a mobile wallet and stand in an ATM queue for 2-3 hours once a week. Many people I have spoken to are ready to suffer this inconvenience if it helps achieve the stated objective of finishing off black money in the economy. When individuals who depend on their daily wage to feed themselves and their families are laid off, this cannot be called an inconvenience. The tribulations of agricultural workers and small entrepreneurs cannot be called an inconvenience if their enterprise fails due to the lack of liquid cash. Sectors of the economy that function largely in cash are suffering disproportionately compared to those with access to plastic money and mobile wallets. There is an attempt to normalise and standardise the way the effects of this expropriation are to be thought about by using this one word to describe the depth and diversity of suffering within the economy.

There is a breadth of literature on the impact of income shocks on those who are at the lower end of the poverty line. Income shocks push many just above the poverty line back into poverty. They also push many into debt, since their savings are not sufficient to sustain themselves. Small incidents like an unanticipated illness have an outsized impact on their long-term well-being and potential for growth. The current actions of the Government have administered just such an income shock on the poorest.

The Government should have taken much more aggressive measures to protect the worst affected economic classes in society, but calling this suffering an inconvenience allows it to paper over this failure. Had the Government instead defined the consequences of this measure as a "scarcity" of currency, corresponding actions may have been discussed, and some implemented. Government actions and popular discourse during times of scarcity are motivated by a desire to ensure everyone has adequate rations to sustain themselves.

Scarcity creates its own social dynamics. It creates new intermediaries in the market - when food is rationed, black marketeers emerge to supply food at above-market prices. After this expropriation, intermediaries are delivering white money for black for a commission. The war against corruption is creating new forms of corruption.

Mobile applications with horrifying names like "Book my chotu" are advertising hired help who can go stand in queues for those who can afford it. Most troublingly, scarcity changes relationships in society by creating new power dynamics. Hitherto bankers were service providers. Now they are agents of rationing. They have asymmetric power compared to those standing in the queues before them. It is a credit to them that they are still providing services under conditions of extreme difficulty. On the other hand, like any agent of rationing, they are now exposed to mob fury and mob violence. The customer has now become a beggar. His/her money is locked up in a bank. The psychological security gained from holding money that I alluded to earlier has vanished. Whereas earlier he or she could demand service, now they pray they get to exchange\withdraw money, and can suffer at the hands of a capricious banker.

### Conclusion

Some have argued that even if the Government wanted to take this step, it could have been timed better. But what is a good time for extinguishing property rights? Any time is equally good and equally bad. Others have argued that the step has been implemented badly. But expropriatory actions are judged first and foremost by the validity of the expropriation itself. We have been too quick to assume the validity of this measure and debate its implementation. As long as the terms of the discourse are set by those who introduced the measure, we will also be confined to their predefined moral straitjacket of honesty versus corruption, sacrifice versus timidity and sincerity versus venality. Empathy will be a casualty.

The Government has framed this step against corruption as a moral question. Should we not ask a moral question of the Government: Is it ethical for any State to expropriate the predominant means of exchange from everyone in society, especially in a poor cash-dependent economy?

The author is a researcher at the National Institute for Public Finance and Policy.