Earlier this month, Indian Prime Minister Narendra Modi eliminated the 500 and 1000 rupee denominations from the national currency. Modi's action was an attempt to cleanse India of its "shadow economy." India has historically been a highly cash-bound society, and these two notes comprise of 86% of all circulating currency. Modi's action is part of India's domestic battle against black money (i.e., illegal cash holdings) and unauthorized transactions. Since November 8th, Indians have been given 50 days to ready themselves as most of their currency holdings become "null and void."
The decision to eliminate the two highest-denomination rupee notes was met with mixed reactions. According to India's Ministry of Finance, demonetization aims to curb the "financing of terrorism and any other subversive activities," which potentially involves the abuse of fake currency. These activities are part of the notorious Indian shadow economy, which primarily powered through cash transactions, and is a primary inflation-driving force in India. Yet despite India's anti-corruption justifications, the decision to demonetize has many negative consequences. It can be dangerous for the "hundreds of thousands of ordinary [Indians]...who hold cash but not black money." The majority of India's poorest residents are unfamiliar with modern banking tools, and many increasingly fear that they will be trapped "in a bureaucratic net" by government officials, as a result of demonetization. More specifically, these residents worry they will be unable to figure out how to transfer their currency holdings into a bank account. Negative critics of demonetization worry about these social ramifications, and augur that the outcome may ultimately be simple economic contraction, resulting from a "sudden curtailment in the total money supply."
In theory, Modi's move to "burn" large amounts of currency is workable. It is a rational installment to the new Indian monetary policy regime, which targets inflation. Once money is burned, the Indian Reserve Bank can theoretically "fully offset this through what economists call 'open market operations.'" These include the purchasing of bonds, and injecting money into the markets. According to the justification for Modi's policy, the theoretical loser after demonetization is the person with illegal cash holdings which now must be "burned." After November 8, illegal cash lost its ability to pass undetected, as all 500 and 1000 rupee notes must be filtered through a bank, to be converted into the new bank notes. Therefore, illegal money holders will have their notes rejected by all banks. The Indian government hopes that there will be few long term effects, besides not incentivizing the accumulation of illegal money. They do acknowledge that there will be short-run "adjustment costs" as the domestic economy transitions.
For international market watchers, the dire possibilities ensuing from the demonetization of hard currency may be puzzling. Most Westerners already have the option of falling back on their bank accounts, debit, and credit cards, but this is not the case in India, where banking is still looked upon as a luxury service for the majority. Additionally, the majority of Indians are also beneath the poverty line, with many resorting to paper and coinage in their daily transactions. Statistically speaking, roughly 95% of all transactions taking place within India are made with cash. Cash is the only option for many Indians.
The clock is ticking. Indians have until the end of the business day this New Year's Eve to exchange or deposit the null rupees into financial institutions or post offices. Simultaneously, the government also "raised limits on cash withdrawals." Despite the government's rationale, many Indians are still dissatisfied. Riot warnings have been issued since Modi's announcement, and there is widespread confusion as many ordinary people are now forced to "wait in long lines outside financial institutions, simply to figure out what to do with their notes."
Social media is helping to bridge the various gaps in understanding. It is playing a role in dispelling conspiracy theories, and spreading information to the masses about the correct procedures to take when visiting banks. Digital banking companies are seizing their chance to capitalize off this new national development. Among these digital companies is the e-wallet firm Paytm, which has the ability to radically democratize financial transactions. Paytm is being used by everyone, including roadside stall-owners are also beginning to use it.
Several exceptional regions in India have been remarkably unaffected by demonetization. One of these is the "digital and cashless village" Akodara, because of its de facto system of standardized mobile banking. Another exception is Bengalaru, also known as India's Silicon Valley. Indian banks have encouraged citizens to embrace "internet and mobile banking" in the short term, in order to help reduce the sudden pressure on the remaining physical banknotes. The inevitable pressure is one of the reasons why critics are predicting an economic slowdown as an immediate aftermath of demonetization.
On the plus side, Modi's shift could potentially result in a more inclusive Indian economy. The Indian government envisions a nation where most people are looped into a digital banking system, and must abide by firm regulations. On the negative side, former chief economist of the World Bank Kaushik Basu claims that the "collateral damage" resulting from demonetization may actually "outstrip its benefits." As of November 26, 2016, roughly 70 people have been killed from complications stemming from the infrastructure switch. Other cynics claim that "people will simply begin to accumulate black money in the new currency as soon as that becomes available." These new banknotes are the new 2000 and 500 rupee notes, which have new security functions, shapes and designs.
By most accounts, it appears that the effects of India's demonetization are primarily restricted to India's domestic economic scene. So far, it is unclear as to how this will impact India's relationship with the world economy at large. There will be substantial national benefits to curtailing the Indian shadow economy and black currency, which are currently estimated to comprise of roughly 20% of India's total GDP. Because demonetization signifies a rapid and forced shifting of the Indian majority onto the digitalized banking system, India will also collect future global benefits once the vast majority of its population is on the banking grid.
