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Advantages and Disadvantages of Demonetization policy


Demonetization is an economic term with which economists and students of economics were only familiar with in broader sense prior to 8th Nov, 2016, the date honourable Prime Minister of India scrapped the legal tender status of two biggest currency notes of Rs 500 and Rs 1000. Though in middle and senior secondary education most of the central and state education board has described demonetization more or less in there syllabus as a measure to curb black money the majority of Indians were not knower of the word "demonetization" which has become, in my view, the word of the year for India at least if not the world.

The measure was taken by the honourable prime minister of India to curb the menace of black money and counterfeit money. The step taken by the government has received worldwide attention and everyone whether he is a common man or an economist have been giving their views as far as its advantages and disadvantages are concerned.

At positive side the step taken by the honourable prime minister will have wide spread positive impact on Indian Economy which is today world's third largest country based on purchasing power parity and 9th largest in nominal term. It is assumed that around $400 - $500 of India's wealth is in the form of black money or in more economic term as unaccounted wealth either in the form of cash in India or stashed abroad in foreign banks to avoid taxes. Though there will be no effect on the money stashed abroad through this action the unaccounted cash available inside the country generally used in illegal activity like Terrorism, Bribery, etc. will either come in formal banking system to increase the appetite of Indian Economy or will become obsolete paving way for RBI to issue fresh currency of same value and bring it into the system which do not come through the action of demonetization.

Black money in the form of cash are either ill-gotten money or the earning on which tax has not been paid. The step will enforce those people who have this kind of money to either bring the money into the system and declare the earning sources and pay the taxes which will considerably increase the coffer of government which can be used for various social sector development which already has been announced by the government that the entire amount earned from the penalty and taxes will be used for "Garib Kalyan" or let the entire undeclared earning become valueless.

The drive will also change the spending habits of Indian citizens who prefer cash transaction the most. Cash to GDP ratio of India is one of the highest (12%) in world and most of transaction (above 90%) are done in cash when most of the economies are turning towards cashless transactions and many countries like UK has achieved almost 100% cashless economy. People have been forced to use digital method of transaction which can turn into general habit considering various advantages of cashless transaction which in turn will curb the future black money as the cash transaction is main culprit of generation of black economy. Digital payment methods are also traceable and tax theft is almost impossible in this way of transaction.

It is well accepted the decision has been taken with the intention of removing various ills from Indian economic system it also has various side effects in short terms for India. More than 85% of Indian currency were in the form of Rs 500 and Rs 1000 and sudden suspension of its status of legal tender has caused havoc in banking system. People not conversant with digital payment methods are finding it hard to do day to day work resulting into slowdown in informal sector of Economy. In villages the entire population are dependent of cash transaction and they are not able to purchase things from the old notes which have been demonetized and the small shopkeepers are finding it hard to go with.

Lack of purchasing power will also hamper the informal sector or in direct term the smaller manufacturers, artisans and farmers to invest which in turn will result into slowing down of Indian economy which is today the fastest growing economy.

Sometimes parallel economy is considered good for a country during recessions. In 2008 when the entire world was going through slow it is said that the money which were not the part of India's formal economy were used to sustain the Indian economy by investing it into Indian market through various measures, though it is not desirable in longer term as it encourage the malpractice during normal days and again encourage the tax theft and bribery.

- Mani Kant Jha